- The IMF and the Silent Revolution : Global Finance and Development in the 1980s
- James M. Boughton
- INTERNATIONAL MONETARY FUND
- Published Date:
- September 2000
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IMF, Summary Proceedings 1989, p. 15.
The earlier histories are Horsefield (1969), which covers the years through 1965; de Vries (1976), covering 1966–71; and de Vries (1985), covering 1972–78. Other major histories of the period that discuss the role of the Fund in the world economy include, notably, Solomon (1982) and James (1996).
The phrase has, of course, been used in other contexts as well. Perhaps the most direct antecedent was its application to the economic reforms introduced under General Pinochet in Chile in the 1980s; see Lavín (1987). It also has been applied to Camdessus’ style of leadership at the Fund; see Sparks (1988).
One should not confuse the gradual shift toward economic liberalization—the focus of the silent revolution discussed here—with the political democratization that also flourished with great drama throughout much of the developing world in the 1980s. Both logically and empirically, the two developments were distinct and independent events. To take four of many possible examples, the policies initiated in India by Finance Minister Manmohan Singh in 1993 illustrate economic reform in a democracy; economic policy in Chile under Presidents Allende and Pinochet illustrate, respectively, deterioration in a democracy and reform in a dictatorship; and the Philippines under Ferdinand Marcos illustrates economic deterioration under dictatorship. For the logical argument, see McGuire and Olson (1996), where it is shown that the “invisible hand” governing market activity works similarly under autocracies and democracies, as long as the ruler or the majority has a sufficiently long time horizon. Also see Rodrik (1996), which suggests that democratic governments may not have a sufficiently long time horizon; and Williamson and Haggard (1994), which examines the broader difficulties of explaining the political preconditions for successful economic reform. Historically, as emphasized by Myrdal (1968) and analyzed by Krueger (1993), economic development has proceeded at least as rapidly under economically enlightened dictators (Krueger’s phrase is “benevolent social guardians”) as under populist democracies. Studies of developing countries in the modern period have generally found little or no correlation between political freedom and economic progress; for a summary and references, see World Bank (1991), pp. 50 and 132-34.
Macroeconomic thought in the 1970s was dominated by a synthesis of Keynesianism and monetarism in which either fiscal or monetary policy could be assigned to stabilize aggregate demand; see Leijonhuvud (1968) and Friedman (1970). For a prominent example of the relatively benign view of inflation in the 1970s, see Tobin (1972 and 1987).
Friedman’s 1963 Bombay lecture, which stresses the “always and everywhere” argument, is reprinted in Friedman (1968), pp. 21-39.
Balances do not add to zero, owing to measurement errors and the exclusion of countries that were not members of the Fund in the 1970s (notably the Soviet Union and the People’s Republic of China).
The main theme of de Vries (1985) was the negotiation of the Second Amendment to the Articles of Agreement, which took effect in 1978.
IMF Central Files (IMF/CF); minutes of EBM/79/1 (January 3, 1979), pp. 7 and 19 (Buira) and 20 (Managing Director).
For the full set of amendments, with explanatory commentary, see de Vries (1985), Vol. 3, pp. 317-76. The original Articles of Agreement as drafted at Bretton Woods (1944) are in Horsefield (1969), Vol. 3, pp. 185-214. The Articles after the First Amendment (1969) are in de Vries (1976), Vol. 2, pp. 97-157. The Articles after the Second Amendment are in de Vries (1985), Vol. 3, pp. 379-446.
In addition, several industrial countries drew on their reserve tranche balances in the 1980s. The last such drawing occurred in 1987.
The IMF Annual Report for 1999 included a list of 21 abbreviations and acronyms for the institution’s operations, 16 of them new since 1979.
With remarkable devotion to acronymizing, the Fund adopted a formal decision in 1983— establishing Rule B-6 of the Fund’s Rules and Regulations—that the term “SDR” (or “SDRs,” as appropriate) was equivalent to “special drawing right(s)” and was to become standard usage in all Fund documentation. Decision No. 7481-(83/112), adopted July 26, 1983.
In 1999, the number of currencies in the basket was reduced to four when the French franc and the deutsche mark were replaced by the newly created euro. The other three currencies are the U.S. dollar, the Japanese yen, and the pound sterling.
For an overview of the 1980s and the 1990s that emphasizes the evolution of the international financial system, see Solomon (1999a).
As is clear from Figure 6, world inflation did not subside in the 1980s, owing to increases in developing countries. The aggregate data for that group are dominated by a few large countries with chronically high inflation in that period: notably, Argentina, Brazil, Nicaragua, Peru, Uganda, and Zaϊre.
Evaluation of the timing and extent of the decline is sensitive to the choice of index, currency denomination, and comparator. The IMF’s price index for nonfuel primary commodities declined by 27 percent from 1984 to 1987 when measured in SDRs and by 27 percent from 1980 to 1986 when measured in U.S. dollars. Relative to prices of manufactured goods, the index declined by 32 percent from 1984 to 1987. See IMF Commodities Division (1990), p. 26. Relative declines of similar magnitude occurred in the early 1930s, after both of the World Wars, and in the second half of the 1970s; all of those declines, however, were reactions to preceding major booms in commodity prices. Based on the long-run index (1870-1988) developed in Boughton (1991), the relative price of commodities reached its lowest all-time level in 1987.
Solomon (1999b) gives a good overview of these shifts in political philosophy.
Smithin (1990) analyzes the fads in economic policymaking in the 1980s. The central failure in such models was the extension of theoretical long-run neutrality to the empirical horizons over which relevant policy effects occurred.
For the extreme case for policymaking according to the new supply-side school, see Wanniski (1983). Canto, Joines, and Laffer (1983) provide a detailed theoretical background for the supply-side view of how fiscal policy affects economic activity. For a balanced critique, see Feldstein (1986). The appellation “new” is from Feldstein, and “voodoo economics” was coined by George Bush when he was running against Ronald Reagan for the Republican nomination for U.S. President in 1980. The “Laffer curve” is based on the proposition that total tax revenue is a hyperbolic function of the tax rate; above the revenue-maximizing point, a reduction in the tax rate will raise revenues. Most empirical analyses suggested that in most countries, tax rates in the 1980s were well below that point and that cutting tax rates would reduce revenues. For a review, see Mirowski (1982). Ricardian equivalence also requires acceptance of a strong set of assumptions or hypotheses, notably that households base saving decisions on an infinite horizon rather than on individual life expectancies. For a critical review of that proposition, see Tobin (1980).
Raúl Prebisch was perhaps the most eloquent exponent of this view. For a retrospective introduction to his argument, see Prebisch (1984).
Virtually destroyed during World War II, the Japanese economy was well on the way to recovery by the time Japan joined the IMF in 1952. In 1964, the government made the yen a convertible currency, accepted the liberalization requirements of the Fund’s Article VIII, and joined the OECD. Four years later, gross domestic product (GDP) in Japan surpassed that of West Germany, making the value of Japanese output higher than that of any other country except the United States.
As an original member of the G-10, Japan had participated in the General Arrangements to Borrow (GAB) since 1962.
For an analysis of the effects of industrial-country growth on developing countries, see Goldstein and Khan (1982). Real GNP growth in industrial countries fell from a peak of 4.5 percent in 1988 to 1.3 percent in 1991. Growth in real per capita GDP in developing countries fell from a peak of 2.2 percent in 1988 to –0.6 percent in 1990.
Throughout the floating-rate period, major changes in the effective exchange rate of the U.S. dollar, as measured by the IMF, were approximately equal in nominal and real terms. This empirical regularity, which is unique among the major currencies, implies that increases in unit labor costs, measured in a common currency, were similar in the United States and collectively in its major trading partners. The reasons for the strength and persistence of that relationship are unclear. For the methodology used at the IMF to compute nominal and real effective exchange rates, see Zanello and Desruelle (1997).
The strength of the yen relative to the mark and other European currencies in the first half of the 1980s is attributable to the same causes as the strength of the dollar: the combination of a tight monetary policy and a less tight fiscal stance. As a result, interest rates fell by much less in Japan than elsewhere, and the currency appreciated against most major currencies other than the dollar.
Data on the currency composition of official reserves are of poor quality because of marked differences in reporting practices. For a summary table showing the dollar figures reported here, see de Boissieu (1996), p. 132. Detailed tables may be found in the IMF Annual Report.
The most widely accepted model at the time was the Dornbusch-Frankel “overshooting” model, which postulated an equilibrium based on PPP and an adjustment process based on a “rational” expectation that the actual rate would regress toward that level. A tightening of monetary policy in one country would initially raise the real interest rate relative to those in other countries, which in turn would bring a temporary appreciation of the real exchange rate. The extent of appreciation would be such as to create an expectation of a rate of depreciation equal to the interest differential, so that the expected rate of return on financial assets would be the same in all currencies. Early empirical tests of that model seemed favorable, but later tests showed that it had very weak explanatory power and implausible parameter estimates. See Meese and Rogoff (1983) and Boughton (1984, 1987, 1988).
This terminology was developed and became part of the economist’s toolkit in the 1980s. A rational bubble occurs in the context of a model in which expectations are formed consistently with the model’s predictions (“rational expectations”). If the current value of a variable such as the exchange rate depends on rational expectations of its future level, it can take on values that differ persistently from those that would otherwise be determined by the “fundamental” determinants in the model. By back-formation, a bubble that occurs because of herding behavior or other factors unrelated either to fundamentals or to rational expectations may be characterized as an irrational bubble. The seminal article on testing for rational bubbles, by Robert P. Flood and Peter M. Garber, was published in the Journal of Political Economy in 1980 and was collected with related papers in Flood and Garber (1994). Tests for the existence of rational bubbles in exchange rates were hampered by the empirical weakness of models of the fundamental determinants; see Meese (1986).
See IMF, Summary Proceedings, 1988, pp. 78-85, and Lawson (1992), pp. 854-59. The Fund staff conducted a number of research studies during the 1980s on the questions of whether private sector deficits tended to be self-correcting and whether undesirable deficits were confined to those of the public sector; see Bayoumi (1990) and references therein, and Frenkel, Goldstein, and Masson (1991). W. Max Corden (1986), 1987), then a Senior Advisor in the Research Department, questioned the use of current account balances as a target for international economic policy, and he later embraced the Lawson Doctrine (Corden, 1994, Chapter 6).
From 1980 to 1987, U.S. trade with Japan grew more rapidly than with other countries, and imports grew much more rapidly than exports. Merchandise exports to Japan rose by 33 percent, compared with 9 percent to all other countries. Imports from Japan, however, rose by 171 percent, while imports from all other countries rose by 49 percent.
For a comprehensive statement of the HE case for target zones, see Miller and Williamson (1987). For an overview of the more skeptical view that prevailed at the Fund in that period, see Frenkel and Goldstein (1996).
This picturesque terminology derived from the appearance of a graph plotting the values over time of European currencies against the dollar. The tight margins of fluctuations allowed within the group produced a sinuous joint movement within the wider band (the tunnel) allowed under the Fund’s par value system. For a history of the snake in the context of world political and economic events in the 1970s, see Solomon (1982). For a history of monetary integration in Europe, see Ungerer (1997).
For a statistical analysis of international transmissions during the crash, see Bennett and Kelleher (1988).
The Trust Fund, which was also established in 1976 and which also made longer-term loans, was funded and maintained independently from the Fund’s general resources. The terminology stressing the Fund’s “monetary character” originated with the Dutch central bank; see Duisenberg and Szász: (1991).
The essence of the New Zealand policy innovation of 1989, which followed a gradual move toward economic liberalism and inflation reduction starting in 1984, was a contractual commitment by the Governor of the Reserve Bank (Donald T. Brash) to keep the inflation rate within a narrow range (then zero to 2 percent) and to free monetary policy from output and employment goals. Despite an initial three years of slight declines in output, the New Zealand approach became a model for central bank independence and contributed to strong growth beginning in 1993. For an official overview, see Spencer and others (1992); for an insider’s analysis, see Archer (1997); and for a critical outside view, see Kelsey (1997).
The road to economic success in Africa was still bumpier than elsewhere, and only a few of that continent’s 50 countries achieved lasting progress. The May 1990World Economic Outlook cited Ghana, Madagascar, and Uganda as countries where “a significant recovery in economic activity is now under way following fundamental macroeconomic and structural policy reforms,” and it also praised Cote d’lvoire, Nigeria, and Zambia for policy improvements (pp. 12 and 49). Policies in Ghana, Madagascar, and Nigeria were again cited favorably in May 1991, but in that year the other countries mentioned in this context were Kenya, Togo, and Tunisia (p. 14).
Havel, a well-known dissident playwright and political prisoner, was elected President of Czechoslovakia in 1989. Watesa, a leader of the Solidarity movement since 1980, was elected President of Poland in 1990.
English is the official language of the IMF, and meetings of the Executive Board normally are conducted in English without simultaneous interpretation.