many times can the most powerful financial institution in the world — the
International Monetary Fund — make the same mistake? The answer seems to be: as
many times as it wants to. As Argentina teeters on the brink of defaulting on
its $150 billion foreign debt, and finance minister Domingo Cavallo jets all
over the world trying to convince the financial markets that the inevitable is
not going to happen, there is an eerie familiarity to the whole sequence of
back to November 1998: Brazil’s currency was highly overvalued and most
economists expected the peg — its fixed exchange rate against the dollar — to
collapse. Enter the IMF, arranging a "rescue" package of $42 billion in loans,
and its usual application of leeches to bleed the patient: sky-high interest
rates and budget cuts, guaranteed to slow the economy and put the burden of
"adjustment" on the poor.
Within two months the Brazilian real had collapsed anyway, leaving the country
with nothing to show for the IMF plan but a pile of foreign debt and a
Argentina may be headed for a similar fate. The Argentines pegged their currency
to the dollar a decade ago, and the move is widely credited with helping to end
an era of high inflation.
there are disadvantages to a fixed exchange rate, and Argentina has come to see
the worst of them in the last few years. As the US dollar rose in value the
Argentine peso had to rise in step with it. When the Fed raised interest rates
in the United States, Argentine interest rates had to go up too, even with their
economy already in a slump. When Brazil’s currency collapsed, it made
Argentina’s exports to that country inaccessibly expensive.
all adds up to a finance minister’s worst nightmare: an overvalued currency and
a fixed exchange rate that many investors believe cannot hold. The country must
borrow at ever higher interest rates, because of the increasing risks of both
currency collapse and default on the foreign debt. And as the country borrows
more, these risks increase. Argentina now has debt service that is approaching
its total export earnings.
IMF’s role in Argentina, as in similar situations, is not helpful. First, they
act as "enabler" for the loan-addicted government, providing enormous loans to
prop up the currency. Some of the better-connected and wealthier investors are
thus able to get their money out before the inevitable collapse, or even worse,
to make a fortune by speculating against the domestic currency.
IMF argues that to let the currency fall would risk a return to hyperinflation.
But no such thing happened after the Brazilian real collapsed. And for the
Russian ruble in 1998, where the Fund also wasted billions and bled the economy
in order to prop up an overvalued currency, the result of the currency’s
collapse was even more favorable. Not only was the ensuing inflation easily
manageable, the economy has since registered its highest real growth in two
this is consistent with standard economic theory. We would not expect terrible
inflation from a currency devaluation in a country where imports are a
relatively small fraction of the economy (about 11 percent in Argentina, 7
percent in Brazil). A devaluation of the domestic currency is often the best
solution in these situations: it makes the country’s exports cheaper and its
imports more expensive, thus improving the trade balance and stimulating growth.
Fund also plays another destabilizing role in these crises, by setting targets
that the country’s government must meet in order to "reassure financial
markets." But these targets may be politically difficult to meet — as well as
unnecessary or even harmful to the economy.
when the country fails to do what it is told, the crisis worsens. In Argentina’s
case the government budget deficit target for 2001 has been increased from less
than 1 percent, to now 2.3 percent of GDP. These are very tight constraints for
an economy in the midst of a long recession: for comparison, the US ran a budget
deficit of 4.6 percent of GDP during our last recession (1991), and 6.1% coming
out the previous, deeper recession (1983).
year ago the Meltzer Commission, a bi- partisan Congressional panel appointed to
review the IMF’s practices, recommended a number of steps to downsize this
institution, and reduce the likelihood of these repeated and often disastrous
economic failures. Maybe it is time to put some of these reforms in place.
Mark Weisbrot is co-director of the Center for Economic and Policy Research
(www.cepr.net) in Washington, DC.