Chapter

III. Main Provisions, 1962-82

Author(s):
Michael Ainley
Published Date:
September 1984
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1. Purpose

The General Arrangements were designed to give the Fund adequate resources to impress the exchange markets and deter speculation, as well as to deal with exchange market crises. They allowed the Fund to borrow from those of its members among whom short-term capital movements were likely to occur, and thus to enlist the support of countries experiencing capital inflows in assisting a country suffering from capital outflows.20 They were an extra line of defense, incorporated within the Fund’s ordinary lending procedures, alongside participants’ reserves and normal Fund drawing rights.

It was, however, a conditional line of defense. Under the Fund decision which established the GAB, each participant reserved the right to decide whether or not to lend to the Fund—the only borrowing agreement of the Fund where this is so. However, to counterbalance this, the participants agreed “in a spirit of broad and willing cooperation” to stand ready to lend their currencies to the Fund, up to specified amounts, when supplementary resources were needed “to forestall or cope with an impairment of the international monetary system” in the new conditions of widespread convertibility.21 It was also possible, not under the GAB decision but under the consultation procedures established by the participants themselves, for the participants to decide, collectively (by vote), to meet a proposed call by the Fund, a decision which would normally oblige individual participants to lend.22

2. Overall Size

The credit arrangements, which were denominated in the national currencies of participants, originally totaled the equivalent of US$6 billion.23 This figure was regarded as sufficient to cover concurrent use of the Fund’s resources by the United States and the United Kingdom, then the most likely possibility, or to finance large drawings by the other major industrial countries. It would thus enable the Fund to cope with a large U.S. payments deficit vis-à-vis the continental European countries, or the opposite situation.

More specifically, studies by the Fund staff indicated that the Fund might require some US$2 billion in dollars, in addition to its holdings of dollars and gold, to meet possible drawings by major industrial countries other than the United States and by developing countries. This was important in determining the amount of the U.S. credit line. The same studies showed a potential need for some US$3.5-5 billion in currencies, other than the U.S. dollar and pound sterling, to meet a combination of demands from the two reserve centers and the smaller industrial countries. The Fund staff was not, however, able to estimate the precise extent of the Fund’s likely need for pounds sterling. The total of US$6 billion, eventually agreed, was within the range suggested by these calculations.

3. Individual Credit Lines

The credit lines established for individual participants are shown in Table 1.

Table 1.GAB: Individual Credit Arrangements, 1962
U.S. Dollar
Units of Participant’sEquivalentPercentage
ParticipantCurrency(in millions)Share
United StatesUS$2,000,000,0002,00033.33
United Kingdom£357,142,8571,00016.66
Deutsche Bundesbank1DM 4,000,000,0001,00016.66
FranceNF 2,715,381,4285509.16
ItalyLit 343,750,000,0005509.16
Japan¥ 90,000,000,0002504.16
Canada2Can$216,216,0002003.36
Netherlandsf. 724,000,0002003.36
BelgiumBF 7,500,000,0001502.50
Sveriges Riksbank1SKr 517,320,0001001.66
Total6,000100.00

Both the Sveriges Riksbank and the Deutsche Bundesbank are empowered, by domestic legislation, to lend to the Fund. They are, therefore, participants in the GAB in their own right and not simply agents of their respective governments. The commitment of Sweden was transferred to the Sveriges Riksbank between December 1961, when the Group of Ten agreed to establish the General Arrangements, and October 1962, when they entered into force.

The amount for Canada, initially fixed at Can$208,938,000, was increased before the General Arrangements came into force to maintain the credit line equivalent to US$200 million after the devaluation of the Canadian dollar in May 1962.

Both the Sveriges Riksbank and the Deutsche Bundesbank are empowered, by domestic legislation, to lend to the Fund. They are, therefore, participants in the GAB in their own right and not simply agents of their respective governments. The commitment of Sweden was transferred to the Sveriges Riksbank between December 1961, when the Group of Ten agreed to establish the General Arrangements, and October 1962, when they entered into force.

The amount for Canada, initially fixed at Can$208,938,000, was increased before the General Arrangements came into force to maintain the credit line equivalent to US$200 million after the devaluation of the Canadian dollar in May 1962.

The main economic rationale for country shares was the participants’ gold and foreign exchange reserves, which were considered a more appropriate measure, at least in the short run, of their ability to make resources available than were Fund quotas. This rationale was consistent with the new guidelines, then under discussion at the Fund, for selecting currencies to finance transactions with members,24 and also with the view that lending to the Fund was a matter of changing the composition of participants’ reserves.

The amounts for the nine participants other than the United Kingdom were based, very broadly, on a similar percentage (15 percent on average) of their reserves in late 1961. The amount for the United Kingdom, however, while not out of line with its Fund quota, constituted a considerably larger percentage of its reserves (30 percent). This reflected, in part, the low level of U.K. reserves in relation to the country’s economic size and also the importance of the pound sterling in world trade and payments at the time. The amount for the United States, one third of the total, was determined as much by the Fund’s potential need for dollars, explained earlier, as by the level of U.S. reserves.

Political factors and straightforward bargaining were just as important. The six participants from the European Community, for example, maintained, successfully, that their combined share should at least equal that of the United States. In the case of the United Kingdom, prestige and the wish to have a large voting power in the separate consultation procedures established among the participants in the GAB25 were perhaps as significant as the Fund’s need to meet an exceptional demand for pounds sterling.

These political considerations were unavoidable. Similar political considerations were to make it difficult to rearrange the participants’ shares at subsequent renewals. The status quo was preferred to potentially controversial changes.

4. Activation

The formal procedures for activating the GAB were set out in a January 1962 decision of the Fund’s Executive Board.26 They were supplemented by separate arrangements, within the Group of Ten, described in a December 1961 letter from Wilfrid Baumgartner (then French Finance Minister and Chairman of the Group of Ten’s Finance Ministers) to the other GAB participants.27

Under the 1962 decision, the Fund could call on the GAB to finance either a stand-by arrangement or an “exchange transaction” (without a stand-by arrangement) with a participant.28 The central, unwritten purpose of the GAB was to cover anticipated large drawings, under standby arrangements, in the credit tranches by one or both of the reserve centers. Such drawings would normally be phased and subject to conditions in line with the Fund’s “policies and practices.”29 The phrase “exchange transaction” also left open the possibility that the General Arrangements could be used to finance more or less automatic drawings, subject to very little or no conditionality, in the gold (now reserve) tranche30 or in the first credit tranche. The Fund’s ability to call on the GAB to finance gold tranche drawings was not specifically discussed when the General Arrangements were established; but the participants subsequently agreed on a procedure for this, in 1968, when they also confirmed that the General Arrangements could be used to cover drawings by all participants (i.e., not just by the two reserve centers).31

In theory, if not in practice, the Fund proposed and the Group of Ten disposed. Under the formal procedures of the 1962 decision, there were five main steps to be followed once a participant approached the Fund for a drawing. The Managing Director had first to come to a judgment, after consultation, that GAB resources were needed to forestall or cope with an impairment of the system. He had then to consult with Executive Directors and GAB participants on a possible proposal to activate the GAB. The GAB participants had then to accept the proposal as a group. Each participant then notified the Fund, individually, that it accepted the proposed call under its credit line. Finally, the proposal had to be approved by the Executive Board, which also had to approve the participant’s request to use Fund resources. The Executive Board wanted to have the last word, so that the Fund would not be forced to borrow from the GAB simply because the participants had agreed to lend.

The separate arrangements, outlined in Baumgartner’s letter, put considerable emphasis on consultations “in a spirit of international cooperation”32 within the Group of Ten. These consultations were seen as a way of allowing the Group of Ten to assess the Fund’s need for supplementary resources, to examine the adjustment policies of the prospective beneficiary, and to agree on the distribution of the Fund’s call among themselves.

The participants aim at reaching “unanimous agreement”33 in their consultations, but there are also fallback provisions in the Baumgartner letter for voting on a proposal by the Managing Director. All participants other than the prospective beneficiary are entitled to vote, even if they are not included in the proposal, since they may be asked to provide substitute amounts at a later date. Abstention is permitted only on the grounds of balance of payments and reserve weakness, which would justify a refusal to lend. A favorable decision requires a two-thirds majority of the participants voting and a three-fifths majority of their votes weighted according to the amount of each participant’s credit line.

This voting system differs from that used in the Fund in two important respects. In the Fund, voting power is weighted largely according to members’ quotas. Second, in the Fund—unlike the GAB—the beneficiary of a transaction is not disenfranchised when the Executive Board votes on the transaction. The GAB voting procedure effectively limits the influence of the United States and the United Kingdom, who were seen as the two most likely beneficiaries when the General Arrangements were set up.

If the necessary majorities are secured, the participants are then bound by the collective decision to lend in the general order of magnitude of the Fund’s proposed call. An individual participant may still opt out, or decide to lend a smaller amount than proposed, if this is justified on balance of payments and reserve grounds; the other participants would then fill the gap.34

Taken together, these activation procedures appear complex and time-consuming. They appear to anticipate controversy, both between the Fund and the Group of Ten, and among the members of the latter. In practice, however, such difficulties have been largely avoided.35

5. Calls

Under the 1962 decision, the participants to be called on, and the amounts to be called from individual participants, are based, at each activation, on two things. One is each participant’s “present and prospective balance of payments and reserve position,” and the second is the Fund’s holdings of their currencies—that is, how much of the participants’ currency subscriptions (quotas) the Fund has already used and whether it is short of a particular currency or currencies.36 In practice, these criteria have been supplemented by more informal arrangements among the participants.37

After the distribution of the total call has been agreed, there is provision for an actual or prospective creditor to opt out, either at the outset or subsequently, on balance of payments and reserve grounds or to say that calls should be made for a smaller amount than proposed. The Managing Director is then authorized to arrange substitute amounts with the other creditors.38 This has happened on several occasions. For example, planned calls on France, in June 1968 to finance part of a U.K. drawing, and on the Deutsche Bundesbank, in February 1970 to finance part of a French drawing, were not made because of worsening in the French and Germany balance of payments positions, respectively.

The Fund may call the whole of an agreed total at once if the General Arrangements are being used to finance an immediate, unconditional drawing by a participant. If, however, the beneficiary’s drawings on the Fund are phased under a stand-by arrangement, the Fund’s calls on the GAB are correspondingly phased. In these cases, the Fund calls on GAB creditors, if possible in proportion to their agreed shares in the total call, each time the beneficiary draws on the Fund.

The Fund’s calls on the GAB, and the Fund’s related lending, thus take place simultaneously. Both sides of the transaction are effected on the same day. This procedure protects GAB creditors from sharp fluctuations in the Fund’s ordinary holdings of their currencies, which determine their rights and obligations within the Fund.39

6. Repayment

Lending by GAB participants is, essentially, medium-term; but the repayment provisions of the 1962 decision were (and are) such that the Fund could pass through early repayments by borrowers, and participants could get their money back in a crisis.40 More specifically, the Fund is required to repay each loan by participants after five years, or earlier if the GAB beneficiary is committed to repay the Fund within five years. The Fund is also required to make prompt repayment, in proportion to its indebtedness to participants, if the beneficiary makes an early repayment (repurchase) to the Fund.

The Fund also has the right, after consulting a participant, to make an early repayment, in full or in part, at any time. Consultation is required before early repayment to allow for the possibility that a GAB creditor may wish to retain its loan claim as a desirable reserve asset.41 The Fund has not, so far, exercised the early repayment provision, but it could perhaps be useful if, for example, the Fund’s liquidity position improved dramatically soon after the General Arrangements were activated.

Of most significance to participants is the provision specifying that the Fund is bound to give “the overwhelming benefit of any doubt”42 to a creditor requesting early repayment on the grounds of balance of payments need. This important principle, which has been incorporated into other Fund borrowing arrangements, has ensured that GAB claims are highly liquid assets which can be mobilized at very short notice. They have been mobilized on several occasions, usually when a creditor was encountering external difficulties or was itself borrowing from the Fund—for example, Canada in February 1968 (US$35 million), Belgium in July 1969 (US$70 million), and Italy in July 1970 (US$330 million).

Once a repayment is made to a participant, the amount which can be called under its credit line is restored pro tanto. The credit lines are, therefore, revolving, in line with the view, shared by GAB participants and the Fund from the outset, that the General Arrangements should be something more than a temporary arrangement for a limited period. In this sense, the General Arrangements are very different from the Fund’s subsequent borrowing operations.

Although the participants lend to the Fund in their own currencies, the means of repayment have always been more varied to allow flexibility on both sides. Originally, the Fund had the choice to repay either in the participant’s currency “whenever feasible,”43 or in gold, or, after consultation with the participant, in other currencies that were “convertible in fact.”44 If a participant requested early repayment on the grounds of balance of payments need, the Fund could repay in gold or in the currencies of other members that were “convertible in fact.”45 The option to repay in currencies that were “convertible in fact” (which were not limited to the currencies of the ten participants) gave the Fund an extra means of repayment if a GAB beneficiary repaid the Fund in currencies other than those borrowed from the GAB. It also provided assurance to participants requesting early repayment that they could obtain currencies that would meet a balance of payments need.

In 1974-75, the option of repaying in currencies convertible in fact was replaced by “currencies that are actually convertible”—a technical, rather than a substantive, change.46 The option of repaying in SDRs was also introduced at the same time;47 and the option of repaying in gold was removed in 1978 to conform with the reduction in the role of gold under the Second Amendment of the Articles of Agreement.

7. Transferability

The January 1962 Decision provided that a participant could not transfer all or part of its GAB claims, except with “the prior consent” of the Fund and “on such terms and conditions as the Fund may approve.”48 The restrictive language was based on the Fund’s understandable concern that GAB claims should not be transferred either to another participant in a vulnerable external position or to a nonparticipant who might encash the claim, thus causing refinancing difficulties for the Fund. The Fund was also reluctant to allow the transfer of interest-earning claims to members who were using its resources.

In practice, these provisions have not stood in the way of transfers between GAB participants, which have enhanced the liquidity of GAB claims. In June 1968, for example, when France borrowed from the Fund, its outstanding claims under the GAB, equivalent to US$140 million, were transferred to Belgium, the Deutsche Bundesbank, Italy, and the Netherlands. Again, in December 1969, the Fund consented to the transfer by the Deutsche Bundesbank of claims totaling US$210 million to Canada, Italy, Japan, and the Netherlands.49

The provisions were also updated and broadened, at the participants’ request, in March 1979, when the Executive Board decided to give participants freedom to transfer, at any time, all or part of their GAB claims to another participant, at a mutually agreed price, provided that the transferee had a remunerated (income-earning) reserve-tranche position in the Fund and had no outstanding repurchase obligations to the Fund.50 Transfers involving the Swiss National Bank were also allowed, with provisions made to protect the Fund’s liquidity.51 The March 1979 Decision effectively legalized the status quo and brought the GAB more into line with the comparable provisions in the supplementary financing facility.52

8. Interest Rate

Claims on the Fund under the GAB were secure, as well as liquid, investments. They were as good as gold because their value was maintained in terms of gold. They were, in fact, better than gold because the Fund originally paid interest, in gold, at a rate of 1.5 percent per annum, together with a ½ of 1 percent transfer charge on each loan.53

The interest rate was not high, partly because the General Arrangements were seen as a cooperative effort to protect the system and partly because GAB claims had other—desirable—qualities, which have already been referred to. Also, at the time, the Fund was not obliged to pay remuneration on credit extended by members to finance the Fund’s ordinary transactions with other members. There was, however, provision in the original Articles of Agreement for a discretionary, preferential distribution of net income of up to 2 percent on average net creditor positions, and this was one reference point in determining the 1.5 percent rate on GAB loans. The inclusion of a transfer charge provided creditors with additional income. The more technical justification was to compensate creditors for possible exchange losses arising from a creditor lending its own currency but being repaid in other currencies it might not want to retain.54

A new interest rate formula was, however, adopted in 1975, at the time of the third renewal of the GAB, when it was agreed that the Fund should pay interest quarterly to GAB creditors at the same rate it levied charges on drawings financed by GAB borrowing but, in any event, not less than 4 percent per annum.55 This was a compromise between prospective GAB creditors, who wanted a higher market-related interest rate—for example, the 5 percent agreed in June 1974 for the SDR interest rate—and the Fund, which wanted to protect its income position and avoid financial loss in GAB transactions. As it was, the new formula, together with the transfer charge, which was retained despite some support for its abolition among GAB participants, meant that the Fund received no net income on transactions financed with GAB resources in the late 1970s. On the other hand, GAB creditors were not overcompensated, since Fund charges were well below market interest rates.56

In 1975, it was also agreed, that payments of interest and charges by the Fund—as well as repayments of loans (discussed earlier)—could be made in SDRs, the participant’s currency, or other actually convertible currencies. The option of paying in gold was retained, since the controversy about the role of gold in the system was still unresolved; it was, however, removed in 1978.57

9. Renewal and Modifications

The General Arrangements became effective in October 1962, when the participation requirements, namely adherence by at least seven participants with credit lines of at least US$5.5 billion, were met. Canada was the last participant to join, in January 1964. Initially established for four years, the GAB was renewed for four more years from 1966, and for further periods of five years from 1970, 1975, and 1980.

Renewals, and modifications at the time of each renewal, are decided by the Fund, by a simple majority of the votes cast in the Executive Board, not later than 12 months before the end of the current period of effectiveness. The concurrence of the participants is not required in these decisions, but participants have a unilateral right to withdraw from the GAB, as renewed, within a specified time. None have done so. In practice, the participants can exert decisive influence on renewals and modifications through their combined voting power on the Executive Board. Amendments to the GAB at any other time require the concurrence of all participants, as well as a decision by the Executive Board.58

These provisions have helped to keep changes to a minimum. Those changes that occurred before 1982-83, which were described earlier, have been responses to outside developments, such as related changes in Fund procedures and practices. They have been incidental rather than fundamental. The potentially important provisions for new participants were not used. Those for increasing the amount of individual credit lines59 were used only once (which will be explained later).

10. Association of Switzerland

The General Arrangements were, however, strengthened by the association of Switzerland, which is not a member of the Fund, in June 1964.60 Discussions between the Fund and Switzerland took place from early 1962 onward. From the Fund’s standpoint, it was sensible to close the gap in the GAB framework, since Switzerland was one of the main countries from which and to which short-term capital flowed. Linking Switzerland to the GAB was also seen as a possible way of encouraging Switzerland to join the Fund. The Swiss interest in an association agreement was to attain a formal standing within the Group of Ten and to expand their domestic legislative authority to make international loans. Indeed, once the association agreement was established, the Swiss preferred to lend to the Fund outside the rather cumbersome provisions of that agreement.

Under the association agreement, which has been extended at each renewal of the GAB, Switzerland was prepared, but not obliged, to make resources available to GAB participants up to a maximum of Sw F 865,000,000 (US$200 million in 1964) when a participant was drawing from the Fund and the General Arrangements were being activated. The terms and conditions were similar, but not identical, to those for other GAB creditors, except that a loan by Switzerland did not go through the Fund but was made directly to the GAB beneficiary. It also required a separate implementing agreement between Switzerland and the GAB beneficiary. Switzerland was free to decide both whether to enter an implementing agreement and whether to lend under it. In part, this was because of the GAB precedent and also because Switzerland, at that time, thought there would be more justification to lend to the two reserve-currency countries than to other participants.61

The association agreement was formally activated in November 1964 and May 1965, when the General Arrangements were first used to finance two large drawings on the Fund by the United Kingdom. On these occasions, implementing agreements were concluded between the Swiss National Bank and the Bank of England for the equivalent of US$80 million and US$40 million, respectively. A different procedure was, however, followed in December 1976 and April 1977, when the Swiss National Bank participated in financing stand-by arrangements for the United Kingdom and Italy. In these later cases, the Fund and Switzerland found it quicker and simpler to set up ad hoc loan agreements “at call” with the Swiss National Bank for the equivalent of SDR 300 million and SDR 37.5 million, respectively.62

The association of Switzerland increased the resources available to the Fund in two ways—directly through the extra US$200 million, and indirectly since Switzerland was not a member of the Fund and could not borrow from it under the GAB.63 It meant there was more available for the other participants, and it helped the Fund to spread the financing burden when the General Arrangements were activated.

11. Increase in Japan’s Credit Line

The only change, before 1983, in the amounts of the original credit lines was in November 1976, when Japan increased its credit line from ¥ 90,000,000,000 (then equivalent to about SDR 265 million) to ¥ 340,000,000,000 (about SDR 1,000 million). The increase reflected the rapid growth of Japan’s economy and its growing importance in the international financial and trading system since the early 1960s. It also reflected the more immediate concern of Fund management that the organization should have sufficient resources to meet prospective demands from the United Kingdom and Italy, who were, at that time, engaged in preliminary negotiations for stand-by arrangements. Japan, for its part, was willing to strengthen the Fund so that it could encourage these, and other, deficit countries to adjust without recourse to import controls and payments restrictions. Japan also wanted to strengthen its case for an increased quota share in the Fund at the next general review of quotas.

In retrospect, the immediate factors were probably more significant, since the relative economic and financial positions of the other participants had also changed considerably. This, in turn, underlines the essentially passive nature of the GAB since 1962 and the need for some kind of crisis—in 1976, an imminent shortage of Fund liquidity—to provoke fundamental changes. Even then, allowing for exchange rate changes after 1962 (discussed later on), the increase in Japan’s credit line simply raised the overall size of the GAB to the equivalent of approximately SDR 6,200 million, or only slightly more than the original total.

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