Chapter 6 Session 6: Financial Integration and Global Governance

6.1 Agenda

  1. Images of instability now and then
  2. Role of the IMF/WB
  3. Impact of IMF programs
  4. Additional tools at the disposal of countries

6.2 Instability now and then

6.2.1 Number of Banking and Currency Crises, 1950-2014

6.3 Role of the IMF/WB

6.3.1 The IMF System in Context

The Gold Standard (1870-1914) * Gold as Common denominator * Currencies pegged to gold * Incentivized surpluses in gold

Excessive printing of currency for war efforts Great depression and competitive devaluation to boost exports

Bretton Woods System (1944-1973) * US dollaras new commonde nominator, convertible to $35 ounce of gold * US(then):70% of global GDP, trade surplus, high productivity

Post-Bretton Woods (1973 – present) * Increase in US money supply by Lyndon Johnson * US ran trade deficit in 1971, but US obligated to $35 per ounce of gold, so rush on putting gold into foreign central banks * Other countries increased productivity * May 1971 Germany allowed its currency to float * Now: No commonde nominator; diversity of exchange rates

6.3.2 International Monetary Fund (IMF)

  • Financial intermediary between countries:
    • Each country contributes funds to a pool through a quota system from which countries with payment imbalances can borrow
  • Provide loans to stabilize financial systems in difficulties
    • E.g. PIGS during financial crisis

Works to “foster global monetary cooperation, secure financial stability, facilitate international trade, promote high employment and sustainable economic growth, and reduce poverty around the world”

6.3.3 World Bank

  • International Financial institution that provides loans to developing countries for capital programs
  • Comprises two institutions:
    • The International Bank for Reconstruction and Development (IBRD)
    • The International Development Association (IDA)
  • Two main objectives:
    • To reduce at 3% the proportion of individuals living with less than $1,25 a day by 2030
    • To favor, in each country, income growth for the bottom 40%

6.3.4 Membership in the IMF/WB

  • Open to any country willing to agree to rules and regulations
  • 189 member countries as of 2015
  • Membership requires payment of a quota.
  • Quota size reflects global importance of country’s economy and political considerations.

The quota:

  1. determines voting power
  2. serves as part of official reserves 3.determines country’s borrowing power

August 2014 - US$362 billion

6.3.5 Number of Member Countries, 1945-2015

6.3.6 A Weighted Voting System

6.4 Impact of IMF programs

6.4.1 Incidence of IMF Programs, 1945-2015

6.4.2 Program Incidence, 1950-2014

6.4.3 Lending Volume, 1950-2014

6.4.4 IMF Programs Becoming Bigger, 1960-2014

6.4.5 Long-Term Effects

6.4.6 More Recently…

Iceland

  • IMF support in 2008 in exchange for austerity measures including a 30% decrease in funding to the health care system
  • Refusal of the measures and debt reductions
  • Debt repayment as of 2012 and economic growth since then

Greece

  • IMF support in 2010 in exchange for the privatization of state-owned enterprises and infrastructures, and reduction of the budgets allocated to social programs
  • Application of the plan and departure of firms
  • New requests for help; was still in a state of crisis in 2015

6.4.7 Total Arrears to the IMF 1984-2014 and Greek Loans

6.4.8 The Largest IMF Programs

Source : Reinhart et al. (2016)

6.4.9 Evolution of IMF Mission

Source : Reinhart et al. (2016)

6.4.10 Challenges

  • Surveillance:
    • New mission to stabilize the markets
    • Could not predict the 2008-2009 crisis
  • Conditionality
    • Conflict between governments and IMF
  • Crisis management in the case of sovereign debt
    • How to determine the solvency of a country
  • Reforms:
    • How to make the IMF impartial

6.4.11 IMF Forecasts for Global GDP Growth

6.4.12 IMF Forecasts for Global GDP Growth

Main risks:

  • Current trade war
  • Rise of interest rates in the United-States
  • End of economic stimulus in the United- States and Europe

6.4.13 What does the IMF think of Canada?

  • Housing market overvalued by as much as 30%
  • Growth forecast of 1.5% in 2019 and 1.9% in 2020
    • Above Mexico following Trump election
    • Below the United States of America (First)
  • Concerns over lower commodity prices and debt level
  • Concerns over aging population and readiness to deal with the shock
    • Public Pension Plans
    • Economic growth

6.5 Additional tools at the disposal of countries

6.5.1 China and Its Currency

6.5.2 China’s Foreign Exchange Reserves

6.5.3 China’s Exchange Rate Controls

6.5.4 Germany Versus China Account Surpluses

6.5.5 Germany’s Imbalances: A Chronic Problem

6.6 Data Challenge

6.6.1 Financial Risk

You work for an investment fund and the CEO would like to diversify his investment. Aware of the possible financial risks, he asks you to determine the country in which to invest. Based on the concepts currently being discussed and the data available to you, create a graph with a linear regression and explain which country would be the most favorable for the company.

The United States