Chapter 1 International Monetary Law

Robert Effros
Published Date:
June 1994
  • ShareShare
Show Summary Details

The role of the International Monetary Fund is important to an understanding of the first topic of this seminar, international monetary law. An often heard statement is that the International Monetary Fund is the central bank of central banks. In support of this proposition, several arguments may be made.

First, the Fund is sometimes regarded as a lender of last resort. The Fund’s general resources are a pool of assets contributed by member countries (in amounts equal to their respective quotas), originally in gold and in each member’s currency but now in special drawing rights (SDRs) and national currencies. These resources, which are held in the General Resources Account of the Fund, may be made available to member countries for balance of payments assistance. The central banks of these countries may then add these resources to the country’s reserves and use them for their external payments. However, the Fund’s assistance is only temporary, and the resources provided have to be repaid to the Fund.

The transactions between the Fund and its member countries take the form of swaps. The member purchases specified foreign currencies or SDRs from the Fund for an equivalent amount of its currency. The reversal of the transaction will take the form of a repurchase of the member’s currency for an equivalent amount of SDRs or specified foreign currencies, unless, in the meantime, the Fund is able to sell these holdings of the member’s currency. Between the purchase and the repurchase, the value of the Fund’s holdings of the member’s currency in terms of SDRs must be maintained. If, for instance, the member’s currency depreciates in terms of SDRs, an additional amount of the currency must be paid to the Fund.

As a consequence of these transactions, members may have creditor or debtor positions in the Fund. To the extent that the Fund’s holdings of the member’s currency are below 100 percent of its quota, it means that the Fund has received from the member assets other than the member’s currency (gold or SDRs) or has sold some of its holdings of the member’s currency. In that case, the member has a reserve tranche position in the Fund and may draw, at any time and free of charge, an equivalent amount of other members’ currencies. This member is a “creditor member.” To the extent that the Fund’s holdings of a member’s currency exceed 100 percent of the member’s quota, the member has a repurchase obligation and pays periodic charges to the Fund. This member is a “debtor member.” Since the Second Amendment in 1976, however, a mixed situation can arise. The Fund may now exclude purchases made under specified policies for the purpose of calculating the reserve tranche. In practice, all purchases under the Fund’s policies are excluded. Therefore, a member may be at the same time both a debtor because of purchases made from the Fund and a creditor because the purchases are not deducted from the reserve tranche. This situation is rather exceptional, because normally a member will draw from its reserve tranche before making a purchase under the Fund’s policies.

A second argument for an analogy with central banks is that the Fund can create liquidity by allocating SDRs. The legal nature of SDRs is somewhat complex. They are not a currency, but they are reserve assets and can be used as a means of payment or to buy currencies among participants in the SDR Department of the Fund. (All members of the Fund are participants in the SDR Department.)

A third argument is that, like central banks, the Fund is more than a financial institution. It has responsibilities in the management of the international monetary system. Therefore, when providing resources to member countries, the Fund must achieve its purposes as a monetary institution. Under Article I of the Articles of Agreement, one purpose of the Fund is

(v) To give confidence to members by making the general resources of the Fund temporarily available to them under adequate safeguards, thus providing them with opportunity to correct maladjustments in their balance of payments without resorting to measures destructive of national or international prosperity.

Accordingly, when, as a condition of access to its general resources, the Fund requires the prior adoption of an adjustment program by the member, and when the actual implementation of the main features of that program (called “performance criteria”) is a condition of the continued access to the Fund’s general resources, this conditionality of the Fund’s assistance is only an application of the Fund’s stated purposes (see Article V, Section 3(a)).

Another aspect of the Fund’s role in the monetary system is the collection of information relating to the balance of payments and reserves of its members, plus more general information (such as national income and price indices). This information is provided by the authorities of member countries and compiled by the Fund. This function of the Fund may be compared with a similar role played by central banks. The Fund also publishes a balance of payments manual for the guidance of its members, as well as statistical information (International Financial Statistics) and various staff studies on international economic matters (World Economic Outlook and Staff Papers),

The fourth argument is that the Fund has some regulatory powers over its members’ monetary policies that are independent of its financial role. However, a comparison between the regulatory powers of the Fund and the regulatory powers of a central bank or other domestic agency requires circumspection. In this respect, the Fund’s powers are sui generis. Moreover, they have undergone substantial changes since the original Articles were adopted in 1944 and then amended in 1976. In general terms, the Fund’s jurisdiction over its members’ monetary policies covers both exchange rate policies and certain exchange control measures, but there have always been significant differences in the rules governing these two aspects of the Fund’s jurisdiction and the Second Amendment (1976) has deepened these differences.

Exchange Rates

The Fund’s original Articles of Agreement centered on a system of par values—that is, fixed exchange rates based on the gold standard. The par value of a member’s currency had to be expressed in terms of gold. For any devaluation or revaluation beyond 10 percent of the original par value, the concurrence of the Fund had to be requested and a fundamental disequilibrium had to be demonstrated. A change in par value without the concurrence of the Fund was not a breach of obligation but did render the member ineligible to use the Fund’s resources, as happened to France in 1948. Once a par value had been established, a relationship between two currencies could be determined based on their respective par values. This relationship was called parity, and the exchange rates for spot transactions between the two currencies could not deviate from parity by more than 1 percent. Therefore, all exchange rates (buying or selling) for spot transactions (that is, telegraphic transfers) had to be maintained within a band of 2 percent, 1 percent above and 1 percent below parity. If some rates were within and some outside the band, it constituted a multiple-currency practice, which was subject to Fund approval under Article VIII, Section 3. If all the rates moved away from parity but stayed within another band of 2 percent, and the member did not propose a new par value, this “floating rate” could not be approved by the Fund and constituted a breach of obligation under the Articles.

It should be noted, however, that under the par value system, which was based on gold, a member could decide not to maintain rates based on parity if it stood ready to convert foreign official holdings of its currency into gold at their par value. Such was the case with the U.S. dollar, which was convertible into gold at its par value of $35 per ounce of fine gold. The so-called official price of gold was actually the par value of the U.S. dollar during that period.

The system had a mathematical precision but required strict discipline from member countries. In the late 1960s and early 1970s, an increasing number of countries felt that they could no longer accept such constraints. On August 15, 1971, the convertibility into gold of the U.S. dollar was suspended, and thereafter the rates of exchange between the U.S. dollar and the major European currencies were no longer based on parity. It was a de facto, if not de jure, end to the par value system, and this extralegal situation continued until the Second Amendment in 1976.

At the time of the Second Amendment, it was agreed that the prevailing circumstances required a more flexible system, at least temporarily. Therefore, provision was made in Article IV for a non-uniform system of exchange arrangements: a member could opt for a floating rate, or for a fixed rate in terms of another currency or a basket of currencies, or for a concerted maintenance of rates with other members (such as the European Monetary System). Only reference to gold was prohibited (Article IV, Section 2(b)). Following the Second Amendment, members must notify the Fund of their exchange arrangements, which may be changed from time to time. It was recognized that a return to a par value system not based on gold or a currency could some day become feasible, and provision was made to allow the Fund, by an 85 percent majority of the total voting power, to establish a system of stable but adjustable par values (Article IV, Section 4, and Schedule C). It was envisaged that such a system could be based on the special drawing right as the unit of account. The SDR is presently the unit of account in the General Resources Account of the Fund.

While recognizing the need for greater flexibility in the international monetary system, the Second Amendment shifted the emphasis away from fixed exchange rates to a mechanism of mandatory collaboration of each member with the Fund and with other members in order “to assure orderly exchange arrangements and to promote a stable system of exchange rates” (Article IV, Section 1). Under this approach, the Fund’s jurisdiction was extended to whatever policies could affect exchange rates. However, some subtle distinctions were introduced to avoid the risk of an excessive intervention by the Fund in its members’ national policies. Under Article IV, Section 1,

… each member shall:

(i) endeavor to direct its economic and financial policies toward the objective of fostering orderly economic growth with reasonable price stability, with due regard to its circumstances;

(ii) seek to promote stability by fostering orderly underlying economic and financial conditions and a monetary system that does not tend to produce erratic disruptions;

(iii) avoid manipulating exchange rates or the international monetary system in order to prevent effective balance of payments adjustment or to gain an unfair competitive advantage over other members; and

(iv) follow exchange policies compatible with the undertakings under this Section.

The structure of this provision and the choice of verbs introducing each clause are highly significant. Two groups of policies correspond respectively to the first two and last two clauses of the provision. The first two clauses deal with “economic and financial policies” or “underlying economic and financial policies”: the member must endeavor to direct its policies to appropriate objectives or must seek to promote stability. It is an obligation to do one’s best (obligation de moyens). The last two clauses deal with “exchange rates” and “exchange policies”: the member must avoid manipulating its rates or must follow policies compatible with its undertakings. It is an obligation to refrain from certain actions or to take certain actions (obligation de resultat).

The same distinction is found in Section 3 of Article IV. The Fund is vested with a power and obligation of surveillance over the compliance of each member with all its obligations under Article I. With respect to exchange rate policies, however, the Fund must exercise firm surveillance and adopt specific principles for the guidance of all members with respect to those policies. It is added, as a precaution, that: “These principles shall respect the domestic social and political policies of members, and in applying these principles the Fund shall pay due regard to the circumstances of members” (Article IV, Section 3(b)).

A possible conclusion about the result of this evolution from the original Articles to the Second Amendment is that the Second Amendment has strengthened the role of the Fund over its members’ exchange policies. However, a better word would be expanded, because an expanded power is not necessarily a stronger power. True, the Fund’s jurisdiction now extends to a wide range of policies, but it is more difficult to exercise in the absence of precise criteria as to what members are required to do. There is also a risk that the exercise of this power would be regarded as discriminatory, since it is essentially judgmental in its application.

In one respect, however, precise rules of conduct have been maintained. The prohibition of multiple-currency practices, which existed under the original Article, has survived the Second Amendment (Article VIII, Section 3). To that extent, it remains possible to take action against a member following certain exchange rate policies that are inconsistent with the Articles. It also remains possible for the Fund to approve such practices. Similarly, in the area of exchange control measures, the powers of the Fund have remained the same as under the original Articles.

Exchange Control Measures

With respect to exchange control measures, the Fund has two functions. The first function is the receipt of complete information, from member countries, on their exchange controls, including changes in such controls as they occur (Article VIII, Section 5). Every year, the Fund publishes this information in the Annual Report on Exchange Arrangements and Exchange Restrictions.

The second function of the Fund is to ensure compliance by members with their obligations concerning exchange restrictions. The main provision in this respect is Article VIII, Section 2(a), which prohibits the imposition, without the approval of the Fund, of restrictions on the making of payments and transfers for current international transactions. An exception is made under Article XIV, Section 2, for members that have exchange restrictions when joining the Fund and do not wish to accept the obligations of Article VIII, Sections 2, 3, and 4. They may maintain and adapt their restrictions without Fund approval. Once a restriction is removed, however, it may not be reintroduced without Fund approval.

The jurisdiction of the Fund over exchange restrictions does not apply to restrictions on capital transfers. Under Article VI, Section 3, a member is free to regulate international capital movements, which has been interpreted by the Fund to include the freedom to have different rules for transfers from or to certain other members. Nevertheless, these regulations on capital transfers should not restrict or delay the making of payments or transfers for current international transactions, and it may be noted that the Fund’s definition of payments for current transactions is rather broad. For instance, it includes not only interest on loans and income from other investments but also payments of moderate amounts for amortization of loans or for depreciation of direct investments (Article XXX, Section (d)), although the latter would normally be regarded as capital rather than current transfers.

Another important distinction for the purposes of Article VIII, Section 2(a), is between exchange controls and exchange restrictions. A restriction is a prohibition, a limitation, an undue delay, or a special cost (for instance, an unfavorable rate constituting a multiple-currency practice). But a verification procedure to ascertain the existence of a debt before authorizing a payment is an exchange control measure, not an exchange restriction, unless the procedure results in undue delays. An exchange control measure, if it is not restrictive, does not require the approval of the Fund.

A few other points are worth noting. Article VIII, Section 2(a), applies only to the making, and not to the receiving, of payments and transfers. Accordingly, a member may restrict payments to its residents or require them to surrender their foreign exchange receipts to the central bank. Also, the provision applies to payments and transfers, not to the underlying business transaction. An import license is not an exchange measure, unless it is an exchange license in disguise—for instance, when import licenses are delivered in application of a limited foreign exchange budget. In one case, the concept of payment extends to certain services: a restriction on the provision of “normal short-term banking and credit facilities” would be regarded as an exchange restriction, because these facilities are an element of the making of the payment. Finally, to be protected by Article VIII, Section 2(a), the payments or transfers must be international. A payment or transfer between residents of the same country is domestic and may be restricted.

The restrictions envisaged in Article VIII, Section 2(a), are those that are imposed by a member. A debtor’s default on a debt is not a restriction if it is not due to a governmental measure prohibiting or delaying the payment. A restriction may be imposed by various means. The Fund may find a restriction even when no formal regulation has been enacted. Thus, a member’s practice may be found to be restrictive—for instance, when arrears become the norm rather than the exception. Reciprocally, if a restrictive regulation is no longer applied and the public is informed of this de facto suspension, there is no restriction.

Usually the restrictions on current payments or transfers are imposed for balance of payments reasons. Sometimes they are imposed for the preservation of national or international security, because a state of war or political tension has arisen between two member countries. All such restrictions are subject to Fund approval, regardless of their motivation. The only difference is that the Fund has adopted a special, simplified procedure for the approval of restrictions that are imposed for security reasons.

Since an unapproved restriction subject to Article VIII, Section 2(a), would be a breach of obligation under the Articles, the member imposing the restriction may wish to request the approval of the Fund. When approval is requested for balance of payments reasons, it will be granted only if the Fund finds that the restriction is necessary in view of the member’s circumstances, temporary in the sense that the member will take measures to eliminate it as soon as possible, and nondiscriminatory regarding other members of the Fund.

Once the restriction is approved by the Fund, it is consistent with the Fund’s Articles as long as the approval remains in force. Usually, the approval for balance of payments reasons is given for no more than one year but may be renewed. One of the consequences of the Fund’s approval will be the recognition of the restriction by the courts of other members under Article VIII, Section 2(b), as a defense against the enforcement of exchange contracts involving the member’s currency. This issue was examined in the first volume of Current Legal Issues Affecting Central Banks.


The Fund performs a variety of functions, some of which resemble those of a central bank, but in an international context. In one respect, however, there appears to be a fundamental difference. The Fund’s resources come mainly from its members’ quota subscriptions; they can be supplemented by loans, but only to a limited extent and temporarily. Hence the importance of the recent discussions on the size of the Fund: Should quotas be increased, and if so, by how much? In comparison, a central bank’s capital is not its main preoccupation; it is usually an infinitesimal part of its assets.

However, this comparison between quotas and capital is misleading. What should be compared with the Fund’s quotas are the reserve assets of a central bank. What the Fund provides to central banks are the reserve assets they need for their operations. In this respect, an insufficient liquidity of the Fund could also affect central banks. Moreover, it should be borne in mind that, among the currencies held by the Fund, only about 60 percent of the total holdings are in currencies strong enough to be used in Fund transactions. Thus, only to the extent that its holdings of such currencies are increased can the Fund continue to perform its essential function of assisting its member countries toward the solution of their balance of payments problems.

    Other Resources Citing This Publication