- Blog Post
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The Wall Street Journal (Slater and Hilsenrath) reports that Brown Brothers Harriman estimates that Russia, Mexico, Brazil and India have spent $75 billion in the foreign exchange market defending their respective currencies so far this month.
The most the IMF ever lent in a year to the world’s emerging economies? About $30 billion.
Nor have emerging economies limited themselves to just intervening in the spot market. Brazil committed to doing $50 billion of currency swaps. Korea has guaranteed $100 billion of bank liabilities. Russia’s different commitments add up to something like $200 billion – though to be honest I have lost track.
The IMF’s total lending capacity (without drawing on its supplementary financing lines): roughly $200 billion.
Right now, the IMF is too small to meet the foreign currency liquidity needs of the larger emerging economies – those economies like Mexico, Korea, Russia, India and Brazil that have GDPs of around 1 trillion dollars and substantial financial ties with the rest of the world. At least if the IMF has to draw on its own resources. If Japan or China lends alongside the IMF, it could mobilize bigger sums than it can lend on its own.
The IMF clearly still has a role – whether supplementing the reserves of some larger countries in a modest way or supporting smaller countries. It is now lending -- or soon will be -- to Iceland, Ukraine and Hungary. But in a world where Dani Rodrik argues the IMF needs to be lending hundreds of billions rather than tens of billions ("What will be required now is more of the order of hundreds of billion dollars"), it lacks the resources* to be at the center of the international financial system.
In very broad terms, the dollar liquidity needs of borrowers outside the US have been met in three different ways.
-- European banks effectively have been given access to the Fed. Not directly. But indirectly. European central banks can borrow dollars in the Fed in literally unlimited quantities by posting euro or pound or Swiss franc or Swedish krona collateral. And European central banks can then onlend the dollars they borrowed from the Fed to their own (partially nationalized) banks.
-- Large emerging economies with large reserves (and almost all the large emerging economies started the current crisis with over $200 billion in the bank, and that – surprisingly – no longer looks sufficient) can use their own reserves to meet the liquidity needs of their own firms and banks. Russia ended the second quarter of 2008 with a bit less than $570 billion in reserves; Russian borrowers (mostly private sector borrowers) had around $410 billion in foreign currency debt. Russia consequently is a position where its government can meet – or try to – the foreign currency liquidity needs of its own residents without international help. Korea is too, perhaps.
-- Small emerging economies with small reserves have turned to the IMF. And more are likely to do so. Some small emerging economies that are part of "Europe" have also turned to the ECB along with the IMF. The IMF and the ECB look set to lend to Hungary; Iceland will get support from the Nordic central banks as well as the IMF.
The gap between the IMF’s resources and the liquidity needs of emerging economies with foreign currency liabilities could be addressed in one of four ways.
-- The set of countries with access to swap lines from the Fed could be expanded, allowing more countries to borrow dollars by posting their own currency as collateral.
-- The IMF’s resources could be supplemented by lending from countries with large reserves.
-- Asian countries with large reserves could pool their resources to support other Asian countries liquidity needs without making access to that reserve pool conditional on an IMF program. The Gulf countries could also do something similar for the Middle East.
-- The IMF’s resources could be expanded so it would have a balance sheet large enough to be relevant for a broad set of countries.
The political implications of each option differ.
Expanding the Fed’s swap lines makes the US the central player in meeting the global need for dollar liquidity. The ECB presumably would play a similar role in meeting global needs for euro liquidity. Countries that aren’t close allies of the US and Europe would likely want to assure their own access to dollars and euros by self-insuring, i.e. holding huge quantities of reserves.
Relying on China and Japan to supplement the IMF effectively makes China and Japan the key players. It shifts global political power to those with large (some would say excessive) existing reserves rather than those with large votes in the IMF. Regional reserve pools would have a similar effect.
Expanding the IMF would by contrast strengthen the voice of those countries with the biggest votes in the IMF. Right now that is the US and Europe. But the IMF’s voting structure also could be adjusted.
The emerging markets’ sudden need for dollar and euro liquidity suggests an agenda for the new Bretton Woods conference (or G-20 Leaders meeting) that would goes beyond reaching agreement on the need for more counter-cyclical financial regulation and moving the trading of credit-default swaps and other over-the-counter derivatives to organized exchanges.
More and more borrowers need dollars and euros to pay off maturing debts that they can no longer rollover – and finding those dollars and euros has been hard. Buying them on the market is an option, but that adds to the instability in the currency market. Supplying the needed liquidity is in some sense an alternative to further (competitive?) depreciation by major emerging economies. Consequently, it is in the enlightened self interest of the US, Europe and even China to lend emerging economies the funds needed to avoid a major fall in their respective currencies.
* The IMF could do a “general SDR allocation” to increase the reserves of all its members. At this stage, nothing should be off the table.