Good Governance in IMF member Countries

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Table of Contents

Introduction
What is Good Governance?
Transaction Exchange Control
Capital Movement across nations
Good Governance by avoiding Discrimination
Draw and Stand-by Arrangements
Conclusion

Introduction

International Monetary Fund was originally conceived with the following objectives:

This fund should promote international monetary cooperation between member countries.
The fund would ensure that the countries grow uniformly and there is an availability of funds to carry out infrastructure and essential projects.
This should enable the countries to maintain currency parity.
The fund will also provide member countries with special drawing rights.

The forming of the International Monetary Fund at the end of World War II when the major reforms in international monetary relations were put in place. It was realized that there is nothing like a ‘sovereign’ nation with a high degree of interdependence between them. The trade and the interdependency of the monetary situations brought the Bretton Woods System into place after World War II. Out of the numerous economical and political relations that plague the nation, there is no doubt that the monetary issues take the central place[1].

The host of problems faced by the developing nations is largely different from what is faced by the developed nations. This makes IMF which is an important lending agency to the developing countries make use of their leveraging mechanisms to ensure that the money spent in these countries works for the good of the country and there is a semblance of good governance. The Articles of Agreement of the IMF allows the organization to ensure that the member countries abide by the regulations of the organization.

In addition to this, the Articles of Agreement also empowers the IMF to implement ‘good governance in member countries to ensure that there is a corruption-free governing body. The Articles expect IMF to provide policy advice, financial support, and technical assistance to its member countries. These activities will be carried out by them by ensuring rule of law, improve the efficiency of operation of the government, increase accountability of their public sectors, and tackling corruption[2].

What is Good Governance?

International Monetary Fund was set up with the purpose of establishing an organization that would help nations to reduce unemployment and curb issues such as inflation as well as economic depressions. This can be achieved through what the Articles called Good Governance.

Good Governance according to the IMF means the following:

Good Governance stems from the need to have sustained growth. IMF believes that sustained growth can happen only when private sector confidence is maintained and only if the private sector is fully involved will there be any sustained growth in the country.
IMF will, therefore, insist that the country adopt such measures as those that will provide sustained growth to the country. Whether it is the investments in the private sector or otherwise, sustained growth can be achieved only if all the parties in the country work towards the same.

Good governance would reduce the extent of corruption in the country and would also bring about changes in the transparent operation of the government in the country.

Finally, the organization will be a monetary consultancy and collaborative agency for all member countries for solving their fiscal issues that might arise from time to time[3]. This would also be a part of the good governance that the articles aim at providing its members. A sharing of knowledge and information available across the world and to ensure that the countries abide by the basic stipulations laid in the forum is also made possible.

The Fund will also ensure that there is a resource bank available on which they can lean on in case of any maladjustment in their balance of payments. These are the major purposes of the IMF. IMF implements through a variety of arms the way the member countries should work or behave. The following are some of the ways by which there is an impact on the economies of the member countries.

Transaction Exchange Control

One of the major purposes of the IMF is to ensure that the countries do not resort to devaluation that could spiral inflation nor work towards dumping of products across countries. The Fund agreement works as a Code of Conduct to a great degree. To start with, when the agreement is executed by a member state, the country acknowledges that all the rules of the Agreement are implementable in line with their own laws and that there is no contradicting provision in their own law. This is to ensure that implementation of the Agreement will not get suffocated by the provisions of the law in their own country. Article IV(4a)[4] states:

‘Each member undertakes to collaborate with the Fund to promote exchange stability, to maintain orderly exchange arrangement with other members, and to avoid exchange alteration.’

The Amended Articles of the Agreement provide for a stable system in the exchange rules and laws.

While this is a control on the way the countries who are members can operate, this condition has brought in changes even in countries like the US to initiate changes in their law. In the case of current transactions, the member states will not have any control over payments and transfers. This is in line with Article VIII (2)(a)[5]. This brings in a control of the activities of the member countries. Similarly, article VIII (3)[6] provides for ‘no member shall engage in discriminatory currency arrangements or multiple currency practices except as approved by the fund’. This makes it difficult for the countries to stay inside the fund as well as practice anything that is contra to rules and articles of the Fund.

Though there was a large-scale change in the exchange rate system as implemented post-Second World War during the Bretton Woods proposals[7], this core structure of article VIII continued to exist to ensure control of the member countries. However, article XIV(2) provides for weakening this controlling close to a certain degree by providing for decontrol during or immediately after a war for the nation to impose restrictions on payments and transfers even in the case of current transactions. Though the ‘war’ for all purposes meant only the ‘World War II’, the IMF never declared that the post World War II period as referred to by the Articles has ended[8]. This means that this transition period is still continuing!

Though there are a number of countries that have liberalized the currency exchanges and have brought in freely convertible currencies, notwithstanding the conditions in Article VIII of the Monetary Fund[9]. However, free convertibility of the currency does not go against the principle of the IMF and therefore, has been approved and accepted by most of the member nations in the body. IMF has been instrumental in spearheading liberalization in most of the Asian Countries leading to more international market capitalization; with the opening of the developing economy there is increased international competition and the price distortions inside such countries are steadily corrected[10].

Native production increases and thereby growth is registered in the long term. This also ensures that the currency is freely convertible. Most countries have matured by moving over to free convertibility of the currency[11]. While there are negative impacts of these in the short run, weighing the options across longer durations has been found to be profitable[12]. The country needs to work out methods that would enhance operating convenience and smooth transition to the regime under IMF. This is valid for new members of the Fund.

The Fund has created its own controlling regime that would ensure the current transactions between the nations are happening without any hindrance. Every one of the International economic regimes has brought down state control, according to Weiss et al[13]. So has the International Monetary Fund. It has brought down the impact of state in international relationships to a great extent. One of them is in the current transactions and lessening the role played by the state in controlling current transactions.

By doing this, IMF has ensured that there is a transnational civil society that is able to carry on international business and trading with the least impact from state legislations. As the Report of the Global Governance points out[14], there are series of hard and soft laws that have been brought in by the UN forums, including the IMF, to ensure that the international public goods for transnational trade, communications, investments, and other activities are carried out through non-state channels. This has made the state a silent spectator on the majority of the transactions that go between and across nations. This has been the case with most of the Middle East countries.

At the same time, the structural adjustment loans and the withdrawal rights of the countries with the IMF are decided based on the capability of the nation-state with the rights. This has been a failure in the case of African countries where such a system on loans could not really work[15].

As to fixing the exchange rate of a currency, the original par-value condition was affected and continues to rule for the currencies though the market conditions as in the flexible rate system are also adopted to some extent. This par value was original evolved as a hybrid between the flexible exchange rate system and the gold standard system that was in vogue earlier in the Middle Eastern countries.

The par value of the currency is fixed using the existing stock of gold and in comparison with the dollar. The par value is indicated in equivalent gold or in US dollars. The Fund insisted that the exchange rate during the period close to World War II between the other currencies should be pegged at or about 1% above or below the par value[16]. In order to make up for the balance of payment crisis that the countries might go through, a pool of currencies is created by the Fund. From this pool, the countries could draw to ensure that their balance of payment crisis is set right.

Capital Movement across nations

In the case of Capital movement across the nations, the Fund does not impose any specific restrictions. This is primarily to facilitate investment into a country in order to improve developmental projects and to facilitate the growth of industries in the region. The movement of capital across the nations is primarily a question of ownership movement and unless the country is willing to approve of this[17], IMF had not decreed any role in the same. In the case of foreign investments in a country and the movement of this capital from and to the country is at the discretion of the country itself. However, the Fund characterizes some of the following as not capital movement and that these are current transactions:

Short-term banking facilities and credit facilities are not looked at as a part of the capital movement but are considered current transactions. The country of destination for this monetary movement nor the country of origin can stop such a transaction.
All the payments that are relevant for trading activities which would include both goods and services will be considered as current transactions.
Income from investments already made as a part of the capital movement is not considered as capital. Instead, this is looked at as a current transaction. This also includes interests on loans that have been taken in as capital. And any other kind of income from the invested capital is also considered a current transaction. This could be dividends or other such returns on capital.
Similarly, any amounts paid towards amortization of loans and against depreciation of the goods against which investments have been made are also considered to be current transactions.
Any remittance for family living expenses from a person who is not in his native country and is remitting back to his native land is also considered current transactions.

All these current transactions are not under the purview of the country legislations and any specific action that the country might like to initiate in order to stop such payments or transfers need to have the sanction from the International Monetary Fund.

Capital transfers exceed a trillion dollars every day. Governments find themselves in a quandary when they try to artificially boost their currency values in the market to gain in foreign exchange. In the same way, any currency devaluation artificially done has also got a negative effect on the overall economic performance of the country. The increase in the currency value results in a major outgo of foreign investments that they just cannot stop resulting in even current account deficits[18].

The large currency market in the international scenario remains largely unregulated[19]. This works entirely under the control of the IMF and a number of private credit rating agencies. Though there is hardly any control by the IMF in this sector, by controlling the current account transactions, the IMF is able to control the earnings out of the capital invested. The return from the investments comes under the current account. However, it is the privilege of the host country whether to open up their shores for foreign investments or not. The same can be controlled based on their own needs.

However, it is important to note that in the international market there is acute competition between the developing countries to attract foreign investment[20]. This forces the countries to deregulation. Such actions have been initiated by the government on the pressure from agencies such as IMF and World Bank in order to get a better ranking. This will help the government to get better credit from other private as well as governmental funding.

This can happen in multiple ways. This explosive growth in monetary capital investments across nations has reduced the role played by the state in a marked manner. The presence of a number of pensioner funds and mutual funds including some of the privately placed portfolio investments together has curtailed the power of the state governments and made them work the way the investors would like them to.

IMF’s ranking mechanisms are accepted by other funding agencies as well. This is entirely based on the Good governance principles of the Fund.

This is the case with the IMF too. IMF with its broad-based working reasons; tend to bring about large-scale change in the way the countries and their economic policies framework. There is always an insistence on budget cuts and similar efforts to save the country from further degeneration. Some of the standard measures that are initiated by IMF in most of the recipient countries are:

IMF advises to cut out on subsidies and social spending made necessary more as a subsidy than as any other need. This was mostly spent on people who had a need to do business with the country and gain out of the removal subsidies. Subsidies were mostly in aid of inefficient operation of the industry. For efficient working, these subsidies need to be curtailed.
Budgets should be shrunk by reducing the staff in the government. In most of the countries that were taking a loan, government funding was spent more on salaries than on welfare measures. Such measures would help the country to rationalize its spending and thereby bring about good governance.
Elimination of taxes and duties particularly for the imports is brought in by the IMF. This would ensure that the industries in the country and the people themselves get a better deal for the same amount of money. There is a lesser and more sincere effort in the industry sector to stay competitive in an integrated global market. This would also make the country’s other saleable products more saleable when this system removes constraints for its products in other countries.

Capital movement across nations has been severely curtailed by the nations before the major liberalization struck most of the countries. The most important reason for limited capital movement is what Nico Schrijver calls the ‘sovereignty over natural resources’[21]. Every country would like to retain its sovereignty over its own resources. However, the internationalization and the spread of the corporate agenda find themselves taking away the rights to these resources steadily from the state.

States have been earlier exercising permanent sovereignty over the land and the resources that were available. But with today’s expansion of international law, the sovereignty has become diluted, albeit marginally. This is found in the case of every one of the legal situations brought about by corporate bodies. Ownership of the resources has been moved to businesses and the state’s power to control it has been more curtailed. This has come about as a subtle but yet not a direct law from the IMF. IMF has ensured that the corporate bodies do not have to struggle to exercise control over the land or resource.

Even in China, the tourism industry[22] is more or less in the hands of the private and large corporate houses rather than with the government[23]. That explains why capital dilution and capital transfer in international trade transactions are not without control by the state. The state, however, should find its powers eroded slowly and steadily in this area too. The IMF and bodies of the UN do have legal sanctions to ensure that the countries do not make their own calls.

IMF continues to play a major role in bringing about major changes in the Econo-political scene in major countries by influencing the reduction in political power centering at the national governments. The trend of diluting the power and distribution of the economic might to all classes of people ensures uniform and sustained growth in most countries.

Good Governance by avoiding Discrimination

The Fund also has articles that stipulate against discriminatory currency arrangements. Typically, there cannot be multiple currency exchange rates for different current transactions at the same time. Discrimination cannot exist on the type of goods. There cannot be a rate for the tourists, for instance, and one for the luxury goods, another for export-import trade, and so on. In addition to this, the countries cannot be discriminated against transactions in a specific currency as well.

For instance, there cannot be a case where the member states might not prefer transactions in say, US Dollars. This kind of preferential treatment cannot be meted out to the currencies. This is prohibited by the Articles of the fund. Every country that is a signatory to Article VIII of the Fund is signing up to say that they are accepting the non-discriminatory methodology of exchange rate fixing and that there is no specific currency discrimination in practice in the country and its management.

During the formative years of the IMF, IMF had the power to recognize some of the discriminatory practices countries could resort to in the case of currency management[24]. These countries need to approach IMF and take confirmation on the possible discrimination. In case of those currencies that are rare and are designated scarce currency, then the country could with the compliance of IMF resort to practices that might be discriminatory exchange controls on the use of that currency. This is despite the fact that Article VIII section 3[25] creates a hard legal obligation on all of the serving members to avoid such discriminatory practices.

By this rule, the above action might be looked at as multiple currency systems. Most of the countries including France and Britain had multiple currency systems and discrimination based on the currency very much till the early 1970s[26].

Though a number of features of the monetary controls relating to discrimination have been handed over back to the sovereign government of the country, IMF still retains some of the core features such as approving every one of the discriminating behavior in the case of currencies. Discriminations are not the accepted norms at this point, however. Almost all the rules pertaining to discrimination of currencies have been removed from every one of the member countries much earlier than the 1980s.

National governments have been found to have differing opinions on the control of currency discrimination. Currency discrimination is used by countries under two pretexts. One, when the country is faced with a large balance of payment crisis particularly, in a specific currency, then the country might stop trading in the said currency until all its issues are sorted out. Secondly, when the country has certain priorities on imports and would like to support only those goods which it prefers rather than allowing import of all the goods at par.

This indicates that the country might impose upon the importing community-specific taxes and duties to discourage people from importing those products that are not welcome. In both cases, the countries might resort to multiple exchange rates and currency practices to make sure that such behavior would help stabilize the country financially. With this as the objective, the country introduces currency discrimination. The countries facing such a crisis would possibly allow the people to get an exchange at a specified location with the government or with a specified bank[27]. This way the government controls the currency that has a large balance of payment crisis or in the other case where the currency available for imports could be increased with the increasing export revenue. But such variations in the currency rates and multiple currency operations are prohibited explicitly by the IMF.

However, repeatedly it has been proved that the Bretton Woods policy of devaluing currencies based on their par values is not always a solution for economic well-being. IMF has found that in line with this policy that such practices are not really beneficial to the country in the long term. This has happened with countries in Asia, particularly, during the Asian financial crisis. This has been practiced by IMF in Africa and in some of the Asian countries too[28]. This combating of the discrimination systems is one of the measures that IMF resorts to to ensure good governance.

According to Judith Goldstein[29], IMF has always viewed the multiple currency systems as a bad substitute for the economic adjustments that could be beneficial in the long term. Since many of the original members of the IMF could not immediately accept a fully convertible currency system, the sections under Article VIII are really made voluntary compliance. The countries may sign in for it or can also stay out of it. However, the practice is to be fully compliant and most of the member states have signed in for it. It has also been the practice of IMF to pressure those countries that are signatories to Article XIV to also sign in for Article VIII[30].

A country becomes Article XIV country when it has reduced the domestic inflation considerably, comprehensive fiscal reform is in place and whatever devaluation is necessary is also implemented. These countries are also expected to refrain from providing subsidies and tax sops to industries as much as possible so that there is direct competition between the industries. All these measures result in good governance practices as promoted by IMF.

There are specific operating processes when the IMF itself would support such currency discrimination, again as a part of a good governance mechanism. When a currency goes scarce, the Fund could declare that currency scarce and intimate all the member countries accordingly. On this intimation from the Fund, the member countries are expected to implement exchange controls with that particular member and the usage of the currency. The Fund will also ration the available currency.

These controlling measures are initiated until the member country ensures that the balance of payment surplus that is plaguing it is stopped. Countries resorted to this measure with the aim of collecting surpluses and foreign reserves into their accounts. The Fund had to counter this measure of amassing such surpluses. The Fund with the current methodology of freely convertible currencies across the counter counters this issue of amassing foreign reserves against the currency by building up the value of the currency against others. This would mean that further accumulation of foreign reserves becomes less lucrative and the country has to dilute it. This restoration of balance by market forces makes the operation unsuccessful.

Draw and Stand-by Arrangements

Most of the withdrawals today from the Fund happen using the Stand by arrangement. The amount of stand-by arrangement is sanctioned by the Fund only after due examination of the economic credentials of the country. This would mean that the country has to fit into the expectations of the Fund and the rules laid down for making use of the Quota available for withdrawal by the country. Therefore, there is an indirect control on the member nation to abide by the Fund’s rules and laws pertaining to withdrawal and for Stand by arrangements to ensure that they continue to enjoy any credit line from the Fund.

This is one of the major points when the Fund also implements or insists that the target country comes in line with their good governing practices. If the member state does not abide by this and it does not fit into the conditions of the IMF, there is no assurance to the member state that funds will be provided to them when they run into a balance of payment crisis.

Some of the typical methods employed by the member states include the gold tranche which they could pledge with the Fund and take funds up to the extent of the gold tranche that they possess. Beyond the gold tranche, the Fund may not pledge any more support to the nation-state if they do not fit into the other stipulations that have been laid down in the Articles. Whether it is the gold tranche against which drawal rights are laid or the standing of the country against which special drawal rights are provided by the Fund, in either of the cases, the country has to abide by the norms laid down by the IMF. Without abiding by these norms it will not continue to have the same withdrawal rights and the quota might get liquidated[31].

Conclusion

Based on the discussion and facts presented in the previous sections the following conclusions could be drawn:

By virtue of its Articles of Agreement, International Monetary Fund has the right to implement specific controls on the good governing processes that the countries might have. All the member countries whether they have voluntarily signed off or as a part of the standing articles of the agreement, need to ensure specific working similarity along with other member nations. This is ensured by Articles VIII and XIV particularly.
The Fund has taken upon itself the role of ensuring that the economic nature of the countries is stable and the currency rates are uniform and are decided in line with the market condition. This is being implemented through the articles as explained in the earlier sections. This ensures a good and growing market offering investor credibility which in long term helps the nation to build itself.
Looking at the continuing and ongoing implementation and amendments in the laws of the Fund, it is clear that there is the considerable influence it wields in deciding on the economic process of the member states and steps are being initiated to ensure that the influence is in the positive sphere[32]. The major purpose of the fund is to ensure that there is sustained growth and there is no ‘flash in the pan’ kind of growth noticed in the case of any funded country.
The Fund is also insistent that the Good Governing principles is the only way that there could be sustained growth and to this extent, it has even funded zero-interest loans repayable on a very long term basis to growing countries that would adapt to these principles.
There are, of course, opinions by the countries as indicated earlier, that all the actions of the Fund do not really contribute to Good Governance though the intention was, of course, too.

There are no major issues in the lending methodologies noted under the Good governance principles. However, when there could be multiple opinions and varied results noticed in different countries depending upon their own needs. This might have to be paid due respect while evaluating the good governance principles. All countries might not have similar requirements and they would differ in the ways they respond to such treatments. However, the fund is modifying its own approach to the problem of the influence in Governance and is trying to bring about major changes in its approach and hence result in good governance[33].

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