The IMF: cheerleader of the rich world’s governments

If its Tuesday this must be stimulus

Ronald Reagan’s observation that “a government bureau is the nearest thing to eternal life we’ll ever see on this earth” seems to apply to supra national bodies as well.

The collapse of the Soviet Union left NATO facing an existential crisis worthy of French cinema until Slobodan Milosevic came along. So it is with the International Monetary Fund.

Established as part of the Bretton Woods system of currency management in 1944, the IMF’s job was to lend money to countries which were having balance of payments issues; who couldn’t pay their bills in other words. With their dollar exchange rates fixed, paying the bills by inflating the money supply was only allowed in the extreme circumstances of devaluation as Britain had to do under the Labour governments of Clement Atlee in 1949 and Harold Wilson in 1967.

The demise of the Bretton Woods system in 1971 rendered the IMF purposeless. Floating exchange rates replaced fixed rates so, in theory, no country should have any trouble financing its borrowing; it could just print more money, the effects being felt in internal inflation and external devaluation with the exchange rate adjusting automatically to reflect the decline in the value of the newly debauched currency.

Milton Friedman, an advocate of floating exchange rates since at least 1950, held that floating exchange rates didn’t have to mean unstable exchange rates. In practice, removed from even the questionable discipline of the Bretton Woods system, central banks around the world cranked up the printing presses and debt crises became bound up with currency/inflation crises. The IMF’s role was much as before; covering cash strapped countries while they sorted themselves out as they had to do for Britain under the Labour government of James Callaghan in 1976.

In this not-so-new role the IMF has attracted much criticism. Nobel laureate Joseph Stiglitz, among many others, has argued that the IMF’s lending conditions, generally to balance budgets, protect the currency and free up markets, are counterproductive.

In truth a country with a debt problem will have to move towards budget balance and stabilise its currency at some stage. Critics would argue that the midst of a crisis is not the appropriate time but when countries don the IMF hair shirt they have generally reached a stage where their problems cannot be solved without tackling the fiscal and monetary problems at a fundamental level. The truth is that many of the countries it has helped would have been worse off if it hadn’t been for IMF assistance.

A more serious charge against the IMF is its inconsistency. In 1997 a clutch of South East Asian countries were hit by a currency crisis and the IMF stepped in with its standard prescription of fiscal and monetary tightening with the attendant economic pain. If this was a tough sell for domestic politicians, well, that was their problem.

But when the western economies hit trouble in 2007-2008 the IMF suddenly rediscovered its dusty old copy of Keynes’ ‘General Theory’. It enthusiastically backed stimulus spending in Britain, the United States and Europe. Western politicians were given a much easier sell than their Asian counterparts had been in 1997.

The effects of the tidal wave of stimulus unleashed in 2008-2009 were subject to rapidly diminishing returns. The accumulation of vast piles of debt produced nothing beyond the short term other than higher debt. The gruesome examples of Greece and Ireland saw ‘austerity’ replace ‘stimulus’ as the economic order of the day and, again, the IMF enthusiastically backed it in Britain, the United States and Europe.

Bad economic news abounds. In Britain the service sector and manufacturing sector are struggling. The Eurozone is struggling in the face of tottering banks and battles to reign in spending. The United States economy created no net jobs in August and unemployment is stuck above 9%. Stock markets around the world have been bumping downwards.

If a second dip does emerge from all this it will no doubt enter Keynesian folklore that ‘austerity’ was the culprit. It isn’t. Economies around the world have gorged on cheap credit and are now burdened with its flipside, debt, leaving a vast overhang to be painfully deleveraged away. Further, the period of cheap credit left behind a host of malinvestments; enterprises only viable in an environment of cheap credit. Government and central bank attempts to prop these up and bail them out, soaking up much needed capital, have only delayed the economy’s move to a more sustainable basis.

The IMF may have been taken in by this burgeoning Keynesian myth. This week saw a possible switch back to the policies 2008-2009 with Christine Lagarde, new head of the IMF, calling for renewed stimulus in Europe. Keynes is reputed to have said “When the facts change, I change my mind”. The facts haven’t changed but the IMF’s stance has, repeatedly.

Ludwig von Mises wrote that Keynes’ ‘General Theory’ was “an apology for the prevailing policies of governments”. Governments may have no need of Keynes. They have the IMF in its latest role, cheerleader of the rich world’s governments.

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