Chapter

Chapter 2: The Policies of the Fund

Author(s):
International Monetary Fund
Published Date:
September 1961
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Early in 1961 the wider area of convertibility of the world’s main currencies, which had been established de facto in December 1958, was formally completed by the acceptance by most of the countries concerned of the obligations of Article VIII of the Fund’s Articles of Agreement. During the past year, and in part related to the same circumstances that permitted the extension of currency convertibility, new problems arose in the world payments situation. These have led the Fund to review ways in which it may be of increasing usefulness to its members in the new situation.

Convertibility

At the Annual Meeting of the Board of Governors in September 1959, there was a discussion of the conditions under which Fund members would give up the transitional arrangements of Article XIV of the Agreement and formally undertake to observe the obligations of Article VIII, Sections 2, 3, and 4. This discussion was pursued in the Executive Board, which adopted on June 1, 1960 the decision reproduced in Appendix I.

On February 15, 1961, 10 member countries—Belgium, France, Germany, Ireland, Italy, Luxembourg, the Netherlands, Peru, Sweden, and the United Kingdom—accepted the obligations of convertibility for their currencies as set forth in Article VIII; and in March, Saudi Arabia also announced its acceptance. The total number of countries under Article VIII has now risen to 21, since 10 other countries, all in the Western Hemisphere,1 had previously accepted the obligations of that Article.

Countries which avail themselves of Article XIV of the Agreement are permitted to maintain and adapt restrictions on payments and transfers for current international transactions without obtaining the prior approval of the Fund. Article VIII, on the other hand, requires members which are subject to its provisions to avoid such restrictions, multiple currency practices, and discriminatory currency arrangements. The 11 countries accepting the obligations of Article VIII this year had made no, or only minor, use of restrictions on current transactions. If in future any of these countries wish to make use of such measures, they will have to obtain the prior approval of the Fund.

This move to Article VIII became possible after years of effort by the 11 countries to strengthen their internal economies and to achieve a satisfactory balance of payments and reserve position and outlook. At certain critical moments in these years, the Fund played a part by providing financial assistance to a number of these countries and by pressing for the removal of restrictions—not only in general statements of policy, but also in the annual consultations it held with all countries availing themselves of Article XIV.

The widening of the area of formal convertibility has important implications for the Fund’s general activities. Over the past two years, the currencies of some of the countries concerned were increasingly drawn by other member countries, but under the Fund Agreement it was not permissible to use those currencies to make repayments to the Fund. The removal of this limitation may be an added encouragement to the use of a larger number of currencies in Fund transactions.

In accordance with the view expressed in the Executive Board’s decision of June 1, 1960, that there would be great merit in voluntary discussions between the Fund and member countries under Article VIII, the Fund began in May 1961 its regular consultations under this Article. In this way, the Fund will be able to provide an effective forum for the exchange of views on monetary and fiscal, as well as payments, problems, and thus to promote international monetary and economic cooperation in a changing world. The importance and value of these arrangements is enhanced by the fact that the Fund’s membership and objectives are world-wide. Discussions in the Fund are fully international in scope, and they give an opportunity to all members, large and small, to express their views and contribute to the formulation of policy.

Practically all currencies used to finance international trade and payments are now convertible under Article VIII. This constitutes an important step toward the realization of the multilateral system of payments envisaged in the Fund Agreement. It also gives added assurance that the convertibility of the major trading currencies will continue unimpaired, and that the balanced growth of world trade will not be hampered by any unwarranted use of exchange restrictions.

The substantial improvement in the payments system just described has been accompanied by a great reduction in discrimination in trade policies, although some discrimination still exists, especially as applied to some non-dollar, non-OEEC countries. The important problem on which attention should now center is that of achieving a world situation in which not only payments but also the underlying transactions themselves are free from restrictions. The Fund is cooperating closely with the Contracting Parties to the General Agreement on Tariffs and Trade in the international action intended to attain this result as rapidly as possible.

As the foregoing situation has developed, the Fund has been reviewing its practices and considering what adjustments in its activities will be necessary. Considerable progress in this review has been made during the last financial year. As this Report was written the review had not, however, been concluded. In the broader sense, indeed, it seems unlikely that the process of adjusting the tasks and operations of the Fund to the developing payments situation can at any time be brought to a final conclusion. The international monetary system cannot consist of fixed arrangements expected to be suitable forever, and the Fund must, within the framework of its Articles of Agreement, develop in keeping with the evolution of its members’ financial and monetary needs and potentialities. The Articles give latitude for constructive arrangements that will meet the needs of members under present and foreseeable conditions.

Currencies to Be Purchased from the Fund

One aspect of adaptation in the last few years has been concerned with the currencies to be drawn from the Fund. For the first ten to twelve years of its life, the Fund, in its financial aspects, was primarily an agency from which member countries drew U.S. dollars and to which they made repayments in dollars or gold. Now that so many countries have re-established their monetary position, it is proper that drawings should be made in a wider variety of currencies. Much progress along these lines has already been made. Whereas in 1957 all drawings were made in U.S. dollars, in 1960 almost half of all drawings were in other currencies, and in recent months the proportion has been even higher. It has become well established that countries making substantial drawings consult the Managing Director as to the currencies most suitable for drawing before making their formal request for Fund assistance.

In order to integrate Fund operations into the multilateral system of world payments, drawings have increasingly been directed toward the currencies of countries that are accumulating reserves or that have relatively large reserves. As a result, the countries whose currencies are drawn hold part of their total international liquidity in the form of creditor positions in the Fund. These creditor positions represent highly liquid foreign assets, since they can be readily drawn upon as need arises. Moreover, the gold value of these assets will be maintained in accordance with the provisions of Article IV, Section 8, of the Fund Agreement.

The primary effect of the policies just indicated has been to make use of the Fund’s holdings of certain currencies that are not reserve currencies. Individual drawings, especially the larger ones, have been made in a number of currencies, even though in some cases the currencies drawn were not usually held in the reserves of the drawing country. In a world of convertible currencies, a country can use any convertible foreign currency to meet a deficit in its balance of payments. It does not need to intervene in the exchange market to settle a particular transaction or its bilateral payments balance with any individual country. Individual transactions and the total of transactions with an individual trade partner are indistinguishably merged, in a situation of convertibility, into the totality of the payments and receipts of the country concerned and the payments and receipts of all its trade partners. The Fund’s practices recognize these new conditions and thus assist in ensuring that drawings on the Fund are distributed over a wide range of currencies, so that not only the countries with reserve currencies are called upon to give credit to the Fund.

Some drawings of nonreserve currencies have been converted by the drawing member into a reserve currency, when this facilitated the member’s use of the resources obtained from the Fund. It will be feasible in many instances to make such conversions as may be required through the exchange markets. However, a number of countries whose currencies have been drawn on a substantial scale in recent months have indicated that, where necessary, they would also be willing to convert, in direct inter-central-bank transactions, drawings of their currency.

Use of the Fund’s Resources

The Fund has continued to be guided by the policies on the use of its resources which have been worked out in preceding years and outlined in previous Annual Reports. Members are given the overwhelming benefit of the doubt in relation to requests for transactions within the “gold tranche,” that is, the portion of the quota which can be regarded as equivalent to the gold subscription. The Fund’s attitude to requests for transactions within the “first credit tranche,” that is, transactions which bring the Fund’s holdings of a member’s currency above 100 per cent but not above 125 per cent of quota, is a liberal one, provided that the member itself is also making reasonable efforts to solve its problems. Requests for transactions beyond these limits require substantial justification. They are likely to be favorably received when the drawings or stand-by arrangements are intended to support a sound program aimed at establishing or maintaining the enduring stability of the member’s currency at a realistic rate of exchange. In accordance with all the principles outlined above, the Fund has in appropriate cases continued to receive from members seeking to purchase exchange or to enter into stand-by arrangements declarations of intent as to the programs that they intend to follow. These policies and procedures have worked well and have now stood the test of repeated application; experience has shown that they enable the Fund to conduct its operations with flexibility and dispatch, and that they serve the interest of the countries receiving assistance.

One aspect of Fund transactions on which there has been further evolution during the past year should be mentioned. Prior to February 1961, no country had outstanding drawings or a stand-by arrangement with the Fund for amounts that in the aggregate exceeded 100 per cent of its quota. The first approval for a larger amount was given in connection with a combined drawing and stand-by arrangement requested by Chile. The drawing was of Argentine pesos, with which to liquidate the balance outstanding under Chile’s bilateral payments agreement with Argentina and thus to assist in the termination of that agreement. This was also the first application of a policy adopted by the Executive Directors on June 22, 1955, under which the Fund contemplated the use of its resources, where appropriate, to help to terminate bilateral payments arrangements.

All members of the Fund, large and small, have access to its resources under adequate safeguards. Drawings on the Fund occur in a variety of circumstances, and should not therefore be regarded as indicating an emergency. The authorities in a number of countries have stated that they regard use of their countries’ drawing rights in the Fund as a normal way of supplementing their reserves and that they would not hesitate, if necessary, to make use of these rights. These statements provide a welcome indication of the importance which members attach to their access to the Fund as part of their over-all international liquidity position.

Use of the Fund’s Resources to Finance Capital Transactions

With the greater freedom for movements of funds, new attention has been focused on the extent to which the Fund can finance balance of payments deficits due to capital movements. When the Fund began its operations in 1946, capital controls constituted a feature of the payments mechanism of most members. Since then, the evolution of financial conditions throughout the world has been characterized by increased convertibility of currencies, a return to effective exchange markets, and a large and increasing degree of freedom from exchange controls, even in the case of capital movements. In this situation, even countries exercising a strict control over capital movements by their residents have found their exchange positions at times greatly affected by them.

In these circumstances, the Executive Board has considered it desirable to re-examine the legal and policy aspects of the Fund’s provisions with respect to capital movements, and it is now engaged in this task.

Increase in the Fund’s Resources by Means of Borrowing

In order to promote exchange stability, which is one of its main objectives, the Fund must have substantial resources at its disposal, so as to be able to act decisively in all foreseeable circumstances. Its resources are about $15 billion, of which more than $3 billion is in gold (including $800 million temporarily invested in U.S. Treasury bills) and more than $6 billion in convertible currencies. About two thirds of these resources arose from original contributions, and about one third from the general and special quota increases for which the initiative was taken at the Annual Meeting of the Governors in New Delhi in October 1958.

These resources should be sufficient in the aggregate for most situations that the Fund might have to meet. But circumstances may arise in which the Fund may need additional supplies of certain currencies. To meet such contingencies, the Fund is empowered by Article VII to replenish its holdings by borrowing the currency required or by purchasing it for gold.

The Executive Board is considering the use of the Fund’s borrowing powers, so as to prepare in good time for such contingencies as may arise. A beginning has been made with the examination of several aspects of the question of borrowing. Although a variety of techniques can be envisaged, attention has been concentrated on the possibility of concluding credit arrangements of a stand-by nature between the Fund and the industrial countries, under which the Fund would be able to borrow supplementary amounts of their currencies whenever the need might arise. This approach looks beyond the immediate needs and endeavors to equip the Fund to handle flexibly the many and varied situations that may arise under a system of freely convertible currencies.

See, e.g., Annual Report,1959, pages 70-74.

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