Augustus W. Hooke
The Independent Commission on International Development Issues (the Brandt Commission) was established in December 1977. Its brief was to study the major global issues resulting from economic and social inequality, to suggest solutions to international development problems, and to indicate suitable directions for international development policy in the 1980s. The Commission’s Report, which was completed in December 1979 and published as North-South: A Program for Survival, dealt with a wide spectrum of issues arising from recent changes in international relations and the world economy. Among these was the reform of the international monetary system, on which its proposals can be grouped under four main heads: reserve assets, lending by the Fund, exchange rates, and management of the international monetary system.
This article will discuss the principal proposals of the Brandt Commission in specific areas and also outline the steps the Fund has taken, both prior and subsequent to the publication of the Commission’s Report, in response to the continuing need for changes in the international monetary system. The discussion will be limited to a number of specific topics in the area of financing and international liquidity: the changes that have been made in the valuation and use of the special drawing right (SDR); the ongoing debate on the proposed “link” between SDRs and development assistance; the liberalized access to the compensatory financing facility and the proposal to establish a facility to meet the higher costs for food imports; and the establishment of the Subsidy Account for the supplementary financing facility. (The Fund’s conditionality practices, a subject of concern to the Commission, are not discussed at length here because they have been the subject of articles by Manuel Guitián in the December 1980, March, and June 1981 issues of Finance & Development.)
The Commission’s recommendations concerning reserve assets were aimed both at promoting the acceptability of the SDR as a reserve asset and at increasing the resources available to developing countries. The Commission shared the generally held view that the SDR should become the principal reserve asset of the international monetary system. It believed this could be promoted in several ways: by the adoption of a valuation system for the SDR that ensures its predictability and stability; by the relaxation of restrictions on the use of the SDR; and by the establishment of a substitution account. The Commission agreed that the size of new allocations of SDRs should be determined by the world’s need for additional liquidity. It maintained, however, that a larger share of these allocations should go to developing countries, establishing a link between allocations and the provision of resources for development. It also supported the demonetization of gold, which it thought could be facilitated by two actions: the use of part of the Fund’s gold as collateral for borrowing in the capital markets to finance additional lending to developing countries (particularly the middle-income countries) and the sale of part of the balance of these holdings to finance an interest-subsidy account for the least developed countries.
The Commission’s recommendations on the provision of financial assistance by the Fund were directed both at making more resources available and at permitting less restricted access to existing resources. It proposed the establishment of new facilities, such as an interest-subsidy account for the least developed countries, the expansion of the scope and the liberalization of the terms of lending of the compensatory financing facility, and the reduction of the degree of conditionality attached to the use of Fund resources. The Commission accepted the need for the Fund to attach conditionality to the use of its resources but believed that conditionality was applied severely. It argued that the Fund’s approach was monetarist; paid too little attention to the social, political, and economic objectives of borrowing countries; and did not make allowance for the causes of their payments difficulties. The Commission also claimed that the Fund’s prescriptions were biased toward deflation, involved inappropriate or excessive regulation of the economies of borrowing countries, and imposed a heavy burden on the poorest sections of their populations. As a result, developing countries had been discouraged from making timely and adequate use of the Fund’s resources.
On the exchange regime, the Commission urged the creation of an environment that would promote greater stability of exchange rates. It believed that this would be facilitated by the adoption of its proposals on reserve assets and conditionality as well as by encouraging surplus countries to accept greater responsibility for balance of payments (BOP) adjustment. The Commission also recommended that the major industrial countries exercise greater discipline and improve coordination of their national policies to increase the stability of their own exchange rates.
The Commission argued that the management of the international monetary system should not be dominated by a single country or a small group of countries. It should include the Council for Mutual Economic Assistance (COMECON) countries, and it should provide a growing role for the developing countries. Such collective leadership would, it believed, be facilitated by rules ensuring that decision making in the Fund was not based wholly on quotas. The Commission also recommended that the developing countries be given enlarged participation in the staffing, management, and decision making of the Fund.
Changes in the SDR
The Commission’s proposals on the SDR were directed at promoting the SDR as a reserve asset; the Commission recommended, first, that the SDR be valued so as to ensure its predictability and stability, and, second, that it be made available for a wide range of uses. These were generally acceptable to both the developing and the industrial countries and important progress has been made on both since the Commission’s Report was published. In 1974, the stability of the SDR had been enhanced by switching its valuation from the U.S. dollar to a weighted average of a basket of 16 currencies. Subsequently, at the beginning of 1981, the valuation of the SDR was simplified. The size of the basket of currencies in which the SDR is valued was reduced from 16 currencies to the 5 currencies most widely used in international trade and investment—that is, the U.S. dollar, the deutsche mark, the French franc, the Japanese yen, and the pound sterling. This change makes the currency composition of the valuation basket identical with that of the basket used to determine the interest rate of the SDR; the weighting system employed in the two baskets was also made identical. This should help to foster the private use of the SDR by promoting public understanding of its nature, making the currency composition of the basket more stable, and making it easier for participants in the private markets to cover exchange risks involved in SDR-denominated transactions. During 1980, the Fund also permitted the use of SDRs in donations, adding this to a range of transactions that includes swap arrangements, spot and forward operations, loans, and pledges.
Several other improvements have recently been made to the characteristics of the SDR. In 1980-81, the Fund designated seven additional institutions as “other holders,” raising to eight the number of institutions other than national treasuries, central banks, and the Fund itself that can hold SDRs. In 1980, it was agreed to raise the interest rate paid by the Fund to members on their holdings of SDRs from 80 per cent of the market rate on specified short-term obligations in the money markets of the five countries whose currencies are included in the SDR valuation basket, to the full combined market rate on those obligations. This change should make the SDR more competitive with other reserve assets. In 1981, the Fund decided in principle to abrogate the requirement that members maintain, over time, a minimum average level of SDR holdings.
These adjustments to the SDR—the change in the valuation basket, the rise in the interest rate, the increase in the number of “other holders,” and the abrogation of the reconstitution requirement—should facilitate transactions in SDRs and enhance the role of the SDR as an important reserve asset in the international monetary system. These changes should increase the usefulness of allocations to developing countries since they raise the proportion of holdings that can be used (to 100 per cent) and they increase the willingness of a larger number of institutions to hold SDRs.
The proposal to establish a link between the Fund’s allocations of SDRs and finance for development has been made in many forums. The Fund’s Articles of Agreement, which originally established the SDR facility in 1969, specify that allocations of SDRs be proportional to Fund quotas. But there were proposals to allocate a larger share of SDRs to developing countries prior to the First Amendment of the Fund’s Articles, and the matter was considered more extensively in a technical report prepared for the Committee of Twenty in July 1973. In the last few years the issue has been revived, in part because of the rising payments deficits of the developing countries. The ensuing debate has focused mainly on the effects of a link on the quantity and quality of aid, BOP adjustment, and inflation.
While most supporters of the link emphasize its potential to transfer resources to developing countries, the Brandt Commission stressed the contribution such transfers could make to the international adjustment process. The Commission argued that it was in the general interest for countries to be provided with sufficient short-term resources to permit them to avoid measures that could be harmful to world trade and payments or to their own economies. It believed that additional reserves should be created and then be allocated mainly to developing countries: their low level of development and heavy concentration on primary production increase the instability of their export earnings and raise their costs of adjustment, and they have limited access to international capital markets and pay high opportunity costs in acquiring reserves.
However, in response to the Brandt Commission’s view, it has been suggested that the effective transfer of SDR allocations from industrial to developing countries would lead to increased expenditure on the exports of those industrial countries that normally run large surpluses, thus widening payments imbalances among the industrial countries. A link arrangement might also be effective only so long as the additional allocations were unanticipated; once these countries included the larger allocations in their forecasts they could be tempted to plan for and incur correspondingly larger payments deficits.
Finally, a common objection to the link is its possible contribution to worldwide inflation, as a result of the greater interest developing countries would have in larger allocations and of the higher propensity of developing countries to import. It may be noted that the Brandt Commission did, however, stress that the size of SDR allocations should be determined wholly by the world’s need for additional liquidity. The Commission also observed that a decision to allocate SDRs requires an 85 per cent majority of the Fund’s voting power and that the developing countries could not push through an allocation over the determined opposition of the industrial countries or even of the United States or a small group of other major industrial countries.
The proposal on the link is a continuing subject for worldwide debate both in the Fund and in other international and private forums. However, opposition to it remains strong among the industrial countries and there is little prospect of its adoption in the immediate future.
The Fund’s compensatory financing facility was established in 1963 to provide resources at low conditionality to members, especially those exporting primary commodities and experiencing shortfalls that are temporary and largely attributable to circumstances beyond the member’s control.
The Commission’s proposals for liberalizing and expanding the facility were designed to make it more consistent with the Commission’s view of the underlying objectives of the facility and to take into account the individual circumstances of countries using it. The Commission believed that quota limits on access should be removed; the relevant factor determining the amount of assistance should be the member’s payments shortfall, not its quota. It argued that the facility’s resources should be made available to members suffering from any shortfall resulting from factors beyond its control—particularly such factors as increased import prices and crop failures—to forestall the need for harmful cutbacks in imports. In addition, the Commission recommended that repayment terms be made more flexible and limited to the member’s capacity to repay and that calculations be made in real terms to allow for the effects of inflation.
The Fund has been improving access to compensatory financing for some time, based on periodic reviews of its lending for this purpose. From 1963 to 1974 there were ceilings of 25 per cent of a member’s quota on the amount that it could purchase in any one year and of 50 per cent of quota on the total of outstanding purchases. In 1975, these limits were raised to 50 per cent and 75 per cent, respectively. In 1979, the ceiling on annual purchases was abolished and the limit on outstanding purchases was raised to 100 per cent. These changes have considerably increased the proportion of member countries’ export shortfalls that can be financed under the facility.
In addition to compensatory finance on the export side, there has been considerable support for the proposal that the Fund provide financial assistance to net food importing developing countries. Such assistance would be provided to members experiencing BOP difficulties resulting from the effects of crop failure at home or abroad on the volume or price, respectively, of their food imports. It would permit these countries to maintain food consumption levels without having to curtail those imports needed for economic development. The Fund’s existing facilities already provide assistance to members experiencing temporary BOP difficulties of this kind. But a new arrangement for this specific purpose, it is argued, would enable the Fund to respond more quickly to members’ needs and would allow it to provide assistance without reducing the ability of affected countries to borrow from the Fund to meet other payments difficulties. The proposed arrangement could take the form of a special facility or a broadened compensatory financing facility.
Since the objective of the compensatory facility is to cushion the effects of export fluctuations on the BOP, and thus on the capacity to import, it could be argued that countries should have access to the funds only when they have an export shortfall and an overall payments deficit, and be obliged to make repurchases as soon as they have an export excess and an overall payments surplus. However, such a policy would be administratively burdensome to carry out; it would require repeated time-consuming calculations on the changing positions of all members that have purchases outstanding under the facility. It could also work out that the Fund might find it necessary to agree to an open-ended extension of the repayment period. Accordingly, the Fund has always required that repurchases under the facility be made within three to five years, as is the case for repurchases under its regular facilities.
The Commission believed that the Fund should establish an interest-subsidy account to help low-income developing countries meet the interest costs of using the Fund’s resources.
The Fund recognized the need for a subsidy account as world interest rates rose sharply in tandem with inflation and the developing countries made considerable use of its supplementary financing facility. This facility, which came into effect in 1979, is financed with resources borrowed by the Fund at market-related rates from countries with surpluses and, in turn, makes assistance available to borrowers at market-related rates of interest that are considerably higher than the rates charged under regular Fund facilities.
In November 1980 the Fund established the Supplementary Financing Facility Subsidy Account to reduce the interest cost to developing country members of using resources under the supplementary facility. The subsidy may be as high as 3 per cent of the member’s outstanding purchases under the supplementary facility and is available to a group of some 69 developing country members whose per capita incomes in 1979 did not exceed the level used to determine eligibility for assistance from the International Development Association (IDA). The subsidy at half this rate is available to a second group of some 14 other developing countries. The resources of the facility are expected to be about SDR 1 billion, from repayments of Trust Fund loans (SDR 750 million), donations, and borrowings.
The Brandt Commission’s proposals on international monetary issues are broadly similar to those made by representatives from the developing countries in other forums, such as the Conference on International Economic Cooperation (CIEC) and the United Nations Conference on Trade and Development (UNCTAD). They are designed to give the developing countries access to greater amounts of financial assistance on easier terms, to produce a more stable exchange rate system, and to promote a more equal distribution of the adjustment burden between surplus and deficit countries. This article has described some of the changes that have been made by the Fund in areas of concern to the Commission. It has also reviewed the debate over the link and the coverage of the compensatory financing facility. On these, continued technical work and possible swings in political attitudes could lead eventually to their partial or complete adoption.
There are both technical and political barriers to the adoption of the Commission’s other recommendations. On some—such as substantially redistributing voting power in the Fund in favor of developing countries and lowering further the degree of conditionality associated with the use of Fund resources—opposition is strong among the Fund’s industrial member countries. The proposals could even be self-defeating. If countries that are major suppliers of resources to the Fund were to have less control over the uses of these resources, or to believe that these resources were no longer being used to promote international adjustment within a cooperative framework, they may become less willing to vote for large quota increases or to lend to the Fund.
Recent changes in the Fund’s policies should contribute to the stability of the international monetary system by promoting the role of the SDR as a reserve asset and by increasing the amount of assistance available to individual countries experiencing BOP difficulties. The benefits can be expected to be greater for the developing than for the industrial countries since the developing countries tend to be net users of SDRs and will receive most of the additional assistance under the compensatory facility and all of the assistance from the new interest-subsidy account. The Brandt Commission Report has attempted to focus attention on issues that are of concern to many Fund members. The proposals for changes that come regularly from groups within the Fund’s membership, together with the issues raised in the Commission Report, will become an agenda for consideration by the Executive Board and the staff in the immediate future, as they deal with the continuously changing problems that confront the international monetary system.
North-South: A Program for Survival. The Report of the Independent Commission on International Development Issues under the Chairmanship of Willy Brandt (Cambridge, MA, U.S.A.MIT Press1980).
International Monetary Reform: Documents of the Committee of Twenty (Washington, DC, U.S.A.International Monetary Fund1974).