Journal Issue

The Fund Agreement As a Code of Conduct

International Monetary Fund. External Relations Dept.
Published Date:
September 1964
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THE PURPOSES of the International Monetary Fund are clearly set out in the Articles of Agreement. The language contained in Article I, Purposes, resulted from much deliberation and embodies careful thought on the future of the international monetary system. As is also shown in another article in this issue, the experience of the 1930’s and World War II itself were uppermost in the minds of the drafters at Bretton Woods, but, to my personal knowledge, the statement of purposes also consciously reflected historical experience before the 1930’s and even before World War I. In addition, these Purposes reflected a keen desire to anticipate the future needs and problems of members.

Mr. Friedman has been a member of the Fund staff since 1946. He has held successively the posts of Chief of the U.S.-Canada Division, Research Department; Assistant for policy matters to the Deputy Managing Director; and, since 1951, Director of the Exchange Restrictions Department. He is the author of Foreign Exchange Control and the Evolution of the International Payments System (1958) and of articles in financial journals, and a joint author of Postwar U.S. Economic Policy (1948).

Since its establishment the International Monetary Fund has had, for its primary objectives, the promotion of international monetary cooperation, the expansion and balanced growth of international trade, the promotion of exchange stability, the avoidance of competitive exchange depreciation, and, more generally, the establishment of a multilateral system of payments. These, however, are not ends in themselves, but are intended to lead to “the promotion and maintenance of high levels of employment and real income and to the development of the productive resources of all members as primary objectives of economic policy.” To accomplish these aims, it was recognized that it was necessary to have a permanent institution; the problems of international monetary cooperation would inevitably require continuous consultation and collaboration among member countries, which could best be provided by an institution with a full-time Board of Executive Directors and a permanent staff.

The objectives set out in the Articles of Agreement are mutually interdependent. To achieve the expansion and balanced growth of international trade, and even more the establishment of a multilateral system of payments, it was crucially necessary to promote international monetary cooperation. In fact, what was needed was a quite elaborate and detailed agreement among members on a code of conduct in international economic relations. Moreover, it was realized that countries often adopted harmful international monetary practices because of a shortage of foreign exchange. The Fund was accordingly provided with large resources which it could make available to members under adequate safeguards. Thus the ability of member countries to conform to the agreed code was strengthened by providing them, in the words of Article I(v), with “the opportunity to correct maladjustments in their balance of payments without resorting to measures destructive of national or international prosperity.” Article I thus forms what might be called the Fund’s warrant from history, and at the same time provides the basis for its work. For understanding the Fund’s role, it is of key importance to realize that in all its decisions it is called upon to be guided by the purposes set forth in this Article.

What is the code of conduct to which Fund members subscribe? There are two principal elements in it, concerned respectively with exchange rates and with a wide range of expedients known as “exchange restrictions.” Both of these are very important.

Exchange Rates

Members’ relations in the field of exchange rates are based on “par values”—that is, the values of their currencies in terms of the U.S. dollar and of gold. These par values have to be agreed by members with the Fund. For example, the agreed par value of the pound sterling is $2.80 or 2.48828 grams of fine gold; that of the French franc is $0.20255 or 0.18 gram of fine gold.

As a consequence of the misery resulting from competitive devaluation in the 1930’s, the Articles of Agreement of the Fund provide that no member should propose a change in the par value of its currency except to correct a “fundamental disequilibrium.” By fundamental disequilibrium is meant a persistent imbalance in a country’s balance of payments, and unless a proposed change in a par value is necessary and adequate to correct this state of affairs, the Fund has the authority to disallow it. Countries are thereby meant to be deprived of their ability to export deflation or inflation through unilateral changes in their exchange rates. (In practice, of course, the relationship between member countries and the Fund over par values is a great deal more sophisticated than such simple encounters of application and refusal.)

The Fund Agreement accordingly provides for fixed exchange rates as the basic mechanism for the conduct of international financial transactions. It does not make it impossible for member countries to change their exchange rates at will, but it firmly embodies the economic doctrine that the purposes of the Fund are to be achieved within a framework of exchange rates which are changed only with international concurrence. By implication, this provision of the Fund also means that generally speaking countries do not regard recourse to fluctuating or unpegged exchange rates as desirable conduct. Fluctuating rates not only introduce elements of uncertainty into international economic relations, but also involve the risk of leading to a competitive depreciation of the currency.

It is, therefore, the obligation and the purpose of the Fund to assist all member countries in achieving conditions which enable them to maintain fixed par values. At the present time, the industrial countries and the higher-income primary producing countries all have par values, agreed with the Fund, which perform their primary function of equilibrating the balance of payments. Thus the bulk of world trade and international finance is conducted on the basis of fixed par values, and these provide the keystone for the international monetary system as it now operates.

Multilateral System of Payments and Avoidance of Exchange Restrictions

The second main part of the Fund’s code of conduct consists of its rules about exchange restrictions and similar practices, which are designed to help achieve the establishment and maintenance of a multilateral system of payments in respect of current transactions. The establishment of a multilateral system of payments free of foreign exchange restrictions was planned in the conviction that such restrictions would be harmful to the growth of world trade and would also result in distortions of the domestic economy which discouraged maximum growth and rising living standards. This was already the lesson of experience, yet the possibility that exchange restrictions in such forms as bilateralism might serve the needs of development and growth was again carefully explored and rejected.

Members of the Fund accordingly explicitly undertake to avoid (unless they have the Fund’s consent) restrictions on the making of payments and transfers for current international transactions, discriminatory currency arrangements, and multiple currency practices (i.e., the maintenance of a range of exchange rates applicable to different types of external receipts or payments). The obligations are clearly set forth in Article VIII of the Agreement.

From the beginning, however, it was appreciated that many countries would have difficulty in fulfilling these obligations immediately; the Articles therefore provided for a “transitional period,” in which member countries would have a right to maintain, and adapt to changing circumstances, restrictions on payments and transfers for current international transactions. Members exercising this right at the same time undertake to withdraw such restrictions as soon as their balance of payments positions permit (Article XIV).

Most member countries have availed themselves of these transitional arrangements, but 25 of the Fund’s 102 members have so far assumed the obligations of Article VIII. In Fund terminology they are called “Article VIII countries,” the other 77 being “Article XIV countries.” (They are indicated in the table of Fund members, pp. 135–37). If countries which do not have exchange restrictions that qualify as transitional arrangements wish to introduce restrictions on payments or transfers for current international transactions, they have to seek the approval of the Fund.

It will be readily understood that countries which have difficulty in establishing a viable par value may equally have difficulty with the obligation to avoid exchange restrictions; and, indeed, the two are often closely linked. For a country to reconcile its external position with internal developments at a fixed rate of exchange necessitates a kind of domestic policy which a number of countries have not found it possible to pursue. Many of these, especially among the less developed member countries, make use of fluctuating rates or of multiple currency practices. Others have unitary rates based on par values, but have made extensive use of quantitative restrictions on payments or trade to equilibrate their balances of payments.

That many members do not have par values is something which the Fund is obliged to accept. The Fund has frequently found, also, that exchange restrictions have been used because members in difficulties were unable, frequently for political reasons, to adopt the necessary policy measures (including exchange rate adjustments) which would have corrected their balances of payments and so enabled them to eliminate restrictions. Advantage has often been taken of the discretion given to the Fund in the exercise of its authority in the field of exchange restrictions to approve fluctuating exchange rates which are part of multiple currency systems, or in other instances to approve fixed multiple rates. In some cases the Fund has believed that multiple currency practices or fluctuating rates were useful transitional devices to help countries move toward a realistic exchange rate. In still other instances the introduction of unitary fluctuating rates has been found to be a practical way of eliminating restrictions and/or multiple currency practices.

In exercising this responsibility and authority, the Fund has done its utmost to bring about the conditions which could make possible the full achievement of its purposes.


Since the elimination of all these practices is one of the fundamental objectives of the Fund, Article XIV provides for annual consultations between the Fund and each member taking advantage of the transitional provisions to ensure that everything possible is done to achieve this objective. In these consultations the reduction of restrictions is discussed, and the Fund is even given authority to represent to member countries that changes in economic conditions have made possible the withdrawal of restrictions.

The advocacy of these rules of financial behavior occupies much of the energy of the Fund, and involves virtually every field of activity. Nor is this confined to countries invoking the transitional provisions of Article XIV. As a result of a decision taken by the Executive Board in June 1960, consultations are held annually with Article VIII countries as well as with Article XIV countries. These consultations cover a very wide field, including a thorough examination of the country’s domestic economic conditions, outlook, balance of payments, foreign economic policy, and so on. The wide range of the topics discussed reflects the recognition that the member country’s ability to fulfill its obligations under the Fund Agreement, or to make progress toward their fulfillment, depends not only on the international environment but also on its domestic policies. Among the latter, the most important are monetary policies, fiscal policies, and foreign exchange policies, including those relating to exchange rates. The Fund has sought to advise countries on the ways and means by which they might achieve a sound domestic situation, a stronger balance of payments position, and a freer international economic policy. From time to time it has adopted general policies to act as guidelines in dealing with individual countries. Thus the Executive Directors have taken general policy decisions deprecating bilateralism, the use of complex multiple currency systems, and discrimination for balance of payments reasons.

Most of the annual consultations are held in the member countries and involve the senior officials and political leaders of many ministries, the lead being usually taken by the financial authorities. There are also frequent contacts in member countries and at headquarters between officials of the countries concerned and the Fund management and staff. Technical assistance has been given through these consultations and contacts and also by Fund experts stationed in a country at the member’s request.

The use of the Fund’s financial resources is itself deeply involved in this work, since in nearly all cases a major consideration in the Fund’s decisions on the use of its resources is the country’s behavior with respect to exchange rates and exchange restrictions. In these various but related ways, and through a worldwide network of close relationships with its members, the Fund endeavors to bring about the kind of international conduct in the monetary field envisaged by the Articles of Agreement.

Implicit Obligations

Thus far we have been dealing with what might be regarded as the explicit code in the Fund Agreement. However, implicit in the Agreement are other aspects of a country’s economic behavior and, more particularly, its behavior in the financial field. Most obvious is the fact that in order to avoid the use of restrictions or to be able to maintain the par value system, countries need to pursue certain domestic policies, particularly in order to escape chronic inflation or serious and lasting deflation, and to achieve and maintain a satisfactory balance of payments position. These domestic programs always involve monetary and fiscal policies, and in the less developed countries development policies also.

Inherent in the Fund and fundamental to the success of its code of conduct is the concept that members will take measures to overcome balance of payments deficits, although it is recognized that the desired impact of such measures may be some time in being felt. This does not mean, of course, that developing countries are expected to achieve balances or surpluses in their current external accounts, but rather that balance will be achieved after the inflow of long-term capital and other similar sources of exchange receipts.

Less obvious is the line of action expected of countries which are chronic debtors or chronic creditors, particularly the industrial countries. The Fund Articles envisage a system in which countries would meet balance of payments deficits through the use of their own reserves and drawings from the Fund. These drawings from the Fund are made subject to repurchase, this being an important part of the Fund’s mechanism of revolving resources. No specific time limit was stated in the Articles for any outstanding drawing, but drawings were intended to be temporary, and through policy decisions it has been defined as three to five years. Countries drawing on the Fund thus have an obligation, under the Fund Agreement, not to continue in balance of payments deficit without taking corrective measures to overcome the deficit.

Correspondingly, the Articles of Agreement contemplated that countries would not remain chronic creditors. The Fund Articles actually went so far as to empower the Fund, in cases where the demand for a member’s currency seriously threatened the Fund’s ability to supply that currency, to declare it as “scarce.” Under this provision member countries could temporarily impose limitations on the freedom of exchange operations in the scarce currency, or, in other words, discriminate against the country whose currency was declared scarce. Authority of a less drastic character was also given to the Fund to cope with such a situation by empowering the Fund to issue a report setting forth the causes of the scarcity of any particular currency and containing recommendations designed to bring the scarcity to an end.

In the immediate postwar years there was considerable discussion of the question whether the “dollar shortage” should be reflected in a declaration by the Fund that the U.S. dollar was a scarce currency. This was not done, essentially for the reason that the Fund’s own holdings of U.S. dollars were not low, because countries obtained assistance to meet their dollar deficits from the U.S. aid programs and other sources rather than from the Fund. More recently the Fund has considered methods of replenishing its holdings of certain creditor currencies, and, for example, in 1961 it did in fact buy for gold $500 million worth of the currencies of nine industrial countries, in connection with a drawing of $1,500 million by the United Kingdom. In 1962 it negotiated with the same nine member countries, plus the United Kingdom, the General Arrangements to Borrow, providing for possible borrowing by the Fund of currencies totaling $6 billion. Despite these special arrangements, it remains the intent of the Articles that, corresponding to the corrective policies expected from a country experiencing serious and persistent balance of payments deficits, “good creditor policies” are to be expected from a country in persistent balance of payments surplus.


There are other aspects of the Fund’s code of conduct—such as the use of capital controls, the supply of information, and repayment obligations—which have not been dealt with in this article but which would call for attention in any survey that sought to be comprehensive. Yet perhaps enough has been said to indicate why the operations and activities of the International Monetary Fund, in implementing its code of conduct, are of profound importance to individual member countries as well as to the international economic community.

It is easy to conceive of international monetary institutions which would emphasize other purposes or other techniques. Many economists, technicians, and politicians throughout the world today take exception to the underlying economics of the Fund Agreement, and sincerely contend that some of its broader objectives would be served better by other modes of behavior. Nevertheless, the fact that the Fund now has 102 members, whereas only 38 had signed the Articles of Agreement by March 1946 (when the Inaugural Meeting of the Board of Governors was held), shows that the philosophy of the Articles has won acceptance. During the intervening period the world has come to accept the modernity of the stated purposes of the Fund and the validity for present-day conditions of the economic analysis lying behind the obligations that it imposes.

This is true even though many less developed countries are as yet unable to conform to the code: they do not have par values; or they have multiple currency arrangements, often with fluctuating exchange rates; or they make extensive use of restrictions on current payments and transfers. It must be recognized that in these countries much remains to be done before the preconditions for full participation in the system envisaged by the Fund are achieved. The Fund is mindful that in these countries the objective of more rapid growth and development, and the attainment of a higher standard of living, are of key importance. Political and social, as well as economic, difficulties make progress in these countries slow and uneven, so that the achievement of the Fund’s code of conduct is necessarily a slow, even discontinuous, process.

Nevertheless, the Fund has the firm conviction, from experience, that the policies appropriate for enabling a country to adhere fully to its code of conduct are identical with those which enable it to make the most rapid progress and development over time. Much progress has already been made, of which a spectacular example has been the achievement of convertibility by the Western European countries and Japan. Other countries still in the less developed stage, such as Thailand, have also been able to achieve conditions making possible their full adherence to the code of conduct envisaged in the Fund’s Articles.

But the true test of the desirability or effectiveness of the code is not to be found in the success that has been achieved, or in the lack of it, but rather in what condition international financial relations might be today if the code did not exist, and if continuous, energetic efforts were not being made to achieve its implementation.

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