Fund Policies and Procedures in Relation to the Compensatory Financing of Commodity Fluctuations

THE GOVERNORS of the International Monetary Fund and official representatives in other international organizations have become increasingly interested during recent years in the part that the Fund plays, or could play, in providing compensatory financing to alleviate the difficulties that arise from instability of export earnings in countries largely dependent on the exportation of primary commodities. Economic experts reporting to international organizations also have made comments and suggestions about the Fund’s role in this respect. Sometimes the concern of governments and experts has been with special types of financing which it is suggested the Fund should provide, e.g., to offset reductions in the expenditure of industrial countries in countries exporting primary products during recessions, or to facilitate the accumulation of buffer stocks during periods of decline in the prices of individual commodities. At its seventh session in March 1959, the UN Commission on International Commodity Trade raised the question in a more general form. At that meeting the Commission “agreed to consider at its eighth session international measures designed to compensate for fluctuations in foreign exchange receipts from the export of primary commodities.” In this connection, the Commission recommended “that the International Monetary Fund be invited to inform the Commission about its policies and procedures as they bear on the subject under consideration.”1

Abstract

THE GOVERNORS of the International Monetary Fund and official representatives in other international organizations have become increasingly interested during recent years in the part that the Fund plays, or could play, in providing compensatory financing to alleviate the difficulties that arise from instability of export earnings in countries largely dependent on the exportation of primary commodities. Economic experts reporting to international organizations also have made comments and suggestions about the Fund’s role in this respect. Sometimes the concern of governments and experts has been with special types of financing which it is suggested the Fund should provide, e.g., to offset reductions in the expenditure of industrial countries in countries exporting primary products during recessions, or to facilitate the accumulation of buffer stocks during periods of decline in the prices of individual commodities. At its seventh session in March 1959, the UN Commission on International Commodity Trade raised the question in a more general form. At that meeting the Commission “agreed to consider at its eighth session international measures designed to compensate for fluctuations in foreign exchange receipts from the export of primary commodities.” In this connection, the Commission recommended “that the International Monetary Fund be invited to inform the Commission about its policies and procedures as they bear on the subject under consideration.”1

THE GOVERNORS of the International Monetary Fund and official representatives in other international organizations have become increasingly interested during recent years in the part that the Fund plays, or could play, in providing compensatory financing to alleviate the difficulties that arise from instability of export earnings in countries largely dependent on the exportation of primary commodities. Economic experts reporting to international organizations also have made comments and suggestions about the Fund’s role in this respect. Sometimes the concern of governments and experts has been with special types of financing which it is suggested the Fund should provide, e.g., to offset reductions in the expenditure of industrial countries in countries exporting primary products during recessions, or to facilitate the accumulation of buffer stocks during periods of decline in the prices of individual commodities. At its seventh session in March 1959, the UN Commission on International Commodity Trade raised the question in a more general form. At that meeting the Commission “agreed to consider at its eighth session international measures designed to compensate for fluctuations in foreign exchange receipts from the export of primary commodities.” In this connection, the Commission recommended “that the International Monetary Fund be invited to inform the Commission about its policies and procedures as they bear on the subject under consideration.”1

The present study, whose primary purpose is to provide the information thus requested, is presented in two parts.2 The first, or prefatory, part discusses the nature of the fluctuations affecting the balance of payments of primary exporting countries, while the second part deals with the Fund’s policies and practices in relation to the financing of such fluctuations. Throughout the study, the term “compensatory financing” is used in a broad sense to include movements in a country’s own official reserves as well as any international borrowing or any other international transfers that are designed to relieve the strain on reserves or to preserve the stability of the exchange rate.

Part I is devoted to an examination of the fluctuations in export proceeds of a large number of primary producing countries after World War II (the postwar period), between World Wars I and II (the interwar period), and, where information permits, before World War I. The proceeds are denominated both in U.S. dollars and in terms of their purchasing power over imports, and their fluctuations are measured both in year-to-year changes and in deviations from a five-year moving average. It appears that fluctuations in export proceeds were somewhat greater for primary producing than for industrial countries—perhaps 25 to 30 per cent greater in the interwar period, and 45 to 55 per cent greater in the postwar period. The difference between the two types of country reflects in the main the greater price instability of exports of primary products, compared with those of manufactured goods, which in turn results both from the relatively inelastic demand and supply conditions characteristic of most primary products in the short run and from the relatively unstable conditions affecting the supply of many products of agricultural origin. While for exports of manufactures demand fluctuations usually lead to fluctuations in volume rather than price, the opposite is true for most primary products. Individual primary producing countries differ quite widely with respect to the instability of their export proceeds, for reasons discussed below.

Over the period 1900 to 1958 as a whole, year-to-year variations in the export proceeds of primary producing countries are found to have been accounted for almost equally by variations in price and in volume. In the average primary producing country, both instability in world demand and instability in domestic supply appear to have been important causes of variation in export proceeds. When compared with the interwar period, the postwar period shows a considerable decline in the instability of primary exports with respect both to price and to proceeds, mainly as a result of the diminished virulence of cyclical fluctuations in the industrial countries, but also because, for a number of primary products, there has been some increase in the elasticity both of demand and of supply.

Data for the postwar period regarding external receipts as a whole, including not only export proceeds but also net capital movements and earnings from current invisibles, show that for the average primary producing country fluctuations in such receipts are slightly larger than fluctuations in export proceeds alone.

Part I concludes with an analysis of the way in which instability in export proceeds gives rise to four other types of instability in primary producing countries: (1) in income distribution as between export and other industries, (2) in national money income, expenditure, and prices, (3) in ability to pay for imports, and (4) in real consumption and investment.

Part II opens with a definition of compensatory financing and a brief description of certain principles governing its appropriate use. Emphasis is laid on the need to compensate for fluctuations in the balance of payments as a whole, the need to keep such fluctuations on a reasonably short-term basis, and the need to adapt financial policies so as to keep imports in line with a medium-term trend in importing power. In view of the problems involved, it is suggested that countries will find it difficult to do more, through compensatory financing, than to alleviate the fluctuations in their importing power, and that the extent to which this can be carried will depend on the circumstances of each particular case.

There follows a description of the policies and practices governing the use of Fund resources, including policies regarding the period within which repurchases of currencies purchased from the Fund should be made, and regarding the increasing justification expected of a member as its use of Fund resources increases relative to the size of its quota. Reference is made to the bearing of these policies on the financing of export fluctuations. Since this description (pages 18-20) does not lend itself to summarization, it should be read in extenso.

Next, an explanation is given, in the light of considerations mentioned in the earlier parts of the study, of why it would be inappropriate for the Fund to pursue any sort of automatic financing, based perhaps on some mathematical formula, in connection with fluctuations of commodity exports, and why it would be undesirable to set up any special type of Fund financing distinct from its ordinary operations, either to compensate for commodity fluctuations or to finance buffer stocks.

A brief glance at the history of Fund operations shows that there have been a good many cases in which a decline in export proceeds was an important contributory factor justifying the use of Fund resources, though it is emphasized that in most cases the principal factor necessitating Fund assistance to less developed countries has been inflationary disturbance of domestic origin, and often of long duration.

The final section of Part II examines the question of the extent to which the financial facilities obtainable from the Fund may be adequate in conjunction with national reserves, to enable primary producing countries to overcome the payments problems that arise from export fluctuations.

To conclude:

The provision of foreign exchange to Fund members to assist in the compensation of short-term fluctuations in the balance of payments constitutes a legitimate use of Fund resources. Among such fluctuations are some that arise primarily from variations in export prices and proceeds.

It would be neither practicable nor desirable to make the amount of such assistance dependent on any automatic formula, or to provide any separate form of Fund assistance to deal with export fluctuations alone.

However, members of the Fund that are taking appropriate steps to preserve internal financial stability and to maintain their balance of payments in equilibrium, taking good years with bad, and that are otherwise making satisfactory progress toward the fulfillment of the Fund’s purposes can anticipate with confidence that financing will be available from the Fund which, in conjunction with a reasonable use of their own reserves, should be sufficient to enable them to overcome temporary payments difficulties arising from export fluctuations.

While access to Fund resources should go far to relieve the payments difficulties of primary producing countries insofar as these are due to temporary causes, the assistance of the Fund should form only a part of a wider program designed to spare these countries the necessity for any disastrous contraction of income or output, and indeed to help them achieve a steady and satisfactory rate of development. Much is said in this paper about the prudence and self-discipline required of the primary producing countries themselves if they are to keep their economies on an even keel despite the fluctuations of world markets. But the industrial countries, on their side, can do much to keep these markets relatively steady. In the first place, they can maintain their efforts to mitigate booms and recessions and, in particular, to avoid any danger of a relapse into deep depression of the 1930 type. They can modify their arrangements for the protection of domestic agriculture and mining in such a way as to exercise a less depressing and disturbing effect on world trade in primary products. And finally, they can concert their efforts to provide a more adequate and stable flow of long-term capital to the less developed countries.

Part I. Fluctuations in Export Earnings of Primary Producing Countries

Nature and magnitude of fluctuations

As is well known, the prices of most primary products in international trade vary more sharply from year to year than those of most industrial products. While foodstuffs are less affected by cyclical variations in demand than all industrial materials or manufactured products, most materials of agricultural origin are subject to irregularities in export supply and import demand arising from crop fluctuations, and most primary product markets are much affected by oscillations in demand arising out of changing expectations as to the future course of prices. However, the reason for the differences in price behavior between primary and manufactured products lies not so much in any special instability of import demand or export supply for the former as in the fact that in the case of primary products both demand and supply are as a rule less responsive to changes in price than in the case of manufactures. With the exception of a few commodities, whose prices are stabilized by understandings between producing firms or by governmental action, primary products are supplied to world markets under much more competitive conditions than are industrial products. Thus, whereas manufacturers, as a rule, seek to maintain fairly steady prices in the face of variations in demand, allowing the quantities they supply to vary, primary producers are more likely to maintain the quantities supplied, leaving prices to vary.

According to UN studies,3 the mean year-to-year variation in the prices of individual primary commodities averaged some 13 per cent over the period 1900 to 1958.4 Instability was particularly severe in the period between the two World Wars, when year-to-year changes amounted to 15-16 per cent; before World War I and again in the years 1948-58, the average change appears to have been close to 11 per cent5 (Table 1A).

Table 1.

Fluctuations in Exports of Primary Producing Countries and Industrial Countries, 1900-1958

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Sources: Data on average primary product are from United Nations, Instability in Export Markets of Under-Developed Countries (New York, 1952) and World Economic Survey, 1958 (New York, 1959). All other data are IMF staff computations, based on trade data shown below in Tables 4-6.

Value and price are expressed in current U.S. dollars.

Unweighted arithmetic mean of year-to-year changes for 25-32 individual commodities.

Unweighted arithmetic mean of average year-to-year changes for 17, 42, and 48 countries in the periods 1900-1913, 1920-1939, and 1948-1958, respectively.

Unweighted arithmetic mean of year-to-year changes for 13 countries.

Unweighted arithmetic mean of annual deviations from five-year moving average for number of countries mentioned in footnotes 3 and 4 to this table.

Similar computations for industrial products are not readily available, but data on export prices for the periods 1929-38 and 1950-58 compiled by the League of Nations and the Statistical Office of the United Nations6 show that, in each of the two periods, average year-to-year changes in the prices of primary products as a group were some 50 to 55 per cent greater than those of manufactures as a group. Changes in the export price indices of the average primary exporting country and the average industrial country for the period 1948-58 show a similar ratio (Table 1A).7

The volume of exports from the average primary producing country varies from year to year as much as, if not more than, the price. This is true of individual primary products exported from individual countries in the interwar period and also for the over-all exports of individual countries in the postwar period (Table 1A).

For most of these countries, taken individually, the elasticity of world demand for their exports is high, the elasticity of home supply low. Export prices vary in the main with market conditions abroad, and only in a few cases do home supplies have a significant influence on price. Export quantities, however, vary mainly with supply conditions at home and are only slightly responsive to price changes.

The proceeds accruing to individual countries from exports of primary commodities have on the average varied more, but not very much more, from year to year than have either export price or export volume. This is true both for exports of individual primary products from individual countries in the interwar period and for over-all exports of individual primary producing countries in the postwar period (Table 1A).

Since an increase in the export value of one commodity will sometimes be accompanied by a decline in that of another, one would expect the export earnings of a primary producing country to fluctuate less, proportionately, than its earnings from a typical individual commodity. As will be seen from Table 1A, these expectations are borne out for the interwar period, the only period for which reliable comparative data are available. In the average primary producing country, export proceeds varied from year to year by some 18 per cent, compared with 22 per cent for individual commodities. The difference, however, is not great, partly because the movements in demand are somewhat similar for different commodities, and partly because the export trade of the average primary exporting country is heavily concentrated on a few commodities.

Table 1A also reveals that percentage changes from year to year in export proceeds, though greater for the average primary producing country than for the average industrial country, were less than 30 per cent greater for the interwar period, and less than 25 per cent greater for the postwar period—a smaller difference than is frequently assumed. As shown above, export prices in the postwar period, though more stable for industrial than for primary exporting countries, varied quite considerably even for the former, and volume variations were not very different in the two groups. For the postwar period, however, these comparisons between the two groups with respect to the variability of export prices and proceeds are vitiated by reason of the strong upward trend of these series which prevailed over that period in most industrial countries. When allowance is made for trend changes, year-to-year variations in export proceeds amounted to 12.8 per cent for primary producing countries, against 8.1 per cent for industrial countries; the former exceeded the latter by some 55 per cent. In the interwar period, year to-year changes in the export proceeds of industrial countries relative to those of primary producing countries were abnormally high owing to the occurrence of severe cyclical depressions which affected both groups alike, though in the former the effect was mainly on export volumes and in the latter on export prices.

As the foregoing paragraphs would suggest, the connection between the well-known instability of the prices of primary commodities in world markets and that of the export proceeds of primary producing countries is less direct than is frequently assumed. First, the prices at which most exports of a given commodity are actually sold often vary less strongly than do world market prices. Second, changes in the quantity of exports tend more often to offset than to reinforce the effects on proceeds of changes in export prices.8 Third, diversification of exports provides a certain possibility for mutual offsetting as between the exports of individual commodities.

While year-to-year changes in the export volume of primary producing countries were much the same in the postwar as in the interwar period,9 the instability of export prices and proceeds became much less marked in the postwar years. This was due largely to an increase in the stability of demand for primary products in industrial countries. While the speculative demand for materials oscillated sharply during the early part of the Korean conflict, recessions were much milder and less widespread after World War II than in the interwar period. There was also an increase, for some commodities, in the elasticity of supply, owing to increased use of national buffer stocks or other forms of control over export prices, and for others, in the elasticity of demand, owing to the development of synthetic substitutes.

Thus far, year-to-year changes have been discussed, largely because the data that have been used for comparative purposes are most readily available in this form. For the purpose of considering the financing of fluctuations, however, what is important is not so much the magnitude of the change in export proceeds from year to year as the extent to which these proceeds lie above or below what might be called the medium-term norm or trend, and the extent to which such deviations persist over consecutive years. The distinction between trend and fluctuations is to some extent arbitrary. However, for purposes of illustration, the export proceeds of primary producing countries in the prewar, interwar, and postwar periods have been measured relative to a five-year moving average centered on the middle year. Average percentage deviations from this trend are shown for an average primary exporting country in Table 1B and for 47 individual countries in Table 2, while actual proceeds are given for reference in Tables 4-6.

Table 2.

Percentage Deviations from Trend in U.S. Dollar Value of Exports and in Importing Power of Exports of Primary Producing Countries, 1902-58

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Source: IMF staff computations based on trade data shown in Tables 4-6.

Incomplete coverage for 1902-13.

Incomplete coverage for 1920-38.

Incomplete coverage for 1948-58.

Table 3.

Average Year-to-Year Percentage Change in Importing Power of Exports and of External Receipts, 1948-581

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Sources: For sources of export data, see Table 1. External receipts are IMF staff computations based on data in International Monetary Fund, Balance of Payments Yearbooks.

Except as otherwise indicated.

1952-58.

1950-58.

1949-58.

1951-58.

1949-54, 1956-58.

1948-57.

Table 4.

Value of Exports of Primary Producing Countries, 1902-13

(In millions of U.S. dollars)

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Sources: Die Wirtschaft des Auslandes; U.S. Department of Commerce, Foreign Commerce Yearbook, 1939; United Nations, Yearbook of International Trade Statistics, 1957 (Volumes I and II); International Monetary Fund, International Financial Statistics.
Table 5.

Value of Exports of Primary Producing Countries, 1920-38

(In millions of U.S. dollars)

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Sources: See Table 4.

Year ended September 30.

Year beginning April 1.

Table 6.

Value of Exports of Primary Producing Countries, 1948-58

(In millions of U.S. dollars)

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Sources: See Table 4.

Year ended September 30.

Including South West Africa.

As will be seen from Table 1, the general conclusions regarding the relative magnitude of fluctuations in primary export proceeds in the prewar, interwar, and postwar periods, and regarding the relative magnitude of fluctuations in the export proceeds of primary exporters and of industrial countries, which were arrived at on the basis of year-to-year variations, continue to hold true when fluctuations are measured in terms of deviations from trend. Measured in this way, however, the postwar fluctuations in export proceeds of primary producing countries appear to have been some 45 per cent greater than those of industrial countries.

Calculations for the 28 primary producing countries for which export data are available from 1920 onward indicate that the deviations from trend for the aggregate exports of these countries amount in the interwar period to some 80 per cent, and in the postwar period to some 65 per cent, of the deviations from trend for the average (typical) primary producing country. These results are consistent with the view that for the average primary producing country instability in world demand conditions and instability in domestic supply conditions have each had an important share in generating fluctuations in export proceeds, and also that the relative importance of instability in demand was greater in the interwar than in the postwar period.10

In calculating the year-to-year changes and deviations from trend discussed above, export proceeds have been measured in terms of U.S. dollars. What is really important from the standpoint of the domestic economy of the exporting countries, however, is the importing power, or import equivalent, of these exports, i.e., their purchasing power in terms of imports. The importing power of exports has therefore been calculated for each of the primary producing countries by dividing the dollar value of its exports by a price index representing the dollar cost of a particular combination of commodities in amounts corresponding to the import requirements of a typical primary producing country.11 The results are shown in Tables 1 and 2 and in Chart Series I (pages 34-57).

Series I

Importing Power of Exports1

(In millions of dollars at 1953 import prices)

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