This article describes the origin of the Fund, its organization, and its method of working, and gives some examples to illustrate what the Fund has been doing during its eighteen years of life.
Some of the terminology which the Fund uses is also explained.
IN THE PERIOD between the two World Wars many people came to realize that the world’s monetary system was inefficient. It was a system almost devoid of any concerted international control; generally speaking, each country was responsible only to itself for the value it set on its own currency in terms of gold, which was the generally accepted international standard.
The depression of the 1930’s brought home the dangers inherent in this situation. As economic activity in the major industrial countries declined to low levels there was a sharp drop in their imports, which through a chain reaction caused a decline in international trade. The ability of almost every country to buy foreign goods in exchange for exports was thereby sharply reduced. But the exporting countries needed imports—for instance, the primary producing countries needed the manufactures of the advanced industrial countries—and to pay for them many countries reduced their reserves of gold and internationally acceptable currencies (particularly sterling and dollars) to a dangerously low level.
To protect their reserves, some countries restricted their citizens’ freedom to buy abroad; some reduced unilaterally the value of their currencies (devaluation); some introduced complicated systems of exchange rates (multiple currency systems) by which imports of different kinds, costing equal amounts of foreign currencies, required different amounts of the domestic currency to buy them.
But these expedients, adopted by almost all the countries of the world by the end of the 1930’s, were mutually defeating; no country was able to maintain for long whatever competitive advantage its devaluation or its multiple currency arrangements brought to it. It was a game of “beggar my neighbor,” and it did no good to the world economic situation. The value of world trade in 1929 was $55.9 billion; at its lowest ebb in 1932 it was $21.8 billion; and even by 1937-38 it had risen only to $24.3 billion.
Notwithstanding the anxieties and turmoil of the war years, those who were responsible for world economic affairs set themselves to the task of considering a number of schemes for some new kind of international authority, which would both set a standard of conduct in international monetary affairs and also help actively to regulate them by operations designed to assist countries to achieve balance in their international payments.
At the international conference at Bretton Woods in New Hampshire in 1944 the International Monetary Fund emerged as an amalgam of these various plans. The Fund incorporates both of the aims of its founders. Countries which join the Fund undertake to adhere to a code of fair practice—to decide among themselves on a system of agreed exchange rates, and not to change these arbitrarily—and also to a code of liberal international payments. At the same time, they become members of an active, cooperative institution possessing a large reserve of gold and foreign currencies with which it can assist any member that gets into difficulties in the international monetary field.
The Articles of Agreement of the Fund, which were drawn up at Bretton Woods, set out objectives for the new institution: to help any member in difficulties and to concern itself actively in preventing a recurrence of the practices of the 1930’s. One of the Fund’s primary obligations is “To facilitate the expansion and balanced growth of international trade”; but even this is not represented as an end in itself—it is a step toward “the promotion and maintenance of high levels of employment and real income and … the development of the productive resources of all members….”
The Fund has accordingly as its aim the economic prosperity of the whole world. If it failed in this objective it would fail altogether, for it cannot go on offering its members the right to purchase or “draw” foreign currencies from its pool unless acceptable currencies are returned to the pool within a reasonably short period. And members will not be able to repay unless their economic systems are generally progressive and are able to overcome the payments difficulties which made their borrowings necessary in the first place. So the Fund places high on its list of aims that of helping its members to keep their economies growing and becoming stronger. It tries to do this in all possible ways—by giving advice and technical assistance, as well as by providing foreign currencies when required. How the Fund sets about these tasks is described in the next section.
THE FUND MECHANISM
The Articles of Agreement of the Fund, which are its charter (usually known as “The Fund Agreement”), entered into force on December 27, 1945, when the stipulated proportion of prospective members had signed them. At December 31, 1945, the Fund had 30 members; by April 30, 1964, it had 102. Its headquarters are in Washington. Its members include nearly every major country in the world, except for countries in the Soviet group. Every member appoints a Governor (who is usually the minister of finance or the governor of the central bank) and an Alternate Governor. In September or October of each year there is a meeting attended by all the Governors and Alternate Governors, at which the Fund’s work in the past year is reviewed and policies for the future are considered. This Annual Meeting is held jointly with that of the International Bank for Reconstruction and Development.
With certain specific exceptions, the day-today business of the Fund has been delegated by the Governors to the Executive Board, which presently consists of 19 Executive Directors (mostly full time in Washington). The 5 members which have made the largest subscriptions to the Fund—that is, the countries with the largest “quotas” in the Fund, the United States, the United Kingdom, France, the Federal Republic of Germany, and India—appoint one Director each. The other 14 Directors are elected for two-year terms by the other members; 3 Directors cover the Latin American countries, and the other 11 cover the rest of the world. Each Executive Director appoints an Alternate from among the countries which have elected him.
MEMBERSHIP OF THE FUND
The Executive Board is technically in continuous session, and in practice meets regularly—usually not less often than weekly. This makes quick action possible; the Fund Agreement requires prompt decisions on a number of urgent questions, such as certain proposals to change the “par values” of currencies—that is, their agreed exchange rates in terms of gold or the U.S. dollar. The Managing Director of the Fund, who is Chairman of the Executive Board, serves also as the head of an international staff of about 600. He is assisted by a Deputy Managing Director.
The Fund pursues an active program of economic research. For this purpose, it systematically collects and publishes data on international trade, holdings of gold and foreign currencies, national income, price indices, restrictions on international payments, international movements of capital, and so on. All this is part of the background against which discussions of problems of individual members are carried on by the Executive Board.
The basis for the financial relationships between the Fund and a member country is that country’s “quota”—i.e., its subscription to the Fund. Normally, one fourth of the quota is subscribed in gold and the other three fourths in the member’s own currency. The pool of currencies which the Fund thus holds provides it with the resources with which to help a member in difficulties; such a member can purchase from the Fund a supply of the currencies which it needs for purposes of international trade in exchange for an equal value of its own currency, within limits described below.
Consultations and Technical Help
Relations between the Fund and its members are close and continuous. One of the occasions for collaboration is afforded by a request for financial assistance—that is, for a “drawing.” The Fund’s policy is to require that any assistance which it provides in this way must be repaid within three to five years; members, knowing this, put forward, with their request for a drawing, a description of the policies which they are pursuing, or will pursue, to correct their balance of payments problem and thus enable repayment to be made within the required period. But that is not the only time when a member is in touch with the Fund about its policies. The Fund Agreement specifically provides that, if a member is still operating under Article XIV, which permits it to retain, during a transitional period, restrictions on international payments, it shall consult with the Fund once a year as to the further retention of these restrictions. These annual consultations proved to be so useful to the Fund and to the members that most of the countries which have shifted to Article VIII (which, as explained below, imposes additional obligations to avoid restrictions) have decided to continue to consult the Fund, once a year, about their affairs.
The consultations involve a two-stage process. First, members of the staff discuss matters with ministers or officials of finance departments and central banks, usually visiting the member country to do so. These staff members subsequently prepare a report which presents the facts of the situation and contains the staff’s evaluation and a draft of any formal decision which might be necessary. The report is discussed by the Executive Board of the Fund at one of its frequent meetings. During this discussion, the Executive Director representing the country in question normally explains what its policy is, especially in directions to which the report has drawn attention, and other Executive Directors in turn make comments and suggestions in the light of the experience of other countries with similar problems. In this way, the policies and problems of every member country come before the Board, usually once a year. Consequently, if at any time a country needs to ask for a drawing, its circumstances are already well known, and it is possible for the Board to concentrate immediately on the particular difficulty which has precipitated the request.
In addition to these annual consultations, members of the staff are frequently sent, upon the request of member governments, to help local officials to deal with particular economic problems. Sometimes these visits are quite short; sometimes they are for long periods. The occasion for these missions most often arises when a member country is facing an unstable economic situation, such as an inflation of the currency or a sudden fall in export earnings. The member needs then to introduce measures to rectify the trouble and to avoid or stop a serious loss of foreign exchange. Sometimes in these circumstances new or increased restrictions on payments cannot be avoided. But they disrupt international trade, harm other members, and obscure the basic problem besetting the member which introduces them; they do little or nothing to cure it. The aim of the Fund is to help the member country to devise and carry out a program of fundamental action to stabilize the financial situation so as to establish—or re-establish—a basis for resumption of sound and vigorous economic growth. Sometimes the program of action may call for measures to curtail an excessive expansion of purchasing power in relation to the real supplies which the country has available. Steps may be needed to balance the budget or to bring the fiscal deficit within the range which can be financed without feeding inflation. Other steps may restrain the banks from unduly creating credit. Sometimes, when conditions have so changed as to involve a permanent realignment of the country’s position, it may be necessary for the member to propose a change in the par value of its currency.
Whatever the problem, the Fund stands ready to assist by any means in its power—not only by making its financial resources available but by putting at the member’s disposal its experience in relation to similar problems elsewhere.
The Fund also conducts, at headquarters, a series of training programs for persons nominated by member governments. Each program lasts for five months and is attended by about 25 people, who are usually from the staffs of ministries of finance and central banks.
Drawing on the Fund
The Fund’s financial assistance to a member takes the form of an exchange of currencies. The member purchases from the Fund a stated amount of the currency it wishes to have, in return for an equivalent amount of its own currency, calculated ordinarily on the basis of the par value agreed with the Fund.
The aggregate amounts of various currencies that a member may draw are linked to the size of its quota and to the amount of the Fund’s holdings of its currency. A drawing which does not raise the Fund’s holdings of the member’s currency above the amount of its quota is granted almost automatically; that is known as a “gold tranche” drawing because initially the difference between the amount of the Fund’s holdings of the member’s currency below the total of the quota and the amount of the quota was equal to the amount of the member’s gold subscription (that is, that part of its quota which is subscribed in gold). The Fund adopts a liberal attitude toward drawings of an amount not exceeding an additional 25 per cent of the member’s quota (the “first credit tranche”), if the member is making reasonable efforts to overcome its payments problems. For drawings of larger amounts (in “higher tranches”), the Fund expects the member to make intensive efforts to overcome its difficulties, usually through a comprehensive program of fiscal and monetary measures. There have been some instances of countries drawing sums as large as their quotas, and a few cases where even more has been drawn.
There is a service charge of ½ of 1 per cent on all drawings. Further charges, which are applied to the Fund’s holdings of a member’s currency in excess of its gold tranche, begin at a rate of 2 per cent per annum. The scale rises in proportion to the amount of foreign exchange drawn and to the length of time that the member’s currency is held by the Fund. All charges are normally payable in gold.
Since 1952, members have been able to obtain, as alternatives to immediate drawings, assurances by the Fund that if drawings do become necessary they may be made up to specified limits and within an agreed period without the member’s position being further considered at the time of a drawing. These are known as stand-by arrangements. A charge of ¼ of 1 per cent is made for a stand-by arrangement; this charge is refunded against the charges for any drawings made under the arrangement. In practice, almost all drawings made from the Fund in recent years have been made in pursuance of stand-by arrangements.
In addition to drawings under the ordinary arrangements of the Fund, as described above, a country which is suffering from a temporary decline in its export earnings may apply for a special drawing to compensate for this decline. Such a special drawing, which will normally not exceed one fourth of the country’s quota, may bring the total of its currency held by the Fund over the limit (otherwise so far maintained) of twice the country’s quota.
As stated above, it is a condition of a drawing from the Fund that the amount drawn should be repaid within a maximum period of three to five years. Earlier repurchases are often made, either voluntarily or else under a requirement, embodied in the Articles of Agreement, that a member must repurchase some of the Fund’s holdings of the member’s currency if there has been an increase in that member’s monetary reserves in gold or foreign exchange within a specified period. A member’s repurchase obligation is reduced to the extent that other members draw its currency from the Fund. Repurchases, which take the form of buying back from the Fund some of the Fund’s holdings of the member’s currency, may be made in gold or in a convertible currency of which the Fund holds less than 75 per cent of the quota of the member issuing it.
From the income which it earns from “its operations and from the investment of a portion of its gold, the Fund has covered its administrative costs, built its headquarters building, and accumulated reserves which currently amount to some $200 million.
THE FUND IN ACTION
The following pages describe some representative examples of the Fund’s activities over the past eighteen years. During this period it has sold the equivalent of more than $7 billion to 49 different countries, and has conducted some hundreds of consultations. Almost a hundred par values have been established and many adjustments in official rates of exchange have been approved by the Fund. In addition, the Fund has assisted its members in scores of instances to formulate policies to overcome their economic problems. Any examples cited can therefore be no more than illustrative. But they will indicate at least some of the fields in which the Fund’s work is done.
We may begin with what is perhaps the most abstruse of the Fund’s duties, the supervision of par values.
One of the principal objectives of the Fund was the establishment of fixed par values in order to avoid the curse of the interwar period—competitive devaluation. Each member of the Fund is obliged to agree with the Fund on what the par value of its currency shall be—that is, the ratio of its currency unit to the U.S. dollar and to a stated amount of gold. Once the par value is agreed, the member is obliged to maintain the actual buying and selling rates for exchange transactions in its currency within 1 per cent either side of the established par value. Consequently, when the Fund started operations in 1946 it devoted a good deal of attention to agreeing upon the initial par value to be given to each of its members’ currencies. There was, however, not much information available in that early postwar period on which to form a long-term view, and it was recognized that circumstances might well make it necessary to change these initial par values in a few years.
In the course of 1949 a feeling developed in the Fund that the process of postwar adjustment had pulled the real values of many currencies away from the par values originally agreed with the Fund, and the problems created by this disparity occupied a good deal of the attention of the Fund during that year. For instance, although the par value of the pound sterling was $4.03, British exporters found themselves unable to offer for £1 goods of a value comparable to that which purchasers in other countries could obtain in the United States for $4.03. British exports did not expand, although British imports continued to rise because the British economy is very dependent upon imports of food and raw materials as well as of manufactured products. This payments imbalance meant that the British monetary authorities had to dip heavily into their reserve holdings of gold and dollars. To the payments difficulties arising from the trade deficit there was added pressure on sterling from speculation as foreigners, nervous about the future value of sterling, offered to sell as quickly as possible, for dollars, any pounds that came their way.
In September 1949, the Fourth Annual Meeting of the Fund was held in Washington; as always, it provided an opportunity for ministers of finance and central bankers from all over the world to get together to discuss their problems. The Governor for the United Kingdom took the opportunity to propose to the Fund the devaluation of sterling. After the meetings closed on Friday evening, the Fund went rapidly to work, dealing with proposals in the light of its work during the preceding months, and between then and the following Monday morning, when the financial world resumed business, it had agreed to reductions in the par values of the currencies of the United Kingdom, Australia, Denmark, Egypt (now the United Arab Republic), Norway, and South Africa. Within the next three days, corresponding adjustments were agreed for Belgium, Canada, Iceland, India, Iraq, Luxembourg, and the Netherlands. Similar changes were made at that time by a number of other countries which had not yet agreed with the Fund upon par values for their currencies or which were not members of the Fund.
The new pattern set in those few days has remained substantially unaltered. Insofar as the major industrial countries are concerned, the only exceptions have been that, in agreement with the Fund, France (which in 1949 had temporarily abandoned the par value earlier agreed with the Fund) established a new par value for the franc in 1958; the Federal Republic of Germany and the Netherlands each increased its par value by 5 per cent early in 1961; and after a lengthy period in which the value of the Canadian dollar was allowed to fluctuate, Canada agreed with the Fund on a new and lower par value in May 1962.
Within this general pattern, however, there have been a number of instances in which the Fund has agreed with less developed countries that the time has come for a change. Most frequently this has followed a period when the country has experimented with restrictions of various kinds and with multiple currency practices, and it has become clear that a fresh effort was needed to eliminate the distortions in the economy in relation to competing economies. Sometimes the chief trouble has been a serious decline in exports, perhaps owing to a fall in the price of an important export, such as coffee. Sometimes an overambitious program of development has severely strained the economy because the resulting credit expansion has been inflationary.
What exactly has been the Fund’s share in the ensuing adjustment? The Articles of Agreement provide that the country itself must take the initiative in proposing a change in its par value, so that the Fund’s part is to afford international scrutiny of the proposal. But the Fund’s share in the process, though passive, is still important, for two reasons: One, a country wishing to change its par value has to convince the other Fund members that it is justified in doing so, and that the new parity which it seeks to establish is a fair one. Two, the cumulative experience of the Fund in watching the changes in par values since 1949 has helped to bring into being a body of knowledge about the usefulness and the effects of changes in par values which was not previously available, but which can now be drawn upon by any country. As a consequence of these two developments, the world can be better assured than ever before that, if a country devalues, it does so for good reason and to no greater extent than its circumstances warrant.
A second responsibility of the Fund concerns members’ restrictions on payments and transfers for current international transactions. Article XIV of the Fund Agreement provides that during a transitional period member countries may, without seeking Fund approval, retain those payments restrictions which they had found necessary to impose during World War II to protect their reserves of gold and foreign exchange. With regard to residents of a member country, the restrictions generally took the form of requiring permission from the finance department or the central bank before international payments could be made with the use of foreign currency. The Fund has consistently encouraged its members to examine the feasibility of ending recourse to these transitional arrangements, and to accept the obligations of “convertibility”—that is, to move from Article XIV to Article VIII. The obligations of Article VIII require the country concerned to refrain from imposing restrictive measures on current payments and transfers without the Fund’s approval.
In the first few years after the Fund began operations in 1947, the only countries which felt prepared to accept the obligations of Article VIII were ten in the Western Hemisphere: Canada, Cuba, the Dominican Republic, El Salvador, Guatemala, Haiti, Honduras, Mexico, Panama, and the United States. All the other members continued to operate under Article XIV. It was not until 1961 that the gradual recovery of economic strength in Western Europe enabled the major countries there to move also to Article VIII. The acceptance of these obligations in February and March 1961 by Belgium, France, the Federal Republic of Germany, Ireland, Italy, Luxembourg, the Netherlands, Peru, Saudi Arabia, Sweden, and the United Kingdom; in 1962 by Austria; in 1963 by Jamaica and Kuwait; and recently by Japan, has greatly extended the range of freedom from restriction of the foreign exchange markets.
It is something quite new in international relationships to have in existence an institution continuously concerned with encouraging countries to ease restrictions on payments, and thereby to stimulate increased international trade. Without the steady moral influence thus brought to bear by the member countries collectively upon each one individually, it is doubtful whether many countries would yet have felt ready to cut loose from the familiar framework of restrictions. It is also important that this same collective body was and is able to help its member countries with substantial financial aid as they prepare to scrap their restrictions.
This brings us to the aspect of the Fund’s work most conspicuous to the outside world, namely, its provision of foreign exchange to members needing to draw on its resources. The Fund makes available to its members the pool of gold and currencies which have been subscribed by its members. The extent to which this pool has been drawn upon has varied greatly from time to time; one of its most active years was its first, 1947, when eight countries drew a total of $467.7 million—the United Kingdom taking $240 million and France $125 million.
In 1948, however, the Marshall Plan came into effect, and as long as that arrangement lasted the Fund felt it was unnecessary for it to assist Europe further. For some years thereafter the amounts drawn by its members were relatively small, ranging from nothing in 1950 to $230 million in 1953. For the five years 1951-55, in fact, repurchases exceeded new drawings every year, with the result that by December 1955 the net amount due to the Fund had been reduced to $234 million. During the eight years 1948-55, drawings were made by 24 countries, of which 8 were in Latin America and 7 in Europe.
OUTSTANDING BALANCES OF DRAWINGS FROM THE FUND, AND UNUSED STAND-BY ARRANGEMENTS, ON APRIL 30, 1948-64
1/ Austria, Belgium, Canada, Denmark, France, Federal Republic of Germany, Italy, Japan, Luxembourg, Netherlands, Norway, Portugal, Sweden, Switzerland.
Meanwhile, in 1952 the Fund had introduced the use of stand-by arrangements, by which member countries that so wish are given assurance of support should they need it, rather than immediately drawing on the Fund. A major use of stand-by arrangements was made in 1956, when, after the interruption of the Suez Canal traffic, the United Kingdom came to the Fund for an immediate drawing of $561.5 million and a stand-by arrangement for $738.5 million, the two sums together making up 100 per cent of the United Kingdom’s quota at that time. In 1956 and 1957, 25 other members came to the Fund for assistance, and drew or obtained stand-by arrangements for a further $1.2 billion. From January 1, 1957 through March 31, 1964 the Fund provided assistance to 49 members; 46 members have actually drawn and 3 members (Jamaica, Morocco, and Venezuela) have entered into standby arrangements but have not drawn. The total amount drawn during the same period was $5.6 billion. These figures include the Fund’s largest transaction to date, i.e., one with the United Kingdom, which in August 1961 drew $1,500 million and entered into a stand-by arrangement for a further $500 million—the two together representing about 103 per cent of the United Kingdom’s current quota.
In the early years of the Fund, drawings were made almost exclusively in U.S. dollars, although small amounts of Belgian francs and of pounds sterling were also drawn. Indeed, before May 1958 less than 9 per cent of drawings had been made in currencies other than U.S. dollars. Since then, the situation has changed considerably, as other currencies have become stronger and therefore more useful to countries needing foreign exchange resources. In the last three years only about one third of the currencies drawn were U.S. dollars, and the amount of dollars drawn was substantially exceeded by the amount repaid to the Fund on account of earlier drawings, so that the Fund’s holding of dollars grew by $300 million during the three years.
Looking back over the years during which the Fund has been assisting its members financially, we find that it has made available about $11 billion in drawings or in unused stand-by arrangements; 54 members have had recourse to the Fund’s resources; and at one time or another the currencies of 14 different members have been used to assist others. Something like $1.7 billion of the Fund’s resources used to support its members’ individual reserves is still outstanding and another $2 billion is still committed under stand-by arrangements.
The Fund’s Resources
As explained above, these resources have come from the subscriptions of the members joining the Fund (which are equal to their quotas). The initial quotas, which in 1947 rose to $7.7 billion, were based on a volume of trade (and so on prospective needs) related to wartime price levels. After the war, international trade greatly expanded and prices rose until the total of quotas available began to appear less adequate to cope with a possible emergency.
By the autumn of 1958, after the experience of pressure during the Suez crisis, members came to feel that additional resources were needed; therefore, at the Annual Meeting in New Delhi that September, the Governors instructed the Executive Directors to consider an enlargement of the Fund’s resources through increases in quotas. In a report submitted to the Governors in December, the Directors emphasized that the experience of 1956-58 showed how needs for assistance were likely to be concentrated into relatively short but severe periods of difficulty affecting several countries at once; in those circumstances, the Fund’s resources might prove to be too small to enable it to cope effectively with the requests for assistance. The Directors therefore recommended an increase of 50 per cent in the quota of each member, with additional increases for Canada, the Federal Republic of Germany, and Japan (which would enlarge the Fund’s holdings of currencies particularly likely to be drawn), and also for a number of other members, including all members with small quotas. These recommendations were adopted by the Board of Governors. As a result of these changes and of new members joining the Fund, the total of quotas has risen from the equivalent of $9.2 billion at the end of 1958 to more than $15 billion today.
But the volume of international transactions has not ceased to grow; in fact, during the last two or three years it has been enhanced by large flows of capital into and out of the main European countries. Interest rates in different countries have differed, so that there have been opportunities for profit by taking advantage of the higher rates available in other countries once their currencies had become convertible. Volatile flows of capital of this kind create dangers for the country in which the capital is temporarily lodged; if some fear of weakness in the currency of that country should induce the owners of the capital to withdraw it all at once, there would be a heavy run on that country’s reserves. This reinforced the need for the Fund to have available a fully adequate supply of resources.
On this occasion, however, it became clear that the resources required would essentially be those of the main trading countries, since it was only among them that the need for such emergency assistance would arise. They were the countries where the large investments of private capital had been made. Accordingly, it was felt that a further general increase in quotas was not called for at that time. Instead, the Fund made arrangements, which became effective in October 1962, to borrow (if and when needed) some $6 billion in the currencies of the ten main trading countries. So far, the Fund has not needed to draw on this reserve; and it is quite conceivable that the fact that these resources are now available will make it unnecessary for the Fund to borrow them.
The growth of the Fund’s resources, like the expansion of its membership, provides a measure of the degree to which it has become an established international institution; but those elements in its role, involving par values and the maintenance of a code of practice, which cannot be measured should not on that account be underrated.