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International Monetary Fund

AGENDA: Tackling the issue of fiscal deficit, current

account deficit, volatility and sovereign debt in the global

financial system


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Dear Delegates,

Welcome to RISMUN 2012.

Being the delegates of the International Monetary Fund, your responsibility willbe to primarily find solutions to the economic aspects of the agenda at hand. Ifyou are well versed with the rules of procedure it would help you to understandthe proceedings of the committee and hence be in your benefit. Being therepresentatives of your countries, you are expected to discuss debate andnegotiate in the interest of your country and the people of the world.

Since the UN charter is the principle document facilitating discussions at UN,all delegates are expected to well verse with all articles of the charter.The background guide has been divided into various categories which will give

you a background of the problem as well as acquaint you with the mandate ofyour committee. All the sections are extremely important and hence, you arerequested to go through them carefully. The content given in the BackgroundGuide is just to give an introduction of the agenda; in the committee otherperspectives of the agenda have to come out as well.

At the end, we wish you all the very best for the conference and your research.Please feel free to contact the executive board whenever you have any query.

Regards

Prashant Khurana Sanchit Gupta Amlan Panda

Managing Director(M.D) First Deputy M.D Deputy M.D.

[email protected] [email protected]
mailto:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]


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Mandate, History and Powers of the IMF

Mandate of the International Monetary Fund and its Members Obligation

Like any other international organization, the IMFs mandate is founded in theArticles of Agreement, which sets forth the specific powers granted to the IMFand the purposes for which the IMFs powers have been granted. The extensionof the IMFs mandate is directly proportional to the extension of its membersobligations. The IMFs mandate covers all the international monetary problems,but has regulatory authority only over the system of exchange rates and theinternational system of payments. (Article I). IMF members obligations alsorelate to the same elements of the international monetary system, with thedistinction that their responsibilities concerning domestic policies are soft,while those concerning external policies are hard . The IMFs obligation of

surveillance spreads over the entire international monetary system (multilateralsurveillance), as well as over each members policies individually, with a

particularly hard obligation to carry firm surveillance over the exchange ratepolicies of its members (bilateral surveillance).

Article IPurposesof the Articles of Agreement of the IMFThe purposes are laid down in Article I and have remained unchanged since theIMF was established in 1945. They are exhaustive and do not, in and of

themselves, confer powers on the Fund, but they are intended to provideguidance as to how the powers set forth elsewhere in the Articles should beexercised.

Table 2: Article IPurposes

Article I: Purposes

The purposes of the International Monetary Fund are:

(i) To promote international monetary cooperation through a permanentinstitution this provides the machinery for consultation and collaboration oninternational monetary problems.

(ii) To facilitate the expansion and balanced growth of international trade, andto contribute thereby to the promotion and maintenance of high levels ofemployment and real income and to the development of the productiveresources of all members as primary objectives of economic policy.

(iii) To promote exchange stability, to maintain orderly exchange arrangementsamong members, and to avoid competitive exchange depreciation.


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(iv) To assist in the establishment of a multilateral system of payments inrespect of current transactions between members and in the elimination offoreign exchange restrictions which hamper the growth of world trade.

(v) To give confidence to members by making the general resources of the Fundtemporarily available to them under adequate safeguards, thus providing themwith opportunity to correct maladjustments in their balance of payments withoutresorting to measures destructive of national or international prosperity.

(vi) In accordance with the above, to shorten the duration and lessen the degreeof disequilibrium in the international balances of payments of members.

The Fund shall be guided in all its policies and decisions by the purposes setforth in this Article.

All the powers granted to the IMF relate to problems in the balance of paymentsof its members. While the IMFs purpose is to provide the platform forcollaboration on monetary problems between its members, the granted powerintended to achieve that purpose is the one enunciated in Article IV Section 3.That provision enables the IMF to oversee the management and adaptation ofthe international monetary system (multilateral surveillance) and to supervisethe members obligation of collaboration to promote a stable system ofexchange rates (bilateral surveillance). Article I(iii) and Article IV 3 focus on

the stability of the system of exchange rates. As such, for the IMF to exercise itspowers all problems must relate to the balance of payments and every economicpolicy pursued by a member is considered in the view of its impact on theexchange rate.

Obligations of the Member States:

Article IV, Section 1 of the IMFs Articles of Agreement

The essential purpose of the international monetary system is to provide a

framework that facilitates the exchange of goods, services and capital amongcountries, and that sustains sound economic growth.Additionally, a principalobjective of the system is the continuing development of the orderlyunderlying conditions that are necessary for financial and economic stability.

The purpose of the international monetary system is not the purpose of the IMF.The IMF has regulatory authority over some components of the system. Makingthe purpose of the IMF similar to that of the system would have meant asignificant increase of jurisdiction, and the drafters wished to avoid such

augmentation, even at the time of the Second Amendment.The assumptionunderlying the preamble is that, to the extent that members observe their general


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obligations set forth in Article IV, Section 1, they will enhance the effectivefunctioning of the international monetary system and, thereby, contribute to therealization of the broader economic benefits identified in this text.

The General Obligation to Collaborate

[E]ach member undertakes to collaborate with the Fund and other members toassure orderly exchange arrangements and to promote a stable system of

exchange rates.

This represents members general obligation of collaboration. The nature ofthe actions that members must take to satisfy the obligation of collaboration canonly be determined in light of the objectives of this collaboration: to promote

orderly exchange arrangements and a stable system of exchange rates. Similar

to the purposes and the obligation of bilateral surveillance of the IMF,members obligation of collaboration is directly related to the stability of thesystem of exchange rates (systemic stability).

The Specific Obligations

Article IV Section 1 lays down four specific obligations of particularimportance directly related to the general obligation of collaboration ofmembers.

The first two provisions have as their object the domestic policies of memberstates. The wording of these provisions makes them particularly softobligations, as a member state is required only to endeavor to direct itseconomic and financial policies toward [growth and stability]and to seek topromote stability by fostering orderly underlying economic . . . conditions. Theweakness of the obligations is not surprising considering that the mentioneddomestic policies to be pursued (economic and financial policies) are a matterof national sovereignty. Consequently, a member could not be required throughArticle IV consultations to change its domestic policies if presumed stable. The

last two provisions, (iii) and (iv), refer to a members external policies, andtherefore are formulated in hard language requiring actual results rather thanmere efforts. The logic behind the wording of the article is that systemicstability is presumed achieved if domestic and external stability are achieved,and, even more, the stability of the system of exchange rates would be enhancedif appropriate economic policies are pursued.

Obligations of the Fund (Article IV Section 3)

Surveillance


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At the very basic, Article IV 3(a) represents the provision conferring to theIMF the power to conduct multilateral and bilateral surveillance.

The second paragraph raises the level of surveillance to firm as it is directly

related to the hard obligations for members exchange rate policies. Thisprovision is perceived to undermine evenhandedness, given the fact that firmsurveillance is only to be exercised over members exchange rate policies,implying that there is closer scrutiny of members with fixed or managedexchange rates, unlike those that let their currencies float .

Obligations of Members

Article IV, Section 1, Preamble: . . . to promote a stable system of exchangerates.

Article IV, Section 1, paragraph (i): endeavor to direct its economic andfinancial policies toward the objective of fostering orderly economic growthwith reasonable price stability, with due regard to its circumstances.

Article IV, Section 1, paragraph (ii): seek to promote stability by fosteringorderly underlying economic and financial conditions and a monetary systemthat does not tend to produce erratic disruptions.

Article IV, Section 3, paragraph (b): . . . the Fund shall exercise firmsurveillance over the exchange rate policies of members . . .

History

The International Monetary Fund was originally created as part of the BrenttonWoods system exchange agreement in 1944. During the Great Depression,countries sharply raised barriers to foreign trade in an attempt to improve theirfailing economies. This led to the devaluation of currencies and a decline inworld trade. This breakdown in international monetary cooperation created aneed for oversight. The representatives of 45 governments met in the MountWashington Hotel in the area of Bretton Woods, New Hampshire, UnitedStates, with the delegates to the conference agreeing on a framework forinternational economic cooperation to be established post World War II. Theparticipating countries were concerned with the rebuilding of Europe and theglobal economic system after a devastating war .

There were two views on the role the IMF should assume as a global economicinstitution. John Maynard Keynes, from Britain, imagined that the IMF should

be a cooperative fund which member states could draw upon to maintaineconomic activity and employment through periodic crises. This view suggested


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an IMF helping governments to act as the US government had during the NewDeal in response to the great recession of the 1930s. Harry Dexter White, theUS delegate, foresaw an IMF more like a bank, making sure that borrowingstates could repay their debts on time. Most of Whites plan was incorporated

into the final acts adopted at Bretton Woods.

The IMF was formally organized on December 27, 1945, when the first 29countries signed its Articles of Agreement. The International Monetary Fundwas of the key organizations of the international economic system; its designallowed for the balance of the rebuilding of international capitalism and themaximization of national economic sovereignty and human welfare, also knownas embedded liberalism.

In 1947, France was the first country to borrow from the IMF. The IMFs

influence in the global economy steadily increased as it accumulated moremembers. The number of IMF member countries has more than quadrupledfrom the 44 states involved in its establishment, reflecting in particular theattainment of political independence by many developing countries in Africaand more recently the dissolution in 1991 of the Soviet Union. Most countriesin the Soviet Sphere of influence did not join.

The Bretton Woods system prevailed until 1971, when the U.S. governmentsuspended the convertibility of the dollar (and dollar reserves held by other

governments) into gold. As of August 2010, Romania ($13.9 billion), Ukraine($12.66 billion), Hungary ($11.7 billion), and Greece ($30 billion) are thelargest borrowers of the fund

Powers

With its near-global membership of 187 countries, the IMF is uniquely placedto help member governments take advantage of the opportunitiesand managethe challengesposed by globalization and economic development more

generally. The IMF tracks global economic trends and performance, alerts itsmember countries when it sees problems on the horizon, provides a forum forpolicy dialogue, and passes on know-how to governments on how to tackleeconomic difficulties.

The IMF provides policy advice and financing to members in economicdifficulties and also works with developing nations to help them achievemacroeconomic stability and reduce poverty.

Marked by massive movements of capital and abrupt shifts in comparative

advantage, globalization affects countries' policy choices in many areas,including labor, trade, and tax policies. Helping a country benefit from
http://www.imf.org/external/np/exr/key/global.htmhttp://www.imf.org/external/np/exr/key/global.htm


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globalization while avoiding potential downsides is an important task for theIMF. The global economic crisis has highlighted just how interconnectedcountries have become in todays world economy.

Key IMF activities

The IMF supports its membership by providing

policy advice to governments and central banks based on analysis ofeconomic trends and cross-country experiences;

research, statistics, forecasts, and analysis based on tracking of global,regional, and individual economies and markets;

loans to help countries overcome economic difficulties; concessional loans to help fight poverty in developing countries; and Technical assistance and training to help countries improve the

management of their economies.

Original aims

The IMF was founded more than 60 years ago toward the end of World War II(see History). The founders aimed to build a framework for economiccooperation that would avoid a repetition of the disastrous economic policiesthat had contributed to the Great Depression of the 1930s and the global conflict

that followed.

Since then the world has changed dramatically, bringing extensive prosperityand lifting millions out of poverty, especially in Asia. In many ways the IMF'smain purposeto provide the global public good of financial stabilityis thesame today as it was when the organization was established. More specifically,the IMF continues to

provide a forum for cooperation on international monetary problems facilitate the growth of international trade, thus promoting job creation,

economic growth, and poverty reduction; promote exchange rate stability and an open system of international

payments; and lend countries foreign exchange when needed, on a temporary basis and

under adequate safeguards, to help them address balance of paymentsproblems.
http://www.imf.org/external/about/history.htmhttp://www.imf.org/external/pubs/ft/aa/aa01.htmhttp://www.imf.org/external/pubs/ft/aa/aa01.htmhttp://www.imf.org/external/about/history.htm


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An adapting IMF

The IMF has evolved along with the global economy throughout its 65-yearhistory, allowing the organization to retain its central role within theinternational financial architecture

As the world economy struggles to restore growth and jobs after the worst crisissince the Great Depression, the IMF has emerged as a very different institution.During the crisis, it mobilized on many fronts to support its member countries.It increased its lending, used its cross-country experience to advise on policy

solutions, supported global policy coordination, and reformed the way it makesdecisions. The result is an institution that is more in tune with the needs of its187 member countries.

Stepping up crisis lending. The IMF responded quickly to the globaleconomic crisis, with lending commitments reaching a record level ofmore than US$250 billion in 2010. This figure includes a sharp increasein concessional lending (thats to say, subsidized lending at rates belowthose being charged by the market) to the worlds poorest nations.

Greater lending flexibility. The IMF has overhauled its lendingframework to make it better suited to countries individual needs. It isalso working with other regional institutions to create a broader financialsafety net, which could help prevent new crises.

Providing analysis and advice.The IMFs monitoring, forecasts, andpolicy advice, informed by a global perspective and by experience fromprevious crises, have been in high demand and have been used by the G-20.

Drawing lessons from the crisis. The IMF is contributing to the ongoingeffort to draw lessons from the crisis for policy, regulation, and reform ofthe global financial architecture.

Historic reform of governance.The IMFs member countries alsoagreed to a significant increase in the voice of dynamic emerging anddeveloping economies in the decision making of the institution, whilepreserving the voice of the low-income members.


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History of The Problem

During the nineteenth and early twentieth century, fiscal deficits andsurpluses were small in the major industrial countries (Canada, France,Germany, Italy, Japan, the United Kingdom, and the United States), and achart of fiscal balances would show a fairly stable trend line. World War I(1914-18) altered the picture radically, as its participants emptied nationaltreasuries and borrowed against the future in a desperate struggle to survive.The interwar period saw a return to "normalcy" that brought the hugedeficits contracted during the war down to manageable size in nearly allcountries. World War II (1939-45) and the immediate postwar years repeatedthe fiscal experience of World War I and the interwar period--immensedeficits in all countries followed by surprisingly satisfactory progress toward

fiscal balance. Nevertheless, a disturbing trend began in the 1960s andgained seemingly irresistible momentum by the 1970s. The normalpeacetime condition of near fiscal balance gave way in almost everyindustrial country to large and obdurate fiscal deficits.

Macroeconomic Shifts

The 1950s and 1960s were unusually sanguine decades in the industrialworld. Unemployment and inflation were low; economic growth was robust.Incomes were rising faster than inflation so that a consumer could buy more.

At the same time, optimism about the government's ability to solve socialproblems was buoyant. Social welfare programs, many of which werebroadened at this time, assumed rather too hopefully that the robust taxrevenue and low inflation of the era would continue indefinitely. As a result,government budgets were set on trajectories that were unsustainable andvulnerable to economic downturns.In the late 1960s and early 1970s, economic growth began a secular declinebecause of fundamental macroeconomic shifts: slower growth inproductivity, volatile inflation, rising health care costs, and increasing

structural unemployment. Together these factors have driven governmentrevenues well below targets projected during the boom years.

Inflation and Debt

The oil embargo of 1973 wreaked havoc on an unprepared and oil-dependentindustrial world. Huge price jumps and the attendant economic instabilityremain powerful memories for those who lived through the oil crisis. Whatis less well remembered, however, is that those price hikes occurred during a

period of steadily rising prices, which contrasted with the long-term pricestability traditional in the industrial world.


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While inflation is painful for consumers, those in debt usually welcome itbecause inflation makes existing debt (if it has a fixed interest rate) cheaperto service and repay. This sounds like unambiguous good news for

governments, who are always deeply in debt, since a surge in inflation couldfloat their problems away. Nevertheless, only unanticipatedinflation reducesdebt, since creditors negotiate the terms of each loan with a keen eyefor anticipatedinflation to ensure a reasonable real rate of return on theirmoney. When inflation is volatile, creditors lose money and become waryabout future lending, either demanding higher interest rates to cover theadded risk of inflation surprises or choosing not to lend at all. Becausecontinued liquidity in the credit markets is vital to economic growth,governments cannot raise interest rates for any length of time withoutdisrupting financial markets.

The real growth rate also affects the accumulation of government debt. If aneconomy grows more slowly than the real interest rate, the national debtgrows faster than the government's ability to pay it back. Disturbingly, sucha dynamic has taken hold in the industrial world, where real interest rateshave generally exceeded real growth rates since the early 1980s, an indicatorof how urgent the deficit problem has become. Inflation also raises paymentsfor indexed benefits, since their levels are by definition tied to inflation. Ifinflation rises unexpectedly, the government will pay out larger sums for

welfare, unemployment, social security, and food and housing assistance.Such unexpected expenditures will increase deficit spending. Finally,inflation in an industry such as health care can put severe strain on thegovernment budget.

It is argued that the successive regimes for restructuring sovereign debts,since the early 20th century have been shaped by the articulation of threeinstitutional functions: information gathering and economic expertise, thenthird-party mediation, lastly policy enforcement, also called conditionality.

Whereas these functions where integrated within the Fund during the 1980sdebt crisis, mediation has now been outsourced, under the pressure of thedemand by the private sector for a thorough judicialisation of therestructuring process. Two responses to this demand have been formulated:the creation of a supra-national bankruptcy court, as envisaged in theSDRM proposal put forward by the IMF in 2001; and the reliance uponnational courts, specifically those in which jurisdiction the initial debtcontracts had been signed. This latter option corresponds to the contract-based approach to sovereign defaults based on Collective Action Clauses,

which was eventually adopted in spring 2003. It is defended thatoutsourcing third-party mediation makes the IMF considerably much


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weaker, as it remains with only two functions and no consistent rules ofinteraction with its traditional partnersprivate investors and thegovernment of debtor countries.

Questions to consider

How to stabilize the current economic situation in the Europeaneconomy?

How to restore pre 2008 growth trajectory of the global economy? How to develop a plan of action in order to combat rising fiscal deficit

and inflationary pressures especially in emerging economies?

What steps should be taken in order to increase investor confidence in thedeveloped economies?

Looking into the past experiences of developed economies what stepsshould be taken by the emerging markets to increase their pace of

development?

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