The writer is a professor at Harvard’s John F Kennedy School of Government and director of the Harvard Growth Lab
Time is at a premium in a pandemic. China’s slow response to the coronavirus in December and January cost the world dearly. So did the slow response in Europe and the US in February and March. But the world may not have learnt the lesson: the mistake appears to be happening once again, this time at the IMF.
By historical standards, the IMF has responded quickly and massively. In early April, it announced during its spring meetings that a major economic downturn was coming. It hurriedly revamped its rapid financing instrument (RFI), which is designed for earthquakes and hurricanes, doubling its size and making it broadly available with minimal conditionality and quick disbursements.
However, with the benefit of hindsight, today that reaction looks both slow and modest. The recession caused by Covid-19 is significantly larger than originally envisioned: probably by a factor of three or four in many countries. Colombia and Peru have reported a doubling of unemployment, while Honduras suffered a 50 per cent decline in exports in April. Tax revenues in April and May fell 40 per cent in multiple emerging economies, from South Africa to Jordan to Peru. The World Bank has just updated its 2020 growth forecasts, with double-digit corrections for Argentina, Brazil, Peru and several Caribbean islands. It is now clear that this recession will be the largest the IMF has faced in its 76-year history. Moreover, relative to countries’ financing needs, the enhanced RFI now looks puny. It represents 100 per cent of a country’s “quota”, a somewhat obscure number that amounts to less than 1 per cent of gross domestic product in most countries.
It gets worse. According to the rules, the IMF is supposed to disburse no more than 145 per cent of a country’s quota in any calendar year, not much more than the RFI. Moreover, it is not supposed to grant multiyear loans larger than 435 per cent of quota, unless it can argue that the case merits “extraordinary access”. Such constraints make the IMF, which according to managing director Kristalina Georgieva has $1tn to lend, a big fire engine with an obstructed hose.
The IMF’s board of directors has discussed relaxing the lending limits. But the emerging consensus is again: too little, too late.
There appears to be agreement on raising the annual limit by the amount of the RFI: to 245 per cent of quota. But given the deterioration of government revenues and the need for greater spending on healthcare, social transfers and business support, optimal deficits in most countries should be above 10 per cent of GDP, as in the developed world. Yet developing countries face more limited access to finance. Lack of funding translates into smaller social transfers, which leads to less effective and more painful lockdowns, larger collapses in employment and more bankruptcies. Insufficient finance may well lead to a triple whammy: currency collapses, debt defaults and banking crises. These can set countries back a decade, as in Latin America in the 1980s.
The solution is for the IMF to provide more financial support. It did so during the 2011 European crisis, when it lent at a scale that dwarfs current limits. Greece, Iceland, Hungary and Portugal received many multiples of their quotas, even though that crisis was smaller and arguably more homegrown than the current one. Ironically, some European countries are now among the most conservative voices on the IMF’s board.
Three solutions are on the table. The first is a big rise in annual and total disbursement limits, at least for the 2020-21 pandemic years. The second is to increase quota sizes. The third is an issuance of special drawing rights, as happened after the 2008 financial crisis. Ideally, all should happen.
A concern raised by those who oppose such moves is that raising limits may leave the IMF without enough resources and require it to expand its balance sheet by borrowing from members in what is called a “new agreement to borrow”. But that only means we need a bigger IMF to solve the problem.
Meanwhile, the issuance of special drawing rights is opposed because, by giving all countries unconditional access to greater reserves, it may benefit countries that are not friends of important members, such as the US. It may also increase China’s relative power at the IMF.
Given what is at stake in terms of avoidable death and suffering, such arguments sound like those of a person unwilling to help the victim of a car accident for fear of getting blood on their shirt. But if these arguments are allowed to win the day, we will all have blood on our hands.