Assault on the IMF

by Kandaswamy Subramanian

(May 29, Chennai, Sri Laaka Guardian) The bizarre sexual assault on a chamber maid in a New York hotel by Dominique Strauss Kahn (DSK), formerly Managing Director, International Monetary Fund (IMF), on 15th May, 2011 shocked public opinion across the globe. He has been charged by the New York police for seven offences and the punishment may run to 25 years, if finally convicted. However, it is surprising that the assaults made on the IMF by European countries to capture top posts have not met with similar shock. Indeed the BRICS have also been making feeble attempts; but the assaults by European countries are brazen.

The European countries were the earliest to commence the assaults and they seemed to imagine they had a natural right to get the post. They fell back on post-war history, tradition and the current euro mess in support of their claim. Emerging economies, especially those in the G-20 and its sub-group called BRICS, lean on declarations issued after G-20 Summits on the reform of the IMF. The atmosphere is indeed surcharged with drama and high expectation. It may well end up as an absurd play.

The problem of finding a successor to DSK did not begin with the New York hotel incident. Rather, it lent urgency to an issue which was already brewing within the IMF ranks. Months earlier, DSK had announced his intention to resign from the post to be able to stand in the French Presidential election as a Socialist candidate. He was viewed as a strong contender who could threaten the re-election chances of President Sarkozy.

Among the French electorate, there was the belief that DSK had the right stature and accoutrements. He was nicknamed as one of the "caviar left" which glamorised his love of luxury and ostentatious living, notwithstanding his socialist label.His presidential hopes were buttressed by his millionaire wife Anne Sinclair who was a television celebrity in France for some years. DSK’s departure from the IMF was imminent and had already given rise to internal debates over a successor.

A related development linked to DSK’s exit was that of John Lipsky, the next senior official in the IMF. Lipsky completes his term by end of August. He did not seek a second term though he is highly respected within the Treasury/Fund circles. These, together, created the need for a management change in the IMF.

The post-war unwritten tradition has been that the top post of the IMF - Managing Director- goes to Europe and the next level – Senior Deputy Managing Director – to a U.S. nominee. This tradition is not ordained by any law or Article of the IMF or the World Bank. A sudden vacancy in both the positions was double jeopardy inasmuch it strengthened the claims of emerging economies to have a share in the top management.

The other tradition linking the Washington Twins was that, in return for Europe taking the top IMF post, the U.S. would take the top World Bank post- the President. Between Europe and the U.S., this was a snug arrangement which worked well and went unchallenged for years. It took decades for demands to arise for a change in their management policy. Such demands have indeed risen In recent years and negotiations are continuing in many forums, especially the G-20.

The demands for management change formed a part of the package of proposals to reform the IMF. Share in management was linked to those seeking changes in the ‘seats’ of the IMF Executive Board and voting rights or ‘quotas’ of members. For more than two decades, economists and analysts had criticized the "democratic deficit" in the management structure of the IMF and World Bank and were making suggestions to correct them and to restore greater legitimacy to the Twins. The OECD countries, especially the U.S., were unyielding and continued with the post-war legacy regardless.

Developments in recent years like the weakening of Western economies, the relative shift of economic balance in favour of Southern developing countries, the outbreak of the financial crisis in August 2008 and the formation of G-20 as a group to coordinate global efforts to combat the global crisis, etc. would weaken their resolve. Advanced economies began to concede the demands for reforms and made some moves or gestures and declarations in that regard. They signaled willingness to shed power in the IMF and share it with the emerging economies.

The emerging economies were euphoric over such concessions and began to feel they were winning in the race. Sadly, they are not alive to ground realities. What they assume to have gained through G-20 exercises is more in form than in substance. Rather, it is work in progress and the current battle for the top IMF post would exemplify that harsh reality. With the sudden fall of DSK, European countries found themselves in a bind. Earlier when DSK had announced his intention to resign, they had time on their side to play a game on emerging economies. As Simon Johnson, former IMF Chief Economist and currently with the MIT, explained, "The prevailing belief was that the Europeans would pull one of their clever diplomatic moves and nominate one of their own managingdirector, in consultation with the Americans who want to hang on to the presidency of the World Bank.’ He went on, "This process is much harder for the Europeans and Americans to control."

Many observers felt that the departure of DSK offered a good opportunity for the emerging economies to stake their claims for higher share of the IMF management. Their grievance was that that it was not proper that Europe and America should continue to have lock on senior posts even as emerging economies are called upon to assume a larger share of the financial burden. This turned acute when the IMF began to pump trillions of dollars to bail out European banks.

Unfortunately, European officials have turned assertive in their claims to keep the post for a European as heretofore. German Chancellor Angela Merkel took the lead saying that the sovereign debt crisis in the Eurozone periphery was a good reason to propose a European candidate though she did concede, half-heartedly, that emerging market economies could mount a valid claim on the top post "in the medium term." Jose Manuel Barroso, President, European Commission, lost no time by adding that the EU would put forward a common candidate. The Belgian Finance Minister joined the chorus and said, "It would be preferable if we (Europeans) continued to hold those posts in future."

There have been very interesting and provocative analyses, comments and debates on the issues among many economists and journalists. Indeed, opinion is diametrically divided. Wolfgang Munchau, a popular and provocative columnist of Financial Times, had no hesitation in writing that at the urrent juncture the IMF needed another European head. He referred to the IMF’s programs and involvement in the Eurozone’s contagious financial crisis which constituted the biggest threat to global financial stability. Strangely, he takes the view that at an hour of crisis like the present one, the IMF’s single most important influence in Eurozone crisis was political and, "In a situation marked by a lack of political leadership, the IMF filled a vacuum." Ergo, the top post should go to a European politician. It is not economics stupid, but politics!

Coming from a respected commentator, this plea was rather strange. Arvind Subramanian countered that line of reasoning and drew attention to the changing nature of the Eurozone crisis and said, ".. there is less need for a European and more for an objective outsider." He lists the names of nine potential candidates from non-European or Asian countries who have the merit to be considered for the post. Raghuram Rajan was more forthright in his analysis. He argued against an ambitious European politician taking over the reins of the IMF. As he said, "The biggest risk of all is to have someone heading the fund whose political ambitions are still alive. Here there is a danger that decisions made by someone with substantial influence over nearly a trillion dollars of funding will be made with a view to establishing an electable record in his or her home country." He felt that the decision over the appointment should not be decided behind the closed doors of the European Council and should be transparent. Mohamed El-Erian is one of the eminent financial analysts known for his wizardry in finance and his support for the concerns of emerging economies. (He was mentioned as one of the potential candidates for the post, but has since indicated his unwillingness to be considered.) He is very critical of "the feudal process" and argues how the legitimacy of the IMF itself is undermined by it. "Nominations have been determined by political back door deals among a small set of countries, often governed by issues of national prestige rather than job qualifications

" The feudal selection process must be changed……Without a credible and quickly recovering IMF, Europe will face even more uncertain prospects, progress on structural reforms in advanced countries will recede, and the world will find it more difficult for rapidly growing economies." The harsher critique of some analysts is that if the IMF did not have an Asian to handle the Asian crisis when it was raging or a Latin American to handle the Brazilian and Argentinian crises when they were aflame, why should Europe need a European as the MD of the IMF to handle the Euro crisis?

Martin Wolf also takes the same view. He feels that the European argument does not have much force. As he explains, "The counter argument is that it is in the Europeans’ interest to receive unbiased and independent advice from the IMF. That Mr. Strauss Kahn could not give. Mme Lagarde will not be independent either."

Unfortunately, issues relating to the IMF management and appointment to top posts are seen through the prism of the current Euro crisis. It results in a myopic view and a closed mindset. This psyche seems to drive all European countries to form a chorus and make a pitch for a European candidate. There is an implicit assumption or nervousness bordering on fear that non-Europeans cannot provide leadership. This assumption, stretched to its extreme, may transform the IMF into a bucket shop to be run for Europe by Europeans. It fails to reckon with the fact that the IMF is an international financial institution which is funded by 187 members and has a remit to take care of global financial stability and larger issues like exchange rate volatility, capital management, etc. It also ignores the special responsibility to poorer developing countries. Even a Lex column in the Financial Times betrayed the same prejudice when it wrote, "Ideally, nationalities should not matter, but a Mexican or South African central banker …. would be less comfortable with intra-European intricacies, a consideration which has made Christine Lagarde, French finance minister, the favourite to succeed DSK."

In short, in all this thinking, as Moises Naim lamented, "In the IMF succession, (there is) a stench of colonialism." Latest reports suggest that most of the European countries are supporting the candidature of Lagarde. The British Chancellor George Osborne has lent support. The German Finance (Wolfgang Schauble) has said, "Should Christine Lagarde decide on a candidature, Europe would have the best chance to fill the post." Italian Prime Minister Silvio Berlusconi has called her "excellent." Indeed there are stray dissenting voices within Europe. But, these will be muffled in due course.

It is not agenda item in the G-8 meeting being held at Deauville, France, this week. (26- 27 May, 2011.) But the item is all around the gathering and is being debated informally both inside and on the sidelines. It is abundantly clear that all of Europe is united behind Lagarde and, for the first time, President Sarkozy has supported her candidature.

Mme Lagarde has entered the fray offering herself as a candidate. Perhaps, as a measure of diplomacy, she has proposed herself as a candidate and not by Europe! She says, "I am not basing my candidacy on the fact that I am European. My intimate knowledge of the European community, of the Eurozone and its leaders, can help a bit but it should not be a plus on which my candidacy should be based." More significantly, she has launched a campaign to woo developing countries. She is preparing to undertake a tour of emerging market capitals to persuade them to support her candidature. In a statement issued she has promised to remedy the management deficit in the IMF by appointing more from emerging economies to senior posts. She affirms, "I don’t think I should represent any particular constituency or region. I should serve the whole institution." It is unclear how reassuring this will be to sceptics who have been watching the performance of the IMF in the last three years. The fact that she is beginning to lobby her candidature with the developing countries is clearly an indication that times have changed somewhat. Is it enough?

The IMF has already called for nominations and hopes to finalise the appointment by the end of June. Nominations opened on 23rd May and close on 10th June according to an announcement by IMF spokeswoman Caroline Atkinson today (27 May). Nominations have been called from all the 187 members of the IMF unlike in the past when it was confined to 24 members of the Executive Board. (This is, at least on paper, one of the consequences of the demands by G-20 for a more transparent selection process.) The selection would be announced by June 30.

So far, there are only two candidates who have been officially sponsored: Mme Lagarde France and Agustin Carstens, Chief of Mexico’s central Bank. (Brazil has expressed reservations over his nomination.) Russia has been suggesting the candidature of Grigory Marchenko, head of Kazakastan’s central bank, but is yet to sponsor it officially.

Russia is also open to consider the candidature of both Lagarde and Carstens and is yet to indicate its preference.

The spokeswoman of the IMF said, "The executive board, whose members represent a country or group of countries, is aiming to select the next chief by consensus, but it could resort to a vote." If there is vote, the U.S. and Europe will win hands down. IMF data as on March show that G-7 major economies hold 44.3% of voting rights and emerging economies hold 40.5% it is more than clear that Lagarde is the winning candidate. As the Financial Times in an edit quipped, it is a "one horse race (which) will ill serve the IMF."

One issue on which her candidature could be unstuck is a pending legal issue where she is alleged to have abused her power and got a claim settled through arbitration instead of through courts in favour of a business friend. A verdict on this allegation is expected soon. Surprisingly, not one European celebrity proposing her name seems to be troubled by this stain on her record.

The other sticking point is the stand the U.S. may take on her candidature. Treasury Geithner was quick to act by replacing Lipsky as the acting Managing Director so that the IMF is not hamstrung in its regular operations. However, the Treasury has not revealed its hands over Lagarde’s candidature. Geithner made vague statements about the "ability of the IMF to be helpful" and to feel confident "that they will be able to." The U.S. has also called for an open and prompt process for choosing the new head. As the largest single shareholder wielding a shareholding of 17 per cent, the role of the U.S. is crucial. It can veto any proposal with its voting strength. However, the record of the Fund is that decisions are always taken by consensus and issues are not driven to their breaking point. They are deferred or withdrawn and brought back after backstage negotiations lead to consensus. There are enormous delays over decision due this procedure. However, this issue regarding appointment of the M.D. cannot be delayed beyond 30th June as already determined by the IMF. In 2007 also the decision to appoint DSK as the MD was taken by consensus. Further, the European crisis is getting out of hand and it needs a fully functional IMF. It is at the IMF Board that the U.S. may reveal finally its choice. On the sidelines of G-8 this week, Hillary Clinton said that Lagarde would be her personal choice and ‘is qualified for the post.".

There is no reason to believe that the U.S. will not back the European candidate. Firstly, it will like to fill the number two position (vacancy created by Lipsky) by one of its nominees. It has already picked David Lipton, a former Treasury Official and a current White House Staffer, for the slot. More importantly, it would like to keep the World Bank post as its preserve in line with the post-war tradition. There is the fear that Congress will not approve any funding for Bank programs like IDA, etc. if the Bank is not presided over by an American. The U.S. will not like to upset the apple cart. This should take us to the situation way back in 2009 when emerging economies were clamouring for reforms in the IMF and reduction of European seats in the Fund/Bank.

That issue related to the reduction of the number of seats held by European countries in the IMF Board. European states held 9 seats out of the total of 24. It was a complex matter linked to seats and shares in the IMF. The G-20 had been formed earlier and the U.S. needed the support and cooperation of G-20 to be able to coordinate and tide over the financial crisis. It was agreed that the seats held by Europe was disproportionate to their relative economic strength. The U.S., it seemed, was keen to keep the alliance of emerging economies. As explained by the Economist, "One reading is that the Treasury….. is really serious about this reform business, believing that the future of the IMS rests on its being seen by major emerging economies as an institution they have enough of a say to trust."

During the crisis and in the first two years of the crisis after the establishment of G-20, there were loud declarations and commitments on various macroeconomic issues such as financial stability, regulation, etc. One major part related to the reform of the IMF. These were covered in the London Communiqué and the Statement issued after the Pittsburgh Summit and, later, firmed up on 24 October 2010 after the G-20 meeting in Gyeongju, South Korea. DSK as Managing Director described them thus: "This makes for the biggest reform ever in the governance of the institution." It was touted as Europe giving up IMF seats to emerging powers.

It is not practicable, nor necessary, to deal with all the reform proposals. The most important one related to this issue concerning the appointment of the Managing Director. Both the London Communiqué and the Pittsburgh Leaders’ Statement stressed that future criteria for electing heads of all international institutions need to be based upon qualifications instead of regional origin. Significantly, they covered both the

IMF and the World Bank. Unfortunately, the G-20 communiqués do not provide details of such a process or the criteria included. It would possible for the US and European countries to argue that the process for election of a successor to DSK is transparent and would be on ‘merit.’ They can well exploit the vagueness and ambiguity in the earlier communiqués and commitments. Perhaps, emerging economies were taken for a diplomatic ride!

It is interesting that after the BRICS Summit held in China in April this year the leaders issued a statement seeking to end West’s monopoly on Leadership of World Bank and IMF. They said that the management structure of the institutions needs to reflect changes in the world economy. "The selection calls for a bigger role for developing countries in global institutions." Brazilian President Dilma Rousseff said, "We will insist on the fact that governance at the IMF and trhe World Bank cannot be a systematic rotation between the U.S. and Europe, with the other countries excluded."

Unfortunately, when the management crisis struck the IMF within a month after the last BRICS meeting, they were unprepared for a common, coordinated action. China called for selection "based on fairness, transparency and merit." China’s Zhu Minh was Already with the IMF as Adviser to the M.D. and is considered "not experienced enough for the position of managing director. In fact, China was hoping to elevate him to the Deputy Managing Director post in time. Reports also suggest that China may support the nomination of Lagarde. It has enormous euro assets and would like to cooperate with the EU to safeguard its assets.

The Brazilian reaction was that "it will be hard to prevent another European from taking place." As explained earlier, Brazil has reservations over Garstens of Mexico. India has not taken any initiative to nominate any candidate though its Finance Minister has indicated his attempts to find a common candidate from among emerging economies. (God bless him!)

South Africa’s Finance Minister has been supporting Trevor Manuel who has also issued strident statements criticizing the selection processes in the institutions. Every journalist and economist watching the developments began to say that there was lack of unity among emerging economies in nominating a successor. It is indeed sad that the loud and moralistic declamations made by them in platforms like G-20 and BRICS are not matched by their actions. The latest statement issued by the Executive Directors of BRICS in the IMF Board is another exercising in verbal posturing. It has been signed by those from Russia, India, China, South Africa and Brazil. If they meant it seriously, they should have issued t earlier. The statement recounts all the generalities raised in the earlier G-20 and BR%ICS gatherings and included in the Communiqués. Instead of raising them ad nauseum, had they come together earlier and nominated one common candidate, there was some hope of challenge to Europe. In the absence of such a move, it has gone by default.

The current developments and experience would suggest that the contents of G-20 agreements and statements should not be delightfully vague and should have body and contents to bind the Western powers when there is another change of guard. While suggesting this, we are aware of the difficulties in reaching such an agreement. But we in the developing world should not live in a fool’s paradise on the hope that G-20 will deliver all the goodies.

Reference

i, Financial Times, May 13, 2011, Lipsky move triggers debate on IMF posts.

ii. Financial Times, May 15, 2011, Crisis threatens European role in the IMF.

iii. Financial Times, May 16, 2011, The IMF needs another European head.

iv. Subramanian, Arvind (2011), A quick guide to the upcoming contest for the next MD of the IMF,

Peterson Institute for International Economics, Washington D.C., May 17, 2011.

v. Rajan, Raghuram (2011): Don’t let another politician run the IMF, Financial Times, May 19, 2011.

vi El_Erian, Mohamed (2011): Feudal IMF job process must change, Financial Times, May 17, 2011.

vii. Wolf, Martin (2011): Europe should not control the IMF, Financial Times, May 24, 2011.

viii. Financial Times, May 19, 2011, The IMF’s future going global.

ix.Naim, Moises (2011): In the IMF succession battle, a stench of colonialism, The Washington Post,

May 20, 2011.

x. Bloomberg Businessweek, Lagarde cements Support at IMF as Emerging Markets Thwarted,

May 25, 2011.

xi. Financial Times, May 26, 2011, Lagarde offers bigger voice to emerging nations.

xii. Financial Times. May 25, 2011, One-horse race will ill serve the IMF.

xiii.Economist, IMF Governance – Intrigue at the IMF, Aug. 26 th, 2010.