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Supplementing the Fund’s lending capacity

Author(s):
International Monetary Fund. External Relations Dept.
Published Date:
June 1985
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Michael Ainley

The General Arrangements to Borrow (GAB) were established in 1962 by the Fund in cooperation with ten of its main industrial members (who subsequently became known as the Group of Ten). The GAB were the first, and are the longest-lasting, credit lines arranged to supplement the Fund’s quota resources, and have played an important, if controversial, role in the Fund’s history. They remained substantially unchanged until the major reforms agreed upon in 1983. This article examines the origins of the GAB and how they have worked in practice, and analyzes the 1983 reforms and their possible implications for the Fund.

Origins

The GAB were a response to the growing strains in the international monetary system in the early 1960s. These strains were caused by the underlying balance of payments problems of the two reserve-currency countries, the United States and the United Kingdom, and the greater freedom for short-term capital flows that followed the return to external currency convertibility in Europe and Japan. The frequency, scale, and unpredictability of these capital flows were expected to lead to greater demands on the Fund’s resources, particularly by the two reserve centers, which were vulnerable to capital outflows.

There were, however, doubts—even after the large quota increase in 1959—as to whether the Fund had adequate resources to meet such demands. After extensive study by senior Fund officials, the then Managing Director Per Jacobsson proposed, in February 1961, that the Fund establish standing borrowing arrangements with creditor countries, which could be used to finance large drawings on the Fund. This proposal formed the basis for the GAB. It had the advantage over more radical schemes that it could be implemented quickly, without having to amend the Fund’s Articles of Agreement.

Participants in the borrowing arrangements were selected on the basis of their economic and financial strength and the Fund’s likely needs for their currencies. The final version of the GAB was agreed upon after involved negotiations with the ten participants in December 1961, and approved by the Fund’s Executive Board in January 1962. The GAB were inevitably a compromise, political as well as financial.

Purpose and provisions

The GAB allowed the Fund in effect to borrow from members experiencing capital inflows to assist members suffering from capital outflows. For the latter, the arrangements were an extra line of defense, incorporated within the Fund’s ordinary lending procedures, alongside participants’ reserves and normal Fund drawing rights (see box). The GAB credit lines were intended to give the Fund access to sufficient resources to impress the exchange markets and deter speculation, as well as to deal with exchange market crises: denominated in the national currencies of participants, they originally totaled the equivalent of $6 billion (see table).

The GAB differed from other Fund decisions, and subsequent Fund borrowing arrangements, in several important ways. The credit lines could not be drawn on automatically by the Fund, but only with the consent of the participants, and only when supplementary resources were needed to forestall or cope with an impairment of the international monetary system. Equally significant, the credit lines could be used by the Fund only to finance transactions with the participants. In other words, they were for the exclusive benefit of the Group of Ten.

Activations of the GAB were subject to a complicated consultation procedure involving the Fund and the participants. The Group of Ten also established their own procedures for consultations among themselves. These separate arrangements allowed the Group of Ten to assess the Fund’s need for supplementary resources, to examine the adjustment policies of the prospective GAB beneficiary, and to agree on the distribution of Fund calls proposed by the Managing Director.

Borrowing by the Fund

The provision of temporary balance of payments assistance to member countries is central to the Fund’s purposes. In normal circumstances, the Fund finances such assistance mainly from members’ quota subscriptions, which are paid 75 percent in national currencies and the balance in reserve assets, usually SDRs. Quotas are adjusted at roughly five-year intervals, to reflect the growth in world trade and payments, and the changing relative economic positions of members. Total Fund quotas have risen from SDR 7.5 billion, in 1944, to approximately SDR 90 billion at present.

Quota increases do not, however, lead to proportionate increases in the Fund’s liquidity, since not all of the national currencies subscribed by members are usable to the same degree. Quota increases have not always kept pace with changes in the world economy nor in the relative capacity of members to finance the Fund. At times, therefore, the Fund’s quota resources have been inadequate to meet the actual or expected financing requirements of members—for example, when an expansion of Fund credit was warranted to deal with fundamental shifts in the size and distribution of members’ payments imbalances.

In such—exceptional—circumstances, borrowing has proved an important, temporary supplement to the Fund’s quota resources. The GAB were the first credit lines established by the Fund. In the mid-1970s, following the rise in oil prices, the Fund borrowed SDR 6.9 billion from 16 member countries and Switzerland to finance two oil facilities. In 1979 the Fund arranged borrowing agreements, totaling SDR 7.8 billion, with 13 member countries and Switzerland to finance the supplementary financing facility, for members whose payments’ imbalances were large in relation to their quotas. In 1981, and again in 1984, the Fund arranged borrowing agreements for a total of SDR 15.3 billion with Saudi Arabia, the Bank for International Settlements, and a group of industrial countries to finance the enlarged access policy, under which members may borrow larger amounts (in relation to their quotas) and for longer periods than under the Fund’s regular policies.

The GAB also provided for periodic renewals of the credit lines, which are revolving in the sense that once a creditor is repaid, the amount which can be called under its credit line is restored. Initially established for four years, the GAB were renewed for four more years in 1966 and for further periods of five years in 1970, 1975, and 1980. They have become a tacitly permanent arrangement, in contrast to the Fund’s temporary borrowing, for other specific purposes, under the 1974-75 oil facilities, the 1979 supplementary financing facility, and—more recently—the enlarged access policy.

Important changes to the GAB required not only a decision by the Fund’s Executive Board but also the agreement of all ten original participants. This helps to explain the absence of basic change in the GAB before 1983. Although Switzerland (which is not a member of the Fund) became associated with the GAB in June 1964, a potentially important provision for new participants was never used. Provisions for increasing the amount of individual credit lines were used only once, in November 1976, when the amount the Fund could borrow under Japan’s credit line was raised substantially. Other changes in the GAB were incidental rather than fundamental.

Operation

Despite their conditional character, the GAB have been a valuable source of supplementary finance for the Fund. They have been available whenever a participant was in serious difficulties, whatever the cause, and when the Fund was, or was likely to be, short of resources. They have been activated on nine occasions between 1964 and 1978, for a total equivalent to SDR 4.5 billion, to help finance large drawings by the United Kingdom, France, Italy, and the United States.

The GAB have thus enabled the Fund to assist its major industrial members on an adequate scale. At the same time, although the GAB have not been the sole source of financing for large drawings by participants on the Fund, they have allowed the Fund to better preserve its ordinary, quota, resources and hence to finance drawings by other members more easily.

The seemingly cumbersome and time-consuming activation procedures have worked quickly and flexibly. Informal advance consultations between the Managing Director and the participants have kept possible differences to a minimum; and the Group of Ten has never objected to an activation proposal by the Managing Director.

The distribution of the Fund’s calls among the GAB participants has been settled in formally, at each activation, on the basis of an initiative by the Managing Director. The participants quickly developed a concept of solidarity to show their public support for the GAB beneficiary, and almost all of them were often included in a package (sometimes for nominal amounts) by a flexible application of the formal economic criteria set out in the GAB decision.

Participants’ claims on the Fund under the GAB have proved to be highly liquid reserve assets. The Fund has always been prepared to give the overwhelming benefit of any doubt to a creditor requesting early repayment on the grounds of balance of payments need, and participants have also been able to transfer GAB claims among themselves. GAB creditors have mobilized their claims on several occasions, whenever they encountered external difficulties or were themselves drawing from the Fund.

Critics

Though the GAB have been useful for the Fund and have operated flexibly, they have always been controversial. From the outset, the Fund’s Executive Board was “not enthralled” by the arrangements. Several countries, and not solely developing countries, resented the GAB because they were exclusive in membership and benefits and because they were seen as reducing the Fund’s authority. They were criticized as being simply an agreement to agree, which gave a small club of industrial members an effective veto over important decisions by the Fund.

More generally, the GAB, and in particular the separate consultative procedures of the participants, soon became the raison d’etre of the Group of Ten, which very quickly began to play a much wider role in influencing Fund policies. For example, the main negotiations leading to the creation of the SDR in 1969 were conducted within the Group of Ten. This later prompted the developing countries to form the Group of Twenty-Four, in November 1971, to ensure that their voice would also be heard in discussions of international monetary issues.

These concerns help to explain why the GAB have not been used more frequently. There has been a widely shared feeling, among nonparticipants and among the Fund staff, that the Fund should try to avoid going “cap in hand” to the Group of Ten. The developing countries, in particular, have acquiesced only reluctantly in the periodic renewals of the GAB.

Reforms postponed

In the 1960s the GAB served their purpose well. In the 1970s, however, the far-reaching changes in the world economy and the international monetary system gave rise to growing doubts about the GAB’s role and adequacy.

Despite much talk of reform, nothing was accomplished, for three main reasons. First, the shift from fixed to floating exchange rates among the major industrial countries meant that there was less need or desire for participants to defend a particular exchange rate, less need for them to approach the Fund to support such action, and consequently less need for the Fund to use the GAB. Second, the rapid growth of the Euromarkets offered a less conditional, if more expensive, alternative to Fund borrowing. And third, the most powerful industrial countries were reluctant to take on new international policy commitments when their own economies were making difficult adjustments to inflationary pressures, higher oil prices, and deep-rooted structural imbalances. Although the Fund did borrow extensively in the 1970s, it relied more on the oil exporters, and Saudi Arabia in particular, to finance new, temporary facilities.

The GAB therefore declined in relative size and importance (although the existence and influence of the Group of Ten was not affected). Even after the increase in Japan’s credit line in 1976, the overall total remained close to what it had been in 1962, because of the effects of exchange rate changes on the value of individual credit lines (measured in SDRs). By mid-1982, the GAB totaled approximately SDR 6.3 billion, which was equivalent to only 20 percent of participants’ Fund quotas (compared with 60 percent in 1962). It was no longer certain that the GAB were sufficient to help the Fund meet concurrent drawings by some of the Group of Ten countries, let alone to fulfill their original purpose of impressing the exchange markets and preventing crises.

Reform, 1982-83

Just as it took a crisis to establish the GAB, it took another to change them. Reform of the GAB was a direct response by the major industrial countries to the serious strains in the international financial system that emerged in mid-1982 with the debt problems of Mexico and Brazil. The immediate crisis of confidence was averted by a series of ad hoc rescue packages in which the Fund took a central role. The Fund was the only international institution that could provide finance in support of adjustment programs in debtor countries and act as a catalyst for other private and official lenders.

The debt crisis, and the consequent increase in requests for Fund support on a large scale, highlighted the inadequacy of Fund resources. In 1982 and early 1983, disbursements and commitments by the Fund rose to record levels and its liquidity came under serious pressure. The obvious solution—a large general increase in quotas—was already being discussed within the Fund when the debt crisis broke. This solution was not, however, supported by major creditors, such as the United States and Germany, who favored a smaller quota increase, sufficient to cover members’ needs for temporary financing in normal circumstances.

Nonetheless, the debt crisis persuaded the major creditors to examine other ways of increasing the Fund’s resources. Reform and enlargement of the GAB stemmed from a proposal by the US Treasury Secretary in September 1982, that a quota increase should be supplemented by “an additional permanent borrowing arrangement, which would be available to the IMF on a contingency basis for use in extraordinary circumstances.”

For the major industrial countries, such a borrowing arrangement had two main advantages over a large quota increase. First, it would demonstrate to the international financial community that the Fund would be able, if necessary, to respond quickly and effectively to new emergencies. Second, because of its contingent nature, lenders to such a facility could ensure that it would be used only when the stability of the system was in jeopardy, and only to finance strong adjustment programs in the borrowing countries.

The US proposal did not refer specifically to the GAB, leaving open the possibility that lenders to the crisis facility could include countries that were not members of the Group of Ten. But the GAB offered a ready-made and well-tried framework for the proposal, since they already incorporated its principal features and underlying philosophy. It was, therefore, quicker and simpler for the Group of Ten to adapt the GAB than to start afresh with a new facility.

Reform of the GAB was, however, disliked by several Fund members, particularly developing country members, for some of the same reasons it was favored by the major industrial countries. The revised GAB were seen as a substitute for a substantial quota increase, and thus as depriving the developing countries of influence and voting power in the Fund, and holding down the amounts they could borrow under the Fund’s regular policies. The developing countries continued to resent the veto of one group of members over a major source of the Fund’s financing.

GAB: individual credit arrangements
Original amounts (Oct. 1962)Revised amounts (Dec. 1983)
ParticipantMillions of

dollar

equivalents1
Percentage

shares
Millions

of SDRs
Percentage

shares
United States2,00033.334,250.025.00
United Kingdom1,00016.661,700.010.00
Deutsche Bundesbank1,00016.662,380.014.00
France5509.161,700.010.00
Italy5509.161,105.06.50
Japan2504.162,125.012.50
Canada2003.36892.55.25
Netherlands2003.36850.05.00
Belgium1502.50595.03.50
Sverlges Riksbank1001.66382.52.25
Swiss National Bank1,020.06.00
Total6,00017,000
Source: IMF data.

Before the 1983 reforms, the credit arrangements were denominated in the national currencies of the participants.

The dollar (later the SDR) value of the arrangements and of the total, as well as participants’ shares in the total, therefore changed in response to exchange rate changes after 1962.

Source: IMF data.

Before the 1983 reforms, the credit arrangements were denominated in the national currencies of the participants.

The dollar (later the SDR) value of the arrangements and of the total, as well as participants’ shares in the total, therefore changed in response to exchange rate changes after 1962.

Elements of reform

Despite these and other criticisms, major changes to the GAB were agreed upon by the Group of Ten and the Fund’s Executive Board in early 1983 (together with an average 47.5 percent increase in Fund quotas) and became effective on December 26,1983. The main changes were as follows:

Size: The total of individual credit lines under the GAB was increased to SDR 17 billion (see table).

Individual credit lines: The shares of individual participants were adjusted to reflect the changes in their economic and financial positions since 1962, and their ability to provide resources to the Fund. As in 1962, the size of the individual credit lines was decided rather informally, with reference to a number of broad economic and financial indicators.

Participation of Switzerland: Switzerland became a participant, through the

Swiss National Bank, in the GAB. The credit line of the Swiss National Bank (equivalent to $200 million in 1964) was increased significantly, to SDR 1,020 million.

Associated borrowing arrangements: The Fund was authorized to enter into borrowing arrangements associated with the GAB, with members who are not GAB participants. Association with the GAB may take one of several forms. It may be very close, giving the nonparticipant virtually the same rights and responsibilities as a GAB participant, or it may be quite loose, in which case the precise relationship with the GAB is agreed upon separately between the nonparticipant and GAB participants. An associated borrowing arrangement, of the “looser” form, with Saudi Arabia, became effective in December 1983. Under this arrangement, Saudi Arabia stands ready to agree to lend the Fund up to SDR 1.5 billion on a revolving basis over five years, to help finance drawings by members for the same purposes and in the same circumstances prescribed in the revised GAB decision.

Use of the GAB for the benefit of non-participants: For the first time, the Fund may call on the GAB to finance drawings by nonparticipants, but only in certain well-defined circumstances. First, such drawings must be made in support of adjustment programs. Second, the Managing Director must be satisfied after consultations, which will clearly involve the GAB participants, that:

the Fund faces an inadequacy of resources to meet actual and expected requests for financing that reflect the existence of an exceptional situation associated with balance of payments problems of members of a character or aggregate size that could threaten the stability of the international monetary system.

Third, the Managing Director is required to pay due regard to potential calls on the GAB for the benefit of the participants. These criteria for nonparticipants are stricter than those for participants: for the latter, the GAB will continue to be available to finance unconditional, as well as conditional, transactions with the Fund when the system is “impaired,” rather than “threatened”—a term that suggests a time of major crisis. But the revised GAB also confirm that the Fund’s authority to lend to members does not depend simply on whether it can borrow under the GAB. This implies that if the Fund is short of resources, but cannot borrow under the GAB, it can attempt to negotiate other borrowing arrangements.

Other changes: The opportunity was also taken to update various provisions and bring the GAB into line with the Fund’s more recent borrowing agreements. For example, the interest rate payable by the Fund on GAB loans, previously linked to the Fund’s charges on drawings financed by GAB borrowing, was made market-related; the credit lines were denominated in SDRs, instead of national currencies; and the minimum amount of a credit line for new participants was raised.

Renewal and review: The revised GAB will remain in force for five years from December 1983, and their functioning will be reviewed by the Fund and the participants before any renewal.

A look ahead

The reforms do much to restore the GAB to their original relative importance as a valuable line of defense for the Fund. The fact that the Fund has access to a substantial reserve should maintain confidence, among commercial banks and official creditors, in its ability to deal with future problems in the system. Even if the enlarged GAB are not used, they enhance the Fund’s authority and standing.

More directly, the tripling of the GAB and the quota increase at the end of 1983, together with a further loan totaling SDR 6 billion from the Bank for International Settlements, the National Bank of Belgium, Japan, and Saudi Arabia in April 1984, have allowed the Fund to maintain its enlarged access policy. The Fund should therefore remain an effective agent for adjustment and an important catalyst for other financial flows.

The enlargement of the GAB means that the Fund is in a much better position to meet potential demands by the main industrial countries. Without the enlarged GAB, drawings by these countries might have put considerable strain on Fund resources. Similarly, the Fund’s ability to tap the GAB for on-lending to nonparticipants is very significant. Virtually all of the Fund’s conditional lending in recent years has been to the developing countries, which will probably continue to rely on the Fund’s financial support for some time to come. The Fund’s access to the GAB for the benefit of nonparticipants is, of course, highly conditional. But the conditions for activating the GAB may be interpreted flexibly, as in the past, and no fixed amount has been set aside for the participants’ benefit. Access to the GAB for the benefit of non-participants could thus be sizable.

In the longer run, the Fund’s liquidity could be considerably strengthened if the Group of Ten were to admit outsiders into its club. The participation of Switzerland sets an important precedent, as does the association of Saudi Arabia, which could eventually become a participant.

The revised GAB leave a number of questions unanswered. Their overall size may be insufficient to cover simultaneous demands on the Fund by participants as well as nonparticipants. Unlike in 1963-73, the current account balances of the original ten participants are not always positive in the aggregate; and some of the participants continue to have sizable current account deficits. If two major participants came to the Fund to borrow very large amounts, this could leave very little available in the enlarged GAB for nonparticipants.

Many developing countries believe that the conditions for activating the GAB for nonparticipants are overly restrictive. They are very concerned that the GAB participants will take their own view of whether the Fund is short of liquidity, and whether there is a “threat” to the system. They fear that the GAB may not be activated for nonparticipants or, if they are, only for large countries in which the GAB creditors have important interests. Similarly, the possible use of the GAB for the benefit of nonparticipants may only be temporary, since the new provisions will be closely reviewed by the participants before the GAB are next renewed.

More generally, the enlargement of the GAB, in preference over a much larger quota increase, could be interpreted as a shift to a more conservative financing role for the Fund in the mid-1980s. The GAB participants, and not the Fund, retain ultimate control over the new GAB resources. Since 1983, the major participants have pressed the Fund to provide less finance to members (in terms of quota) over shorter periods, and subject to stricter conditions.

It is therefore difficult to assess how the revised GAB will operate or how readily the participants will make resources available to the Fund. But the reform and enlargement of the GAB show that the major countries are prepared to support the Fund in a crisis. They have reaffirmed their original sense of responsibility for the international monetary system. Whatever the drawbacks, the revised GAB provide a valuable element of stability in the period ahead.

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