The international monetary fund has been in the news a lot lately because of the Greek
financial crisis
I think a lot of Americans are unsure of what
the international monetary fund is.
The IMF, after all, can be confused with
the organization in some of Tom Cruise's movies - a spy organization.
The IMF is an international organization that's located
just a couple blocks from the White House in Washington DC-
it was created by the United States and a few of our closest allies in 1944.
as a way of
trying to reduce the risk of currency crisis in the postwar era.
Right now has a hundred eighty six members so almost all the countries in the world are
members of the IMF,
and it works like a credit union.
Every country deposits some money into the IMF, and then that money is available
to be lent
in case of of a currency crisis.
The reason we need international cooperation
in the case of currency crisis is that when
demand is weak
for your currency
that means the demand is strong for my currency so I'm in a position to help.
When international cooperation breaks down though
unfortunately how we can get
currency crises that can spread very rapidly around the world and be very
disruptive.
These kinds of crises occur because
holders of assets become spooked. They become concerned that all of a sudden
what they bought
an asset for yesterday at vastly inflated prices suddenly is not worth that
much today.
Why would that be? Well, it's because they're worried about the expectations of other investors.
I think that you think that I think that you think...
This sort of logic
Leads to
out of control
currency crises.
And international cooperation had hoped to to bring this under control.
Unfortunately
the IMF is hamstrung
in the most important cases.
The case of Russia and nineteen nine eight comes to mind. I wrote a book about this
two years ago.
Russia
got the largest IMF loan in history up until that point
and the markets weren't very impressed. Within a couple of weeks
they decided that
Russia wasn't going to implement all the promises that it had made in order to get the money
from the IMF
and as a result they
neverthelesswere not willing to continue holding Russian bonds.
Within a few weeks Russia defaulted
on its loans.
So this - the problem here
was that Russia was too big to fail.
It was a country
that
would always get a rescue even if it was unlikely to
to implement the reforms that it promised.
The markets have understood this and understood that the IMF was in no position
to hold Russia to its promises.
And there's a fear that Greece might be a similar case.
Because
although Greece is a small country
Greece is very important to the rest of the world, particularly to Europe.
Greece owes the rest of the world three hundred billion dollars and
it owes lot of money to
commercial banks in Germany and France.
Fortunately the European central bank has create incentives for these banks
to borrow
the sovereign debt of
the other member countries of the euro.
As a result they become overexposed.
But that means that they have incentives
if things go badly
- if Greece doesn't
actually meet its targets of reducing its deficit
by eleven percent of GDP - is a very difficult thing to do -
over three years.
These countries are going to have an incentive
to lean on the IMF perhaps subtly perhaps not so subtly to try to get them to back off
of some of the conditions and keep extending loans up to Greece anyway.
The market knows that.
The market is very sophisticated and as a result it
devalues
the promises
that Greece has made.
Is there a solution to this problem?
Well as long as international institutions are political
we're going to have credibility problems.
But it's all to the good
if the governance of these institutions become spread around.
To the extent that it's concentrated
very heavily in a few countries
governnance become subject to these kinds of credibility problems, where a few countries
can hold up
all the rest of the international system and insist
that the narrow interests of their financial institutions
are worth more than the long term reputation of
the international monetary fund.
But luckily
I think
this governance is likely to change.
Because a number of countries have extended additional loans to the IMF, they're going
to expect that they'll get a larger share of votes
as a result
and that should help to reduce its credibility problems in the future.