Chapter

CHAPTER 2 Objectives

Author(s):
International Monetary Fund
Published Date:
February 1996
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Author(s)
Margaret G. de Vries

When the fund was established, the founders had six purposes in mind. These were, as stated in Article I of the Fund Agreement:

  • (i) To promote international monetary cooperation through a permanent institution which provides the machinery for consultation and collaboration on international monetary problems.

  • (ii) To facilitate the expansion and balanced growth of international trade, and to contribute thereby to the promotion and maintenance of high levels of employment and real income and to the development of the productive resources of all members as primary objectives of economic policy.

  • (iii) To promote exchange stability, to maintain orderly exchange arrangements among members, and to avoid competitive exchange depreciation.

  • (iv) To assist in the establishment of a multilateral system of payments in respect of current transactions between members and in the elimination of foreign exchange restrictions which hamper the growth of world trade.

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

  • (vi) In accordance with the above, to shorten the duration and lessen the degree of disequilibrium in the international balances of payments of members.

INTERDEPENDENT OBJECTIVES

The intention was that countries which joined the Fund would conform to certain standards of behavior in international financial matters. An elaborate and detailed code of what was considered good conduct was drawn up; it called for exchange stability, orderly exchange arrangements, the avoidance of competitive exchange depreciation, and a liberal regime of international payments—that is, convertibility of currencies and freedom from exchange restrictions.

Adherence to this code of conduct was not an end in itself. The specific goals of exchange rate stability, freedom from exchange restrictions, and convertibility of currencies were rather viewed as essential for the achievement of full employment and the maximum development of productive resources—objectives which were regarded by practically all countries at the close of World War II as primary.

The logic was that good conduct in international financial relations would foster a high level of international trade and investment. More specifically, the Fund’s purposes implied that fixed exchange rates, freedom from exchange restrictions, and multilateral trade and payments were the best basis for international financial cooperation and for promoting world trade and investment. Expanding world trade and investment were, in turn, regarded as essential for the attainment of the even broader objectives of full employment and economic development in all member countries.

In the past, national economic policies had frequently led to restrictive measures in the international field, and thereupon to international economic conflict. The purpose of the new cooperation to be achieved through the Fund was to reconcile domestic and international objectives.

It was recognized that such reconciliation could not be assumed. In the forefront of economists’ attention at the time were the questions whether full employment and balance of payments equilibrium could be attained simultaneously and, if so, what policies in the international field were compatible with the maintenance of full employment at home.1 There were those who argued that, under certain assumptions, multilateral trade and payments might not maximize world trade.2 The issue of the consistency of economic development—especially in what were only later to be called “the less developed countries”—with the international objectives of exchange stability and free trade and payments was still in the wings, rather than on stage, in economists’ thinking.3 While these questions were being debated, those who were proceeding with setting up and operating the International Monetary Fund took the view that these goals were not only compatible but even mutually reinforcing.

However, the architects of the Fund were fully aware that a permanent institution would be needed if the specified aims were to be accomplished. International cooperation was now to replace the exclusive authority of governments in fields in which decisions had previously been taken solely in the national interest. Resolving the conflicts that would arise and making the necessary day-to-day decisions would inevitably require continuous consultation and collaboration among the member countries. The Fund was thus intended as part of the permanent machinery of international monetary cooperation to be set up after World War II, rather than as an emergency agency to meet the temporary needs associated with the aftermath of war.

But it was also realized that the Fund would need to do more than enforce a code of conduct. The harmful financial practices which had characterized international relations prior to the Fund’s establishment had been adopted because countries were short of foreign exchange. The Fund was, therefore, provided with large resources which it could make available to its members. Consequently, while countries joining the Fund agree to strict rules for the conduct of their international financial relations, they become members of an institution that possesses a large reserve of gold and foreign currencies with which it can assist any member that gets into payments difficulties.

The Fund can thus be thought of as having two types of function. What are sometimes called its regulatory functions consist of determining and enforcing the code of behavior in international financial and monetary matters. Its financial functions consist of making available to its members the resources to which it has access.

Other agencies of international cooperation were to supplement the Fund’s functions. The International Bank for Reconstruction and Development was established to assist countries in obtaining funds for long-term investment. The International Trade Organization was planned—but never came into being—to reduce barriers to international trade, such as tariffs and trade quotas, and to set standards of behavior in the international trade field analogous to those established by the Fund in international financial matters.

We now turn to a brief description of the code of conduct administered by the Fund and of its financial assistance, as envisaged in the Articles.

Exchange rate stability

The first part of the code of conduct consists of rules about exchange rates. Article IV provides for fixed exchange rates. Members agree to decide through the Fund on a system of exchange rates—that is, par values—for their currencies, and not to change these rates without consulting the Fund. Related obligations concern the price of gold.

Exchange rate stability is not, however, tantamount to rigidity. On the contrary, the exchange rate is to be adjusted when necessary to correct a fundamental disequilibrium in the member’s balance of payments. But it is implicit in the Articles that exchange rates should be adjusted at only infrequent intervals: fundamental disequilibrium (although it has never been formally defined) is distinguished from merely ephemeral balance of payments disequilibria, such as those associated with seasonal, speculative, or possibly even short cyclical, disturbances.

The initiative for changing an exchange rate is reserved to the member concerned: the Fund cannot propose it. With minor exceptions, however, the member must seek the Fund’s approval for the proposed change, and the Fund concurs if it is satisfied that the change is necessary and sufficient to correct a fundamental disequilibrium. If a member changes the par value of its currency despite the Fund’s objection, the Fund may declare the member ineligible to use its resources and, subsequently, may even require the member to withdraw from membership.

The principal intention is to empower the Fund to prevent undue fluctuation or undue depreciation of exchange rates, or both. It is one of the explicit purposes of the Fund to outlaw competitive exchange depreciation—that is, depreciation in excess of that required to remove a fundamental disequilibrium.

Currency convertibility and freedom from exchange restrictions

The second part of the code of conduct consists of rules about exchange restrictions and similar practices, and requires members to establish and maintain a multilateral system of payments. It is envisaged that each member, after a transitional period of varying duration, will accept certain obligations set out in Article VIII. This Article provides that no member may, without the approval of the Fund, impose restrictions on the making of payments or transfers for current international transactions, or engage in discriminatory currency arrangements or multiple currency practices. Article VIII further provides for the convertibility of currencies—namely, for arrangements by which any trader exporting from one member country to another can secure effective payment in his own currency, and by which a member is free to use a payments surplus with any other member to pay for its deficit with a third country.

The aim of the Articles is that exchange restrictions shall be minimized—indeed eliminated—in the conviction that they are harmful to the growth of world trade and result in distortions in the domestic economies of members which discourage maximum economic growth and rising standards of living.

However, it was recognized at Bretton Woods that conditions after World War II would probably be such as to make it impossible, for some time to come, for many countries to accept in full the obligations pertaining to abolition of restrictions and establishment of convertibility. A transitional period, during which members might maintain and adapt their exchange restrictions, was therefore provided by Article XIV. But even members taking advantage of this Article were to do their best to remove restrictions as soon as possible. After five years they were to consult with the Fund annually regarding any remaining restrictions, and the Fund was given authority to apply pressure on them to withdraw such restrictions.

Financial assistance

The Fund’s financial assistance to a member takes the form of an exchange of currencies. When a member wishes to draw on the Fund’s resources, it purchases from the Fund some foreign currency that it can use and pays in a corresponding amount of its own currency, which the Fund then holds. Conversely, when a member pays back the drawing, it repurchases its own currency from the Fund with gold or some currency acceptable to the Fund. Such transactions are analogous to borrowing and repaying.

These transactions affect the Fund’s holdings not only of the currency of the drawing or repurchasing member, but of the currencies of other members as well. While a drawing, for instance, increases the Fund’s holdings of the currency of the member making the drawing, it reduces the holdings of the currency drawn. The Articles provide that the Fund shall be a revolving fund; that is, whatever the Fund pays out to its member countries is sooner or later to be returned to it. The drafters at Bretton Woods planned that in ideal conditions the Fund would hold 75 per cent of each member’s quota in that member’s currency.

The purpose for which the Fund’s resources are to be made available is stated in Article I (v) to be that of providing members “with the opportunity to correct maladjustments in their balance of payments without resorting to measures destructive of national or international prosperity.” This purpose implies temporary use of the Fund’s resources.

The provisions for repurchase and for charges on drawings also indicate the temporary nature of the Fund’s assistance. The idea on which the repurchase provisions in the Agreement are based is that an increase in a member’s monetary reserves indicates an improvement in its balance of payments position. Any member that has drawn from the Fund an amount equal to more than half of its balance of payments deficit in any one year has to pay back the excess; thereafter, half of any payments surplus, or rise in reserves, has to be paid to the Fund in the form of a repurchase of the member’s currency, although such repurchases are not required of a member whose reserves have fallen sharply or are less than its quota. Charges on drawings increase not only with the amount of the drawing outstanding relative to quota, but also with the time for which the drawing has been outstanding.

The concept of the Fund’s assistance is that the Fund’s resources form a secondary source of reserves for a member with a temporary balance of payments deficit; the member’s own reserves constitute its first line of defense. Use of the Fund’s resources makes it unnecessary for a member, in the absence of adequate reserves of its own, to resort to other means for coping with a temporary payments deficit. The solutions especially to be avoided for short-term deficits are exchange rate devaluation—reserved by the Fund’s Articles for balance of payments deficits of a fundamental character—and exchange restrictions which curb the flow of trade and payments.

WORKING TOWARD THE OBJECTIVES

So much for the Fund’s objectives as intended by its Articles. In working toward these goals the Fund has encountered many problems and a series of ever-changing circumstances in the world economy. Questions have continually arisen as to how the Fund should go about implementing its code of conduct. Examples during the years 1945 to 1965 were: What should the Fund do about members that did not believe that they could establish par values? What initiative could, and should, the Fund take if members did not of their own accord adjust their par values? What attitude should the Fund take toward countries that maintained multiple exchange rates rather than a single one? Since the convertibility of European currencies did not appear feasible for many years, what other exchange restrictions could be removed? The Fund also had to decide whether to permit the use of its resources in the absence of ready compliance with its code of conduct. Should drawings from the Fund, for example, be automatic, on the strength of a member’s representation that the currency was needed for payments consistent with the Fund’s Articles? Or could the Fund reject a request or impose conditions on drawings? If so, what should the conditions be?

The policies formulated to answer the foregoing and many similar questions form the subjects of the subsequent chapters of this volume. The evolution from 1945 to 1965 of the Fund’s policies on exchange rates is traced in Chapters 3-7; Chapters 8 and 9 describe the related policies for transactions in gold. The policies adopted as regards exchange restrictions are surveyed in Chapters 10-14. Separate accounts of the Fund’s relations with the European Payments Union (EPU) and with the Contracting Parties to the General Agreement on Tariffs and Trade (GATT) are given in Chapters 15 and 16 respectively. Chapters 17-19 explain how the size and composition of the Fund’s resources have changed over the years, and how access to the Fund’s resources has gradually been implemented by the enunciation of various drawing policies and by the introduction of stand-by arrangements. Chapters 20 and 21 discuss the relation between stand-by arrangements and stabilization programs; these programs emerged as part of the Fund’s objective of internal financial stability for its member countries, immediately discussed below. Finally, Chapters 22-27 study the constitutional development of the Fund from 1945 to 1968.

The objective of internal financial stability

As the Fund began to evolve precise principles and detailed procedures, it soon became apparent that one facet of economic policy which had not been an explicit feature of the Articles was a prerequisite for the implementation of the Fund’s objectives, namely, the maintenance of internal financial stability. Domestic financial policy had not been made a matter of international obligation. On the contrary, care had been taken to ensure that the obligations laid upon countries with respect to international transactions should not impede the use of internal monetary and financial policies to achieve national goals.

Shortly after the Fund commenced operations, it was evident that the problem of inflation was creating serious economic difficulties. Though the fundamental forces of inflation had had their origins in World War II, their effects became more apparent after the war. The public, long deprived of the goods to which it had been accustomed, had expectations far beyond the capacity of the war-depleted economies; and large-scale investments to restore and increase productive capacity further limited the supply of consumer goods. Government expenditure was expanded on an unprecedented scale, and in many countries the extension of credit to finance investment was excessive.

It soon became clear, and the Fund began to emphasize, that achievement of the international goals of free exchange and exchange stability would be frustrated unless government and monetary authorities took appropriate measures to prevent inflation.4 The next step was that the Fund, while recognizing that there was no single program of fiscal, credit, and monetary measures which could be applied to every country, began to enunciate general principles for the attainment of internal monetary stability.5 These principles related to a wide range of fiscal and financial policies, involving inter alia the level of government expenditure, the rate of domestic taxation, the measures to promote domestic savings, and the rate and nature of bank credit expansion.

Because the Fund had no authority or jurisdiction over these matters, it had to proceed with caution. The Fund cannot impose any particular domestic policies upon its members. It can, of course, refuse to provide financial assistance to a member whose policies are conducive to acute and persistent balance of payments difficulties. But the Fund has preferred a more positive role.

In the circumstances, much of the work of the Fund in its formative years consisted of securing a wider recognition of the close relationship between the domestic financial policies of a member and that member’s balance of payments. In later years, as inflation continued to prevail in many countries, the Fund devoted a great deal of attention to studying the internal financial problems of its members, to advocating particular policies to cope with these problems, and to providing technical assistance in the application of such policies.

From time to time fears have been expressed that the Fund was overstepping its jurisdictional bounds. These fears have lessened in recent years, however, and attacks have more frequently been made on the Fund’s emphasis on sound monetary management, the term often used for anti-inflationary measures, sometimes derogatorily. Indeed, not a few economists and government officials have continued to contend that moderate amounts of inflation are necessary to achieve full employment or rapid economic development, although this is a view which the Fund’s experience makes it difficult to support.

Despite periodic debates among economists, both within and outside the Fund, about the degree of inflation that is compatible with broader economic objectives, and even about the nature and causes of inflation,6 the working out with members of programs of internal financial stabilization has gradually become one of the main activities of the Fund. These stabilization programs go fairly deeply into internal policies; they include, for example, rather precise undertakings by members with respect to public finance, quantitative limitations on expansion of central bank credit, and minimum reserve requirements for commercial banks.

Linking activities to objectives

Another theme which has emerged as the Fund has developed its policies is that all of the Fund’s activities should be aimed toward a common set of objectives. In other words, the Fund’s regulatory functions should be unified, and the operation of its financial functions—that is, the use of its resources—should be made conditional on a member’s progress toward the Fund’s objectives or toward compliance with the Fund’s code of conduct.

Article I provides that the resources of the Fund be made available to members “under adequate safeguards.” In effect, Fund assistance is to be made available to countries that make efforts to eliminate those aspects of their exchange and monetary policies that are detrimental to their own interests or those of other members. The degree and nature of the conditions that could and should be attached to drawings must, however, be determined. And much of the Fund’s history pertaining to its resources is concerned with the determination of the type and degree of conditionality that should govern access to its resources.

The formal linking of the use of its resources with practical programs of action was an important step in the Fund’s policy, taken in 1951. But the search for a means of reducing the uncertainty about the conditions of access to its resources continued. Eventually, conditions for some drawings were to become very specific indeed. They have included, for example, reduction or removal of exchange restrictions, simplification of a multiple rate system, and adoption of a detailed program of internal financial stabilization.

By the mid-1960’s, support of stabilization programs designed to eliminate inflation and reduce reliance on restrictions had become the most common purpose of Fund assistance. Members using the Fund’s resources were thus encouraged to adopt measures consistent with the Fund’s basic objectives.

Developing the necessary procedures

As the Fund worked toward its objectives, various procedures which had not been envisaged in the Articles also had to be developed. One procedure that has evolved over the years has been the annual consultations with all members, including those with no exchange restrictions requiring the Fund’s approval. Another is the stand-by arrangement.

The Articles provide for annual consultations, after the Fund has been in operation for five years, covering exchange restrictions still maintained by members under Article XIV. Accordingly, consultations under Article XIV commenced with most member countries in 1952. Intense debates took place at that time about the conduct of these consultations and the subjects to which the discussions should be confined. Within a few years, however, these consultations had become the principal vehicle by which the Fund and its members explored a whole range of topics of mutual interest, including exchange rates and par values, multiple currency practices, exchange restrictions, internal financial policies, use of the Fund’s resources, and quotas. In 1961 it was agreed that annual consultations would take place with members that had discarded the transitional regime of Article XIV as well as with those which still availed themselves of that regime.

These periodic exchanges of views have become of key importance to the Fund and its members and have proved to be a valuable instrument of international monetary cooperation. Indeed, they have become essential instruments for promoting the purposes of the Fund, paving the way to the use of its resources where appropriate and facilitating adjustments in payments imbalances where these have existed. The consultations have made members’ policies more responsive to the aims of the international community, and have equipped the Fund to be more fully appreciative of the problems of its individual members.

The other innovation is the stand-by arrangement. These arrangements are not expressly provided for in the Fund’s Articles. They were introduced because of the need for some procedure by which members could be sure of being able to purchase exchange during an agreed period, if they needed to do so. Under a stand-by arrangement a country is assured that, following a review of its policies and position, and subject to such conditions as are included in the arrangement, it can, without further consideration of its position by the Fund, purchase from the Fund the currencies of other members up to an agreed amount during a stated period. Such an arrangement is usually granted for twelve months (or six months if the member’s request is purely seasonal), but is renewable. In considering a request for a stand-by arrangement, the Fund applies the same policies as it applies to requests for immediate drawings. The arrangement is usually accompanied by a precise agreement between the Fund and the member specifying the policies the member will pursue and how the drawings conferred by the stand-by arrangement are to be phased over time.

ATTAINMENTS BY 1965

Although at the end of 1965 important problems persisted in the international monetary system, and others were already on the horizon, it was nonetheless evident that considerable progress toward the Fund’s initial objectives had been made since 1945. Exchange rates, exchange arrangements, exchange restrictions, and currency convertibility, all afforded many favorable contrasts with those prevailing at the end of World War II.

The starting point

When the Fund opened its doors in May 1946, international economic relations were very much restricted. One of the legacies of World War II had been the imposition of additional problems on the already burdened flow of international commerce. For countries in Europe and for Japan, the war had left difficulties arising from destruction and disruption, the loss of overseas resources, and the rupture of long-established trade connections. Not only did most of these countries have sizable trade and payments deficits, but the whole pattern of world trade was seriously unbalanced. This imbalance reflected the sharp contrast between the capacity of the Western Hemisphere to produce for export and that of other areas, where postwar productive facilities were inadequate to meet the greatly increased demands of their populations for goods and services.

In these circumstances, many countries in Europe, the Middle East, and Asia were compelled to ration available supplies of domestically produced goods and to continue and even to extend their stringent wartime restrictions on imports. Only a handful of members—all in the Western Hemisphere—assumed the obligations of Article VIII of the Fund Agreement.

Moreover, by 1947 the payments problem, which was shortly to become generally known as the “chronic world dollar shortage,” had forced many countries to change the character of their restrictions. Where before restrictions had been placed on imports of certain goods, such as nonessential and luxury items, rather than on imports from specific currency areas, during 1947 the restrictions of most countries were altered so as to reduce their deficits in U.S. dollars and save their gold and dollar reserves. In short, restrictions commonly became discriminatory against the dollar area—that is, against imports from the United States, Canada, and parts of Latin America. In addition, the attempt to render convertible all sterling accruing from current transactions, under the terms of the Anglo-American Financial Agreement of 1945, had failed by the summer of 1947. All European currencies were still inconvertible.

Restrictions also prevailed elsewhere. In many Latin American countries the demand for imports—swollen partly because of deferred demand and partly because of postwar inflation—had made necessary an intensification of restrictions, even though foreign exchange receipts were large. In several Eastern European countries exchange restrictions, although severe, were themselves subordinated to even more direct and comprehensive state intervention through state trading and barter arrangements.

As regards exchange rates, although most original members agreed par values with the Fund at the end of 1946, some did not, and others had multiple exchange rate systems which made their par values more or less nominal. Of the 40 countries that were Fund members at the end of 1946, some 13 were using multiple rates. And within a few years several members gave up conducting transactions at exchange rates based on their par values and adopted fluctuating rates of exchange.

Progress by 1965

By the end of 1965, the great majority of the Fund’s 103 members were adhering to a regime of parity exchange rates: if they did not have institutionally agreed par values, they at least maintained exchange rates which were fixed or had been stable for several years. The extent and complexity of multiple exchange rate systems had also vastly diminished, and restrictions on current payments in the world as a whole were far fewer in the early 1960’s than they had been for some decades.

Convertibility of the currencies of the European countries had been fully maintained since 1961, when 10 European members had given up the transitional arrangements of Article XIV. By the end of 1965, 27 of the Fund’s members, from all geographic regions, had assumed the obligations of Article VIII. The introduction and successful maintenance of widespread currency convertibility had also brought about a virtual end to discriminatory exchange restrictions.

Many countries had gone even farther in reducing restrictions on payments than they were obliged to do; although the Articles permitted controls on capital movements, liberalization of restrictions was gradually extended even to these. Moreover, the industrial countries had begun to concentrate on the liberalization of trade as well as of payments. In particular, in 1962–63 efforts were initiated to reduce tariffs which eventually culminated in the “Kennedy Round” of tariff cuts effected through the GATT in 1967.

At the same time as countries had progressed toward following the Fund’s code of conduct, there had been a signal expansion of the world economy and of international trade, and although only modest progress had been made in raising the incomes of the developing countries, relatively high levels of employment had been maintained in most countries.

Since the intra-European trade liberalization program of the OEEC and several consultations of the GATT were going forward simultaneously with the activities of the Fund in the field of restrictions, it is difficult, if not impossible, to disentangle the precise role of the Fund in the substantial liberalization of restrictions that occurred. Three contributions of the Fund may, nonetheless, be noted: it repeatedly stressed the dangers of permanent regional blocs; it emphasized the need for freeing trade and payments on a world-wide nondiscriminatory basis; and, by highlighting the importance of countries’ domestic financial policies and by making its resources available, it helped to create the conditions essential for the restoration of currency convertibility and the relaxation of restrictions.

The other side of the picture

Admittedly the picture was not entirely unmixed, and the Fund was not without its problems or its critics. Not all countries had been able to abolish their exchange restrictions. By and large the less developed countries, hampered by structural problems, notably the unsatisfactory expansion of their export earnings, had found it difficult to achieve simultaneously the goals of rapid economic growth and internal and external stability. Hence, although by the 1960’s the industrial countries were generally able to maintain their external economic relations with few limitations on the acquisition or use of foreign exchange, many less developed countries continued to rely on exchange restrictions, and some still had multiple or fluctuating exchange rates. Many that had reduced their exchange restrictions had turned to other devices, frequently in the trade field, to stem imports, and had introduced export bonuses and subsidies to encourage exports. Possibly worst of all, in some less developed countries restrictions seemed to have lost their temporary character.

The mid-1960’s also saw the reintroduction of exchange controls on capital movements by some of the leading industrial countries. After restrictions on capital movements had been lifted in the early years of the decade, transfers of short-term capital had become sizable and frequent. Because such capital movements were often speculative and disequilibrating rather than equilibrating, they presented the financial authorities, especially in industrial countries, with new problems. Sterling, for example, was subjected from time to time to severe strains in the world’s exchange markets, at least partly because of rather sharp movements of short-term capital. The unexpected magnitudes of capital flows from the United States were also responsible in part for the emergence and persistence of a sizable deficit in the balance of payments of that country.

These disturbances often necessitated official intervention—sometimes on a large scale—to enable countries to maintain their exchange rates within the margins specified by the Fund. In order to avoid impairing the freedom already allowed to foreign payments, large amounts of reserves were utilized, and there was heavy resort to the Fund.

Devaluations and rumors of devaluation of important European currencies were recurrent. Consequently, the principal industrial countries took special measures to curb capital flows. In 1964, the United States imposed a tax on purchases of foreign stocks and bonds. This tax was extended in February 1965, at which time the United States also introduced a voluntary program to discourage capital exports by banks and other financial institutions. As one of several steps to correct its balance of payments in 1964–65, the United Kingdom made changes in its exchange control regulations affecting capital movements.

As one international monetary crisis after another occurred, and were solved by ad hoc decisions, the Fund’s mechanisms began to be criticized as unequipped to deal with the problems at hand. Major reforms, especially in the field of exchange rates, were suggested. Some critics were disappointed that the Fund had not itself come forward with proposals for exchange reform. Others cited as evidence of the deficiencies of the Fund the fact that since 1962 the Ministers of the Group of Ten had considered several key questions of international finance prior to their discussion by the Executive Board of the Fund.7

THE GROWTH OF INTERNATIONALISM

Over a considerable part of its field, therefore, the Fund’s achievements by 1965 were partial rather than complete. But in one important direction the aim of its founders, as expressed in Article I, had been fulfilled with conspicuous success. By the mid-1960’s the Fund had developed a system of international cooperation and consultation in the monetary and financial field which was in sharp contrast to the situation of the interwar period, particularly the 1930’s, when countries had pursued their financial policies with little regard for, and little understanding of, the effects of these policies on other countries. Indeed, the way in which countries were working together in the Fund by 1965 was in sharp contrast to that prevailing during the Fund’s first decade.

At the outset of the discussions on the organization of the Fund, it was evident that countries had profoundly conflicting views as to how vital and effective a force in international monetary affairs the Fund should be. Sharply conflicting views surfaced as early as the Inaugural Meeting of the Board of Governors at Savannah in March 1946: White argued for a strong, currently informed Board of Executive Directors, which would take the initiative and make decisions, while Keynes envisaged the Board more as an arbiter of disputes, meeting as the occasion required.8 Conflicts of national interests were, in the next several years, to occasion many debates among Directors. Especially contended were questions about the Fund’s jurisdiction and how it should be implemented. The United States, eager to restore normal international relations as quickly as possible, sought to enhance the authority and activities of the Fund, while European countries, faced with reconstruction and major readjustments of their economies and of their trading relations, had much narrower ideas as to what the Fund should or could do.

There was also a sharp division in the Board between those who believed that members had automatic rights to draw on the Fund’s resources and others, notably the U.S. Directors. The European countries, with urgent needs for U.S. dollars, clung strongly to conceptions of “automaticity” about the Fund’s resources, while the United States, deluged with requests for aid, and with a Congress anxious to keep close watch over disbursements, took the line that access to the Fund’s holdings of dollars should be made subject to fairly strict conditions.

This atmosphere resulted in many decisions by the Board which in effect tied the Fund’s hands in its initial years: there were to be few transactions, no participation in European payments arrangements, and little action against restrictions. The Fund’s attention was given mainly to broken cross rates and multiple currency practices. Moreover, as effective power lay with the Board, there was little that management and staff could do to alter the situation. The morale of the staff, already low, was further depressed by curbs on administrative expenditures necessitated by the Fund’s persistent budgetary deficits. Following the suggestion of the Governor for the United Kingdom in 1951 that ways be found for cooperation with the World Bank so as to reduce the Fund’s expenditures, there were even fears that some of the Fund’s functions might be eliminated or absorbed by the World Bank, which was operating very profitably.

This story, in detail, is clearly traceable in the chronicle related in Volume I, as is the subsequent turnaround after 1952–53 and the growth of the Fund into an effective organization. By the 1960’s the Fund was operating with relatively little controversy in all its fields of responsibility: practically all members, including the largest ones, the United States and the United Kingdom, had concluded stand-by arrangements or had made drawings; the Fund’s resources had been enlarged; all the major European countries had undertaken the obligations of Article VIII; and all members, including those under Article VIII, were regularly consulting with the Fund concerning a wide range of economic policies. A by-product of the extensive use of the Fund’s resources has been that, despite a severalfold increase in the size of the staff, there have been budgetary surpluses in each year since 1955–56.

A number of factors, political as well as economic, contributed to the dramatic change. Many of these are described in Volume I, some of them have been mentioned in the previous chapter, and still more are considered in Part V of this volume. But two elements making for improved relations between the Fund and its members may here be mentioned; they are (1) the development from 1952 onward of policies opening up use of the Fund’s resources, and (2) the successful conduct of the annual consultations which commenced in March 1952. Both of these factors gave new and meaningful form and substance to collaboration among members, Executive Directors, the management, and the staff.

PROGRESS AND CHANGE

In the last resort, any attempt to assess the over-all achievements of the Fund necessitates the weighing of intangibles. One would need to discover what the postwar world would have been like without the Fund, or with a Fund that had acted in a different way. Moreover, one must keep in mind that the complex of political considerations that determine relations between governments inevitably affects the operations and policies of specialized international agencies. In addition, there is a reverse flow of effects from international agencies to governments. Finally, the operations and policies of the international agencies are themselves influenced by contacts and discussions between these agencies and between their staffs.

In attempting to strike a balance it is also necessary to take into account that the Fund has shown a capacity to adapt to new situations which may not have been anticipated by its founding fathers. For example, in the 1960’s new and wider solutions were being sought for the trade and payments problems of the less developed countries. In 1963 a decision on compensatory financing introduced a new drawing policy, chiefly for the benefit of these countries. Under this decision, members can draw on the Fund’s resources to meet payments difficulties arising out of temporary export shortfalls, provided that the shortfall is largely attributable to circumstances beyond the control of the member, and provided that the member is willing to cooperate with the Fund in seeking appropriate solutions for its balance of payments difficulties where such solutions are called for. This second provision is much less strict than the conditions generally stipulated for drawings of a substantial amount—that is, in the technical terminology of the Fund, for drawings beyond the first credit tranche (see Chapter 18). In other words, there was recognition that even countries which had difficulty in meeting the Fund’s standards should be able to obtain assistance to meet difficulties arising out of genuinely short-term export fluctuations.

Technical assistance to the less developed countries has also been expanded in many areas within the Fund’s competence—the improvement of statistics, taxation, budgeting, central banking operations, banking legislation, exchange reforms, and programs of monetary stabilization—and the Fund has established a special institute for the training of technicians from the less developed countries.

Even more significantly, the Fund has increasingly recognized that, while monetary stability is a prerequisite for sustained economic development, resolute efforts by developing countries to increase productivity and capital formation, and to reallocate productive resources, are equally essential. Moreover, the Fund has taken an active interest in such matters as the level of external indebtedness of primary producing countries and the impact on them of the hard-core trade barriers of the industrial countries, especially on imports of agricultural commodities from the less developed countries. These activities have expanded further since 1965. To help to alleviate the continuing difficulties of the less developed countries, the compensatory financing scheme has been expanded and the Fund has put forward proposals to deal with the instability of prices of primary commodities in world markets.

In the same vein, when, after convertibility had become widespread, it became obvious that capital transfers would be an important feature of the payments scene, the Fund took steps to deal with the problems then presented. First, in 1962 it augmented its resources through the General Arrangements to Borrow (GAB), under which ten main industrial countries agreed to stand ready to lend their currencies to the Fund up to specified amounts when the Fund and the countries considered that supplementary resources were needed to forestall or cope with an impairment of the international monetary system, especially because of sizable short-term capital movements.

Second, during the early 1960’s the Fund re-examined the legal and policy aspects of the provisions of its Articles respecting the use of its resources to finance capital movements.9 The Articles preclude use of the Fund’s resources “to meet a large or sustained outflow of capital” (Article VI, Section 1 (a)). Immediately after World War II, there had been great apprehension lest the resources of the Fund be wasted in financing capital flight from countries whose currencies were overvalued. But as the years passed and circumstances changed, it came to be appreciated that disturbances to the normal flow of capital, provided they are temporary, are eminently suitable for Fund financing. Hence, in 1962 the Fund announced that it should not, on account of its Articles, be precluded from assisting a member because the latter’s difficulties are caused or accentuated by an outflow of short-term capital that could not be deemed large or sustained. The Fund let it be known that, if a country facing an outflow of capital turned to the Fund for assistance, the test to be applied by the Fund would be in accordance with its accepted principles, i.e., that appropriate measures were being taken to restore equilibrium in the balance of payments, and that assistance provided by the Fund would be repaid within a maximum period of three to five years.10

The possible need for greater Fund resources which evoked the GAB stemmed from a more general concern for international liquidity—that is, the stock of the world’s gold and foreign exchange reserves and other assets with which countries can finance payments deficits, such as facilities to draw on the Fund or to borrow from other international institutions, or various arrangements to borrow from foreign central banks or governments. For several years the Fund debated whether these resources were adequate. Searching questions were raised, e.g.: Was international liquidity increasing fast enough to keep pace with the rising levels of world trade, investment, and capital movements? How great was the danger that additional liquidity in the international monetary system would cause countries to pursue excessively inflationary policies? Was the stock of international liquidity so low that countries encountering payments deficits would again have to resort to exchange restrictions?

The gradual recognition of a possible inadequacy of reserves had led to a long process of international discussion and negotiation, both in the Fund and among the ten countries that had signed the GAB. In 1964–65 there had been a wide-ranging exploration of a variety of possible techniques of reserve creation, and, as 1965 came to a close, discussions were proceeding which aimed at finding a basis for agreement among governments on contingency plans for deliberate reserve creation.

The outcome of these discussions was to produce perhaps the greatest evidence that the Fund contained capacity for growth and change—that is, agreement among its members at the Annual Meeting in 1967 on an Outline of a Facility Based on Special Drawing Rights. This system of special drawing rights—which was agreed to by the Board of Governors shortly after the close of the period here reviewed—was sufficiently new and different as to require significant modifications in the Articles of Agreement of the Fund.

These questions were discussed, for example, at the 59th annual meeting of the American Economic Association in January 1947; see “Papers and Proceedings,” American Economic Review, Vol. XXXVII, No. 2 (May 1947), pp. 560–94. And they formed the subject of James Meade’s The Theory of International Economic Policy; Vol. I, The Balance of Payments.

Ragnar Frisch, “On the Need for Forecasting a Multilateral Balance of Payments,” American Economic Review, Vol. XXXVII, No. 4 (September 1947), pp. 535–51.

The second volume of James Meade’s The Theory of International Economic Policy, entitled Trade and Welfare, was, however, devoted to the related question of how direct trade and payments controls can increase welfare.

Annual Report, 1948, pp. 19–20.

Ibid., p. 20.

See, for example, Martin Bronfenbrenner and Franklin D. Holzman, “A Survey of Inflation Theory,” in Surveys of Economic Theory; Vol. I, Money, Interest, and Welfare, pp. 46–107.

See, for example, Fritz Machlup, Plans for Reform of the International Monetary System; Fritz Machlup and Burton G. Malkiel, eds., International Monetary Arrangements: The Problem of Choice; and Harry G. Johnson, The World Economy at the Crossroads, Chap. 3.

See above, Vol. I, pp. 130–34.

E.B. Decision No. 1238-(61/43), July 28, 1961; below, Vol. III, p. 245.

Annual Report, 1962, p. 33.

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