Tuesday, 25 September 2012

IMF and the Third World Debt

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The IMF is facing a crisis of legitimacy. More and more doubt is being cast by the left wing elements in recipient countries towards the long term efficacy of borrowing from the IMF – a solution to their problems or a problem in itself? Their skepticism is not unwarranted. Has the IMF really helped the Third World repay its debts or just entrapped it in a vicious cycle of debt servicing? Many now believe the latter is true. The worsening economic growth statistics and social indicators in Third World debtor countries are indicative of the aggravation of their problems in lieu of stringent conditionality policies imposed by the Fund to make sure the loan is repaid later. ‘These policies are insensitive to the individual situations of developing countries, ideologically biased in the favor of free markets and against socialism, and tend to override national sovereignty’ (Williamson, xiii).

How IMF likes to think of its policies is starkly different from how the debtor countries, the ones who are the witnesses of the empirical application, think of them. For the Fund its role in adjustment is relatively simple: “To oversee a distribution of capital in support of policies that will ease the adjustment problems of member countries over time. It is expected that adjustment will enable the member to make repayment at a later stage, and that the process as a whole will be of net benefit to the member.” (Finch, 76) On the contrary, this is how two Tanzanian economists view the reality: “The demand for structural adjustment is widely recognized as a frontal approach launched by multilateral lending agencies (IMF and the World Bank) and the core capitalist countries, and exhibits a decided disdain for social reality in the Third World due to an orientation towards short-term targets that contradicts the long duration required for development.” (Biermann and Campbell, 69)

One of the many substantial criticisms launched against the IMF is its ‘one-size-fits-all’ approach. The problems of this approach become particularly acute when facing the challenges of the developing and transition economies (Stiglitz, 34). Instead of including the government of the recipient country in the policy making process so as to get a deeper insight into the problems that exist and the possible measures that can be taken to address them, the policy is shaped solely by the IMF officials during short missions to the country with the aid of statistics present in the finance ministry and the central bank. With such policy devising procedure, one cannot expect the IMF to actually understand the magnitude and bleakness of the problems prevalent in the LDCs and to come up with a program that is tailored to suit the situation of the country.

A case in point is Sudan where the outcome of trade liberalization was completely opposite to the one intended. With corruption widespread in the country, it only led to an undue increase in Sudan’s import bill. The elites imported luxury goods while the exports remained stagnant. In late 1970s, the country began falling behind in its foreign payments because of foreign exchange shortages. Consequently, currency was devalued so as to make the imports more expensive and reduce the Balance of Payments deficit. However, the luxury imports did not fall. As a matter of fact, whereby the prices of passenger cars increased fivefold between 1977 and 1983 because of the currency devaluation, the number of cars imported annually tripled during this same period. Thus, IMF’s achievement in Sudan was to provide it with more loans to keep living beyond its means! This sheds light on the consequences of trade liberalization in a country where corruption is rampant and income distribution highly unequal (Fanos, 123).

This leads us to evaluate two favorite policies of the Fund that are interrelated- liberalization of trade and devaluation of currency. The Fund is committed to promote free trade and insists on the dismantling of trade barriers in the borrowing country. However, an obvious outcome if the policy is implemented would be the influx of cheap imports that will drive the domestic producer out of market. This is where, according to the Fund, the policy of devaluation becomes useful. While it will accelerate the growth of exports by making them cheaper in the international market, it will also prevent imports by making them more expensive to the local consumer. Hence, the net impact of both policies is expected to improve the Balance of Payments.
However, it’s interesting to note that in most Third World Countries these policies do not complement each other so perfectly and the typical outcome in this scenario is a far cry from an improved Balance of Payments. The social costs for the citizens of the country are enormous. The program, typically, results in a take-over of the domestically owned businesses by their foreign competitors. It puts the squeeze on domestic capitalists in several ways. Devaluation raises the price in local currency of the inputs that need to be imported and also of the unpaid debts resulting from past imports. This, a severe blow in itself, is compounded by the fact that loans are not available as readily as before due to the contraction of bank credit and hence the producers cannot get the loans needed to carry out operations (Payer, 41).
The final blow comes from the removal of protectionism that makes the local producer highly vulnerable to competition from better quality and sometimes cheaper imports. The mass importation of rice in Nigeria depressed the sales of the local industry because the imported rice was not only of better quality, but it was also cheaper. Similarly, the adoption of foreign exchange auction policy by Zambia in 1985 and Ghana in 1986 immediately resulted in a worsening of the economic situation of both countries and raised new challenges for the already depressed economies (Okogu, 34). Hence, it is evident that a possibility exists whereby devaluation is not always an antidote to the liberalization of imports and both policies in effect end up harming the domestic market severely.

Another major objective of this economic liberalization is to encourage foreign investment in the developing countries. However, there is still a lot of uncertainty regarding the political and economic stability in many African LDCs which deters the international investors. With the increase in import bills and devaluation of currency already in place, the absence of foreign investment implies a net capital outflow from the country. The experience of Ghana in early 1980s and of Cameroun in 1987 is a case in point whereby the countries failed to attract foreign investment. Thus, liberalization can actually boost the capital outflow without attaining its more implicit goal of capital inflow (Okogu, 41).

Another fundamental criticism of conditionality policies stems from their emphasis on major budgetary cuts that the government of the debtor country has to agree to in order to get the aid. A government’s expenditure has to meet its revenues, otherwise there is trouble down the road and a probability that the loan won’t be repaid. Therefore, the domestic aggregate demand needs to shrink so that the country can ‘live within its means’. It is also envisaged that the cuts in budget would lead to more efficient allocation of resources between competing needs. The policies imposed to bring about this contraction of aggregate demand include a cut in public expenditure and the removal of food and other types of subsidies, along with the liberalization of trade, foreign exchange and price controls. Other policies related to the above include a reduction in the real wage rate of workers so as to increase the share of profits in the overall national income, and a possible privatization of state enterprises, especially those that are not self-sustaining (Okogu, 34).

First of all, the slash in public expenditure has unfortunate consequences for the long term development of the recipients because expenditure on education and health sectors is a major victim. Ethiopia is a case in point where the IMF proposed that funds should not be allocated to building schools and hospitals. Some of the poorest people in the world were being denied education and health facilities (Stiglitz, 30). Moreover, the cuts in public expenditure entail an end to the consumer subsidies and price controls. Public utility rates usually go up and the public transportation becomes more costly. In Ceylon, the free rice ration for every citizen supplied by the government was a major target of the IMF’s deficit-cutting operation (Payer, 42). It is often suggested by economic experts that alternative policies do exist that would prevent the reduction in spending on important sectors but IMF does not consult any economic experts besides its own which often results in weakening the entire social structure of a poor, developing country.

Another criticism leveled against the Fund concerns the power play that is often observed whenever it leaves the neutral position of a multilateral aid institution and becomes involved in the politics of the recipient country. IMF intervention in Brazil, which is claimed to be one of its ‘success stories’, has a lot to do with the failure of democracy in Brazil during the 1970s (Payer, 143). This point is further illustrated by the IMF’s criticism of Ethiopian government after it made an early loan repayment to an American Bank by using its reserves. The problem was not the repayment itself, but that it was done without taking IMF into confidence, even though it was none of IMF’s concerns (Stiglitz, 30).

The question that now arises is whether these conditionality policies have actually reduced the debt burden of the poor Third World debtors or not. Is all the pain suffered by the recipient countries in the form of the consequences of these stringent policies worth it? The truth is that despite increasing debt service to the creditor countries, these payments are continually increasing rather than decreasing. Thus, the absolute size of the debt remains virtually the same. The adjustment programs put in effect by the Fund have rendered these poor countries more and more incapable of servicing their debt with each passing year. The LDCs are more than 100% in debt now than they were when the debt crisis first emerged (George).

Despite these massive failures, why aren’t the debt management officials of IMF held accountable? The answer can be found if one looks at the jury of this multilateral institution. It comprises of MNCs and international banks. For the MNCs, the adjustment programs reduce the wages they have to pay in developing countries which vastly escalates their profits. And the international banks who serve on the jury enjoyed several years of record earnings because of the high interest earnings on these debts.

Moreover, the IMF has the support of the elites of many of the Third World countries because the Fund’s policies have served their purposes as well. The low wage rates and reduction in the power of the unions immensely benefit these rich people of poor countries. The devaluation of the currency makes them richer at home because all their savings are deposited in foreign banks. Furthermore, they are not affected by the unemployment in the public sector that often follows the implementation of Fund’s policies because they can always find jobs in the private sector. As a reward for their docility, these elites often get financial favors from the creditor countries because it is through these elites that they are able to maintain their dominance on the debtor country. Hence, due to the selfish motives of these Third World elites and their insulation to macroeconomic shocks, resources have drained out of their countries (George).

In light of the evidence provided and the arguments put forth, it would be reasonable to conclude that in many Third World countries the economic, social and political situation has worsened due to the Fund’s stringent adjustment policies that are poorly fitted to address the problems of these countries, are inherently skewed in favor of free market and economic liberalization, propose ill-advised budget cuts and override the sovereignty of the recipient country governments. Whereas in some countries the adjustment plans might have worked out, in most cases they have not. And this says a lot about how successful IMF has been in living up to its vision of bringing about global stability.

Works Cited

Biermann, Werner, and John Campbell. The Chronology of Crisis in Tanzania 1974-86. The IMF, The World Bank and The Third World Debt. Tech. Print.

Fanos, Safwat. Sudan and the IMF, 1978-83. The IMF, The World Bank and The Third World Debt. Tech. 1989. Print.

George, Susan. "How the Poor Develop the Rich." The Post-development Reader. Print.

Okogu, Bright. SAP Policies in African Countries- A Theoretical Assessment. The IMF, The World Bank and The Third World Debt. Tech. 1989.

Payer, Cheryl. "The IMF and the New Style of Aid-giving." The Debt Trap. 1974. Print.

Stiglitz, Joseph E. "Broken Promises." Globalization and Its Discontents. New York: W.W. Norton, 2002. Print.

Williamson, John. "Introduction." IMF Conditionality. Institute for International Economics, 1983. Print.