During the 1997–98 Asian financial crisis, when middle-income countries were hard hit by big capital outflows, there was an effort by China, Japan, Taiwan and other countries to put together an Asian Monetary Fund to offer balance of payments support. Washington vetoed the idea, insisting that all assistance had to go through the International Monetary Fund. The result was a mess, including an unnecessarily deep regional recession, as the IMF failed to act as a lender of last resort and then attached all kinds of harmful and unnecessary conditions to its lending.
But the world has changed a lot in the past 15 years. Last week the BRICS countries (Brazil, Russia, India, China and South Africa) decided to form the Contingent Reserve Arrangement (CRA) and the New Development Bank (NDB), and the United States will not have a veto this time. These new institutions could mark a turning point for the international financial system.
Western media coverage of these developments has been mostly dismissive, but that primarily reflects the concerns of Washington and its allies. They have had unchallenged sway over the decision-making institutions of global financial governance for 70 years, and the last thing they want to see is competition. But competition is exactly what the world needs here.
The IMF and the World Bank were created in 1944, when the United States was pretty much the only standing industrial power in the world. The institutions mirrored that unipolar reality. Today Washington still controls both institutions, with the subordinate partnership of a handful of rich allies; the same is true for the G-7, G-8 and G-20. In recent years, as the eurozone has become the recipient of most IMF lending, the European directors have, of course, been given the predominant voice on policies in this region, but it’s still the same group of countries in charge. And even in the World Trade Organization, which was formed in 1995 and has a different consensual process, the founding rules were written by the rich countries — and in this case, especially their corporations.
For decades there have been efforts to give the majority of the world’s nations a voice at the IMF and the World Bank, but progress has been glacial at best. The BRICS countries have more than 40 percent of the world’s population, and China is now the world’s largest economy, but they have almost no voice at either institution. To say that an alternative has been long overdue is an understatement.
The BRICS NDB has gotten the most attention, but the $100 billion currency reserve fund could prove a much bigger breakthrough. For most countries, one of the biggest constraints and sources of potential instability is the balance of payments. They must have enough dollars or other hard currency to finance imports and enough international reserves to insure against a panicked flight from their currency. Otherwise, their economies can fall into a crisis, a recession or other devastating economic imbalance. Most of the damage from the Asian financial crisis might have been prevented with timely balance of payments support.
But the harmful macroeconomic conditions attached to IMF lending have continued. Just look at Ukraine, where the economy is shrinking by 5 percent this year and the IMF is imposing austerity that will prolong and possibly deepen the recession. An examination of IMF policies during the global recession of 2009 showed that 31 of 41 countries with IMF agreements were subjected to pro-cyclical macroeconomic policies — that is, policies that could be expected to worsen an economic downturn or impede recovery. And although the IMF is only the junior partner in the troika, with the European Central Bank and European Commission, together they have dragged Europe through years of unnecessary recession and the collective punishment of mass unemployment, and that has hurt most of the global economy — including the BRICS and other developing countries.
The BRICS’ defection is part of a process that has been taking place over the past 15 years, in which middle-income countries have accumulated sufficient reserves to vote with their feet and break out of the IMF’s orbit. Although most economists and most of the major media have ignored it, the IMF’s loss of influence over economic policy in most middle-income countries is one of the most important developments in the international financial system in the past half-century. It has almost certainly contributed to the rebound of economic growth in most developing countries over the past decade. It is also, not coincidentally, a huge loss of influence for the U.S. government, which has traditionally used the IMF’s creditors’ cartel for its own imperial purposes.
The BRICS’ new CRA has the potential to break the pattern not only of U.S.-EU global dominance but also of the harmful conditions typically attached to balance of payments support. It could prove very important in the next few years: A lot of money has poured into emerging market government bonds since the Fed set short-term interest rates at zero more than five years ago. A lot of it could up and leave when the Fed decides to raise interest rates here. Such rate hikes were a major cause of the Mexican peso crisis in 1995 and hit other countries such as Brazil and Argentina a few years later. The BRICS countries have indicated that they are open to having other countries join. China has about $4 trillion in reserves, so it has the potential to contribute vastly more and probably still come out ahead, as most of its reserves will likely be losing money in U.S. Treasury bonds. There’s no telling how soon this new fund will be up and running or how big or inclusive it will grow to be. But the upside potential for the world economy is very big.