It was the announcement that saved April’s G20 summit in London. The world’s richest nations would provide a trillion dollars to save the globe. More specifically, the trillion would go to the emerging markets hard-hit by the global slump. Even better, this enormous sum would be provided in the form of loans and credits without the usual strings attached.
The amount was unprecedented. Never before had so massive a sum been promised to the most vulnerable victims of the crisis and the self-congratulation was entirely justified. “Together with the measures we have each taken nationally, this constitutes a global plan for recovery on an unprecedented scale,” said the G20 statement. The money would be stumped up by individual nations roughly according to the size of their respective economies, and paid through existing international financial institutions. At the head of this relief column would be the IMF.
It was, added the statement without a shred of exaggeration, “the largest fiscal and monetary stimulus and the most comprehensive support programme for the financial sector in modern times.” Although the G20 didn’t make the comparison, the promised capital sum is analogous to the US-inspired Marshall Plan that put Europe and Britain back on its feet after the second world war.
There were no dissenters to the statement, not officially anyway. A G20 country doesn’t break ranks without good reason. However it’s believed that the heads of state of some nations were lukewarm, particularly the savings-rich Asian ones, and the most lukewarm was probably China for three good reasons.
The first is that China did not turn up in London to help save the world; it came to promote its current idée fixe, the progressive abandonment of the greenback as the world’s reserve currency in favour of an alternative like the Single Drawing Rights that already fulfil the role of a proxy for the dollar in certain kinds of sovereign transactions. China’s motivation is largely because it holds somewhere north of a trillion dollars of their own in T-bills and other proxies for the greenback. Not unreasonably, they are worried that America’s problems may devalue this gigantic storehouse.
As premier Wen Jiabao remarked around that time, “we have lent a huge amount of money to the United States” and, “to be honest, I am a little worried”.
The second is that the Chinese government and Zhou Xiaochuan, governor of the People’s Bank of China, do not see why they should have to tidy up after the US. As they’ve put on record, both are dismayed by American excesses in the last few years, notably president Bush’s obliteration of the surpluses accumulated so conscientiously – and at some political cost – by predecessor Bill Clinton as well as by the capacity of US citizens to live beyond their means. In a recent speech Dr Zhou went out of his way to criticise America for its “lax lending standards”, “excessive leverage”, and “frivolous development of derivative products”. In central banker-speak, this is tough talking, especially in reference to the parent of the reserve currency.
And the third is that China is engaged in its own massive internal stimulus. Although its economy has suffered little more than a flesh wound from the crisis, the government of premier Wen Jiabao has pledged an injection of capital second only to that of the US, in part to keep the Asia-Pacific pot boiling. All the signs coming from Beijing suggest this should be good enough.
A billion reasons to forget
Meantime where’s this globe-saving trillion? Well, so far it hasn’t happened. Half a year after it was promised, the G20’s gift to the world is just a trickle. All we have is a vague promise from the G20’s finance ministers at their September summit that it is “close to completing the delivery of $850bn of additional resources agreed in April.” There’s no deadline, not even an indicative one. The rest of the September statement amounted to a reiteration of the April announcement: “In the period ahead we need to focus on providing resources to low income countries to support structural reforms and infrastructure development etc, etc.”
As it happens, it’s the multilateral development banks (the MDBs) such as the European Bank for Reconstruction and Development that have led the charge so far. Boosted by $60bn from the World Bank and the promise of more to come, they will lend over $110bn this year plus a further $200bn between now and 2011. More importantly, the funds are being dispensed almost on a daily basis.
They’ve done so by applying urgency to the crisis. The big five – International Bank for Reconstruction and Development, EBRD, African Development Bank, Asia Development Bank and Inter-American Development Bank – have substantially leveraged their capital to provide deeper funds to oil the economies of their respective regions. Loan conditions have been softened and performance criteria re-tuned for the emergency. Among a welter of exciting new measures, the MDBs are drawing private capital out of their regional economies by providing guarantees, bond insurance, bridging finance and other inducements to add to the general pool of liquidity.
These banks aren’t a big part of the trillion-dollar solution but they are, as a spokesman told World Finance, “part of the G20 focus”. In short, the provision of urgent liquidity.
Figures to fit the bill
The money is certainly needed. When the global leaders gathered in London, the crisis was enveloping their nations. As IMF managing director Dominique Strauss-Kahn observed at the time, there were fears of a “more severe contraction in global economic activity and even greater and more prolonged financial strains than currently envisaged.” In short, a cataclysm was on the cards.
Entire nations were being starved of credit, unemployment was spiralling, banks were being furiously re-capitalised, markets were in free-fall, giant manufacturing companies such as GM and Chrysler were being rescued. International investors had lined their pockets with fish hooks with unfortunate consequences. Cross-border investment was plummeting, especially to emerging markets, and capital markets in even the big, advanced economies had slowed right down.
The size of the decline – rather, collapse – across half of the world was shocking. According to IMF figures, net private capital inflows into emerging markets were down to $122bn in 2008, pretty much a fifth of what they were in 2007. Bank lending to those nations had gone into reverse. It was painfully obvious that theories about de-coupling – namely, that developing economies would not be affected too badly or even at all by the problems of the western world – were hopelessly optimistic.
Take just Africa. Right now, it’s suffering from falls in practically everything that matters – in global demand for its products, in remittances, in capital flows and, increasingly, in donor aid. “It was said a year ago that African countries were not so linked to the financial system in the West that the effect of the crisis would not be so important,” summarises Dominique Strauss-Kahn, managing director of the IMF. “This was wrong. With some delay, they are now being hit by the crisis.”
As US Treasury Secretary Tim Geithner said shortly afterwards, the world was going through the sharpest decline since the end of the Second World War. “Today’s crisis is unlike any we have experienced for seven decades,” he added for good measure. “The balance-of-payments crises of the 1950s and 1960s, the oil crisis of the 1970s, the debt crisis of the 1980s, or the Asian financial crisis of the 1990s all pale by comparison.”
While all that is true, this is not an Asian financial crisis, as Dr Zhou and premier Wen have doubtless made clear behind closed doors. It’s a made-in-USA crisis, as indeed secretary Geithner has largely acknowledged, and yet the largely blameless, high-saving Asian nations have been drawn into it despite the fact that many millions of their citizens live in material conditions no better than those of the emerging markets deemed to be in need of rescue.
The reasons for Asian reluctance to rush into the trillion-dollar project are clear enough. Take just China, rapidly emerging as the region’s leader in place of Japan. In the latest top 1000 banks compiled by The Banker, China’s banks occupy the first three places measured by pre-tax profits as well as most of the top 25 places. Combined, the pre-tax profits of China’s banks come to $84.5bn. That’s $68bn more than second-ranked Japan, with USA and Britain nowhere.
Asian sovereign wealth funds tell a similar story. The ones established by the hard-saving as distinct from hard-spending nations are predictably in Asia.
The backbone of these bank profits and the liquidity of sovereign wealth funds is based on the peoples’ savings, poor as many of them are. And as Dr Zhou reminds us in so many words, it’s the saving nations that have virtue on their side. Chinese public debt per capita currently stands at a mere $649.52. And in the US? It’s $21,863.70 and rising rapidly. Within two years, per capita US debt will hit $32,307.
So we’ve got a gravitational shift taking place in banking and investment as well as in ship-building, car-manufacturing, electronic goods and whiteware among others. Like China, these nations are determined to preserve their financial sector’s essential integrity. Also like China, the wealthiest nations hold large deposits of American public debt and they are lined up behind Dr Zhou’s campaign.
Fearful of a deteriorating greenback, Asia’s leading central banker wants a “super-sovereign currency” that basically sidelines the dollar, very much like Keynes’ still-born bancor, and removes all the settlement uncertainty associated with a tarnished greenback. This is high-level geopolitics and the stakes are high.
In short, China will look after its own backyard, thank you.
However it’s not China that’s holding up the assembly of the trillion dollars. If a week is a long time in politics, six months is an eternity for developing nations sinking deeper into recession by the day. The IMF, which is front man for the world-saving trillion dollars, has not explained the delay in raising the money and distributing it, but reports suggest that the sticking-point lies in smaller European nations seeking concessions for stumping up their share of the kitty.
According to Andrew Tweedie, director of the IMF’s finance department, the fund-raising deals are going steadily, but appear to be well short of the assumptions made in April. Agreements are in place with Japan ($100bn), Canada ($10bn) and Norway ($4.5bn). EU member countries have committed some $100bn, but we’re nowhere near the promised amount. Although the G20 statement did not include any caveats about the availability of the full trillion-dollar stimulus, some countries have since told the IMF that they will only give “favourable consideration” to increasing their contributions while others have said they will only consider it, favourably or otherwise.
At this stage, the ambition of wrapping up the balance before the new year looks decidedly optimistic.
Elsewhere, things appear to be moving slowly. The important concessional loans to the poorest nations are still in the planning stage. And only about $50bn of a new wave of flexible loans are available now, roughly a tenth of the envisaged total pool. The $6bn contribution from IMF gold sales announced in April are far from being signed off and, anyway, a successful sale of the gold depends on the state of the market.
To the impartial observer, it very much looks as though the G20’s trillion-dollar statement caught the IMF by surprise.
As outlined last April, the deal is meant to go like this. As the main culprit for the crisis, the issuer of the reserve currency and the biggest economy, the US throws a quarter of the trillion dollars – $250bn – into the pot. The IMF raises “immediately” a further $250bn from a group of countries not including America in the form of temporary financing. These are short-term loans, in other words, from a coalition of 26 wealthy countries.
When that money is assembled, it will be deposited in a new mechanism known as a “new arrangement to borrow”, or NAB. Basically what your average commercial bank would call a flexible loan, an NAB is a borrower-friendly system that allows the IMF to extend credit to hard-pressed nations according to need – and their deserts. The nations have to demonstrate responsible economic management. And if the IMF wants to borrow in the market for the above purposes, it will be allowed to do so.
On top of this, there’s $100bn from the MDBs. Their capital comes from member countries but these banks, which are historically very conservatively financed along 50:50 capital and credit lines, usually raise funds through international bond issues on an open market.
Topping up these sums, the IMF distributes a further $250bn of Special Drawing Rights, the international settlement currency. Although only $100bn of this goes to emerging economies and the rest to other nations including the US, calculated according to the size of their contribution to the initial $500bn, the SDRs help the more beleaguered governments pay their foreign exchange bills through the sovereign settlement system. This is the only part of the package that appears to be going swimmingly.
The last £250bn is about trade. A short-term, two-year backstop for the private financing of imports and exports, it is to come from the G20 countries. Their motives are not entirely altruistic; all of them depend to varying degrees on selling and buying to developing economies.
And, all hands to the pump, the IMF has been told to distribute a further $6bn from the sale of some of its gold reserves. Originally, the proceeds from the yellow metal were intended for the fund’s own income but now they will go to low-income countries in the form of concessional financing.
Working trillions
But where is it all? Nobody’s saying another trillion is easy to find. It is, of course, additional to each countries’ own fiscal stimulus which, the IMF estimates, will by the end of 2010 hit a combined emergency total of $4trn. The US alone is working its way through a mere $800bn.
But the longer the money takes to flow, the more recipient countries must start to wonder whether perhaps the G20 and host prime minister Gordon Brown strong-armed some member nations over a hectic weekend to greenlight the magic figure, and then made the announcement on the fly. That is, before everybody had worked through the difficulties of raising another trillion dollars from hard-pressed finance ministers. Indeed some of these finance ministers have resigned in protest at the way the central banks are working the printing pressed overtime with the inevitable and alarming risks of devaluing entire sovereign currencies in the next few years.
Bureaucracy wins
The responsibility for getting out the trillion lies primarily with the IMF and is clearly a huge burden, almost certainly much bigger than it expected. Even before the April summit, it put its hand up to take the central role in gathering and dispersing the trillion with an adroit exhibition of central bank diplomacy.
Before the crisis, the future of the IMF in its existing form looked black. Bank of England governor Sir Mervyn King and others were agitating for a substantial overhaul of its highly bureaucratic structure.
To many, it seemed the IMF, as the unofficial parent of the multilateral development banks, had mislaid its brief. The MDBs were supposed to use their resources to fight poverty, boost productivity in agriculture, build and nurture the building blocks of economic growth, and channel efforts into creating greener economies. Yet according to frustrated central bankers, the governance structures of some of them, including the IMF, were so complicated and rigid that they simply weren’t doing their job for the developing world. Too many senior staff were selected on political rather than merit-based grounds.
But that was before Dominique Strauss-Kahn got the hot seat at the onset of the crisis, in November 2007, with a clear mandate to reform the institution. The preferred choice of France’s Nicolas Sarkozy who has managed to appoint Frenchmen into two of the most important positions in the crisis (the other is Jacque de Larosiere who heads up the body designing the post-crisis system of regulation across Europe), Strauss-Kahn is a professor of economics turned politician and he knows how to play the game. He served as finance minister in France when he helped guide the launch of the euro, arguably the most successful new currency of modern times. He knew all about the shortcomings of the IMF, having served on the board of governors in his capacity as finance minister. And as an economist, he can talk pretty much across the spectrum. His research fields are broad – the saving behaviour of households, public finance and social policy. Relatively young at 60, he could prove to be the man of the hour, or at least one of them.
It was no surprise therefore that, as the crisis wore on, the IMF became uncharacteristically activist. Painting a black and deteriorating picture of the global economy, IMF staff told a preliminary meeting of G20 deputies that “a decisive breakthrough” was overdue and conventional monetary easing in the form of freer credit and low official interest rates had failed to complete the job.
“Financial markets remain under heavy strain and systemic institutions are still perceived as fragile,” the IMF paper noted. “More aggressive and concerted policy actions are urgently needed to resolve the crisis and establish a durable turnaround in global activity.” In principle, what was needed was a big-picture, cross-border infusion of liquidity focused on the financial sector.
According to IMF insiders, Strauss-Kahn told staff in so many words to shred their old ways. He demanded what he called “conditionality” in lending programmes. That is, they had to be designed specifically for the problems at hand rather than reflecting the outdated, inflexible, pre-crisis rule book.
Nor has the managing director forgotten his research days when he studied the economics of social policy. Senior staff say he directed them to pay particular attention to social spending so that it reached the poor, elderly and unemployed. “You could say that our new programmes have a degree of social conditionality attached to them,” one reported.
Thus when the G20 announced the trillion-dollar stimulus, with the IMF in the lead role as officially the central institution of the global financial architecture, Strauss-Kahn was delighted, telling reporters that the huge increase in the institution’s resources would boost its firepower around the world.
Most people give the IMF high marks for turning itself around. “A major shift has occurred in IMF policy,” points out Philip Lane, professor of macroeconomics at Trinity College Dublin. In particular, he cites the flexible credit line (FCL) as an example. The FCL means loan money is now automatically available to qualifying member countries. All they need to show is a good track record in economic governance. “As such, the allocation of funds in part will be customer-driven”, said professor Lane in an interview with the Financial Times.
The rate’s not bad either. The price of drawing down an FCL varies according to size and lending period, but it is unlikely to exceed 2.9 percent in most cases, a rate any business would die for. Unsurprisingly, a queue is forming for these customer-driven loans.
These new facilities symbolise a genuine sea-change in IMF policy. Instead of the recipient country having to tick all the usual boxes every time it requests help, credit is now permanently available provided the country pursues sound economic principles. Heaven forbid, the IMF is getting streamlined.
Without this new facility, some countries would be in more trouble than they are. Mexico, for instance, has just signed up to a one-year, $47bn flexible credit line. It doesn’t have to repay the money for a reasonable period, somewhere between three and a quarter to five years. Furthermore the loan can be renewed on an unrestricted basis, subject of course to good behaviour, and the money can be used more or less as the government deems most urgent.
In similar ways the IMF is reinventing itself to keep the global economy more liquid. Perhaps most importantly for the long term future, the poorest countries are getting a better deal with shorter-term loans and emergency financing. All this of course reflects the explicit recognition that established trading countries depend on the emerging ones for their mutual benefit, and that the crisis is not of the latter’s making.
So the IMF is back in the game. According to Strauss-Kahn, the trillion-dollar boost is just the start of much better things. “You will see that it’s the beginning of increasing the role of the IMF, not only as a lender of last resort, not only as a forecaster, not only as an advisor in economic policy and its old traditional role, but also in providing liquidity to the world, which is the role finally and in the end, of a financial institution like ours.”
Adds professor Lane: “For the long term, an expanded role for the IMF and the Financial Stability Board in monitoring global financial risk may be helpful in avoiding future crises.”
While all that’s very true, the IMF’s obvious difficulties in cobbling the trillion dollars together clearly suggests that the G20 jumped the gun. It’s proving much harder to raise the amount than prime minister Brown thought, or was prepared to let on. Right now, some of that globe-saving trillion looks to be a way off.
