by Lawrence J. McQuillan
In July 1944, delegates from forty-four nations gathered in Bretton Woods, New Hampshire, to design a postwar international monetary system that would promote world trade, investment, and economic growth. The framers created the International Monetary Fund (IMF or fund) to supervise the new "Bretton Woods monetary regime" that sought to keep national currencies convertible at stable exchange rates and to provide temporary, low-cost financing of balance-of-payments deficits resulting from misaligned exchange rates.
In reality, the framers of the Bretton Woods regime created an international price-fixing arrangement enforced by the IMF. After joining the fund, each member country declared a value for its currency relative to the U.S. dollar. The U.S. Treasury, in turn, tied the dollar to gold by agreeing to buy and sell gold to other governments at $35 an ounce; the inflation of the 1960s, however, made the U.S. commitment to sell gold at that price unsustainable. To preserve U.S. gold reserves, President Richard Nixon closed the gold window in August 1971, effectively uncoupling the dollar from gold and ending the fund's original mission of supervising a system of pegged exchange rates. Looking for a new mission, the IMF quickly evolved into a financial medic for developing countries. Beginning in the early 1970s, the IMF skillfully used a series of global economic crises to increase its capital base and financing activities.
Has the expansion of IMF financing activities alleviated the balance-of-payments problems of member countries and encouraged prudent, progrowth economic policies? The evidence, much of it supplied by the IMF, demonstrates that the fund does more harm than good. Historical studies as well as recent initiatives in Mexico, East Asia, and Russia reveal that IMF financing programs, which rarely prescribe appropriate economic policies or sufficient institutional reforms, are at best ineffective and at worst incentives for imprudent investment and public policy decisions that reduce economic growth, encourage long-term IMF dependency, and create global financial chaos.
It is time to scrap the IMF and strengthen market-based alternatives that would promote an orderly and efficient international monetary system. Key reforms include floating exchange rates, internationally accepted accounting and disclosure practices, unfettered private financial markets, and fundamental legal, political, and constitutional rules that would allow free markets to emerge and countries to achieve self-sustaining economic growth and development.
The first half of the twentieth century was marked by two world wars and a global depression. The European continent suffered greatly in both wars, and the United States was devastated by the Great Depression. From these conditions arose a desire to create a new international monetary system that would (1) reduce the frequency, severity, and financing cost of balance-of-payments (BOP) deficits, (2) stabilize exchange rates without being wholly reliant on gold to back currencies, and (3) eliminate 1930s-style "beggar-thy-neighbor" trade policies, such as competitive devaluations and foreign exchange restrictions, yet substantially preserve each nation's ability to conduct independent economic policies. Multilateral discussions led to a gathering of forty-four nations in July 1944 in Bretton Woods, New Hampshire, to design a postwar international monetary system. Conference delegates drafted the Articles of Agreement for the International Monetary Fund (IMF or fund), which was created to supervise the new "Bretton Woods monetary regime."
Under the original Articles of Agreement ratified in December 1945, the IMF supervised a system of pegged exchange rates. After joining the fund, each member country declared a value for its currency relative to the U.S. dollar. The U.S. Treasury, in turn, tied the dollar to gold by agreeing to buy and sell gold to other governments at $35 an ounce. A country's exchange rate could vary only one percentage point above or below its declared par value. The IMF permitted rate movements greater than 1 percent only for countries in "fundamental balance of payments disequilibrium" and only after consultation with, and approval by, the fund. Countries with temporary, moderate BOP deficits were expected to finance their deficits by borrowing currency from the IMF rather than imposing exchange controls, devaluations, or deflationary economic policies, which could spread problems elsewhere. Member governments were expected to keep their national currencies fully convertible for current account transactions.
By maintaining convertible currencies at stable exchange rates, thereby eliminating currency risk, the framers of the Bretton Woods regime hoped to promote world trade, investment, and economic growth. BOP deficits resulting from misaligned exchange rates were expected to be temporary and readily financed by IMF resources. In reality, the framers created an unsustainable international price-fixing arrangement that eventually ended the par value system and the fund's original mission. Looking for a new mission, the IMF quickly evolved into a financial medic for developing countries. In this capacity, the fund has lent billions of dollars to member countries with detrimental effects: reductions in economic growth, long-term IMF dependency, riskier global investments, and mismanaged domestic economies. This essay describes the fund's original mission, explains its transformation into a financial medic for developing countries, and details its many failures. As an alternative to the IMF, key market-based institutions would promote an orderly and efficient international monetary system. http://www.hoover.org/