The Washington Post reported on January 03, 2013 that IMF top economist, Olivier Blanchard issued an “amazing mea culpa” for failing to foresee how austerity measures would undermine economic growth.
Blanchard and co-author, Daniel Leigh, a fund economist, wrote on growth forecast errors in a paper that states “forecasters significantly underestimated the increase in unemployment and the decline in domestic demand associated with fiscal consolidation.” The authors basically admit that they failed to consider important factors about how regions might react to austerity in times of financial crisis when they advised IMF austerity policy.
The paper, which is not the official line of the IMF but rather the opinion of its top economists, stresses that fiscal consolidation (austerity) is not necessarily undesirable, but that “the short-term effects of fiscal policy on economic activity are only one of the many factors that need to be considered in determining the appropriate pace of fiscal consolidation for any single country.”
IMF’s Policies and Programs
The IMF is an organization of 187 countries, working to (a) foster global monetary cooperation; (b) secure financial stability; (c) facilitate international trade; (d) promote high employment and sustainable economic growth; and (e) reduce poverty around the world. The IMF’s fundamental mission is to help ensure stability in the international system. It does so in three ways: (a) keeping track of the global economy and the economies of member countries (Surveillance); (b) lending to countries with balance of payments’ difficulties (Lending); and (c) giving practical help to members (Technical Assistance).
Is the world economy stable today?
The response is negative based on what happened in African countries that adopted structural adjustment programs (SAPs) and what is currently happening in Europe with IMF’s austerity measures. Our hope is that the IMF will shout another mea culpa for imposing SAPs to developing countries. Structural Adjustment Programs have gained such a negative connotation that the World Bank and IMF launched a new initiative, the Poverty Reduction Strategy Initiative, and make countries develop Poverty Reduction Strategy Papers (PRSPs). While the name has changed, with PRSPs, the World Bank has being having to convince countries to adopt the same types of policies as SAPs.
Dr. Blanchard acknowledged that the Fund blew its forecasts for Greece and other European economies because it did not fully understand how government austerity efforts would undermine economic growth. He agreed that he could not actually determine what multipliers economists at the country level were using in their forecasts. This number was implicit in his forecasting models, a background assumption rather than a variable that needed to be fine-tuned based on contextual circumstances and peculiarities. Blanchard and his colleague deduced that IMF forecasters have been using a uniform multiplier of 0.5, when in fact the circumstances of the European economy made the multiplier as much as 1.5. In other words, a $1 government spending cut would cost $1.50 in lost output!
IMF should improve surveillance methodologies and tools for a better preparation of their PINs.
Coming back on the IMF’s surveillance process, when a country joins the IMF, it agrees to subject its economic and financial policies to the scrutiny of the international community. It also makes a commitment to pursue policies that are conducive to orderly economic growth and reasonable price stability, to avoid manipulating exchange rates for unfair competitive advantage, and to provide the IMF with data about its economy.
The IMF’s regular monitoring of economies and associated provision of policy advice is intended to identify weaknesses that are causing or could lead to financial or economic instability. This process is known as surveillance.
There are three methods of surveillance: (a) country surveillance, (b) regional surveillance, (c) global surveillance. Country surveillance, for example, are done through regular annual missions under Article IV consultations conducted by a team of IMF economists. They meet with politicians, parliamentarians, civil society, and central banks to discuss economic and financial policies of the country to elaborates Public Information Notices (PINs). Regional surveillance are conducted with the RECs, whereas global surveillance is to review global economic trends and developments.
The country surveillance process must remind you of another, more controversial, process of calculating one of the common indices used in the measurement of corruption, and this is the German-based Transparency International’s (TI) Corruption Perception Index (CPI). The CPI assesses the level at which corruption is perceived by people working for multinational corporations and institutions as impacting on commercial and social life.
Various scholars, practitioners, and institutions have argued that the CPI is highly unsatisfactory. Some critics pointed out that TI’s perception indices simply register the level of corruption as perceived by primarily the international private sector that (a) do not always reflect the real situation in the countries surveyed, (b) do not involve the victims of corruption in these countries, (c) offer little or no guidance of what could be done to address the problem; and d) can discourage countries from taking serious measures when their anti-corruption program efforts are not seen as being successful by an improved score against the TI Index.
Unfortunately, this is the only index currently available pending the maturity of the Ibrahim Index of African Governance, but that’s another story.
Why IMF did not see this global crisis coming?
This was the same question posed by the Independent Evaluation Office of the IMF in its report published on January 10, 2011 for the Asian crisis (more details are available here). The IMF’s surveillance processes and their respective PINs are misleading. Nearly a quarter of the board’s time is spent on each of bilateral surveillance (Article IV reports) and policy issues at the IMF. Some board members admit their uselessness in handling bilateral surveillance, as only 20 per cent of them think they add significant value to the Article IV process.
There were recurrent problems in official Greek economic data on public finances, whose reliability has been impaired by inappropriate accounting methods, the application of poor statistical methods and deliberate misreporting. IMF failed to detect this as the institution predicts the Asian financial crisis. A robust system that collects, collates, and analyzes countries data on deficits and debts could have helped IMF to better understand economic, fiscal, and financial policies that should be proposed to member states. We hope that one of the implications for the future of Blanchard’s mea culpa is how IMF should improve its surveillance methodologies and tools for a better preparation of their PINs.
As a final note, I have a comment in the form of a question: Is it that someone like Dr. Blanchard has the right to say he did not know with the intellectual and financial resources, and information which he has? I think at best, he was slight in his approach and that is exactly the same problem plaguing the IMF. They are so lightweight that analyses and advices they give to our countries are of limited utility! The biggest problem is that they have an account to make a person even when they admit their false analyses were misfortune to people! These people and institutions should be more “accountable” but I do not know how!
The IMF, while making good governance one of the key pillars in their operational strategy, and rightly so, have lagged behind in fully adopting the same principles when governing itself. In an increasingly globalized world, where multilateral authority is measured by the yardsticks of accountability, the institution can no longer put off a long-awaited reform. Accountability is one of the weakest features of the Fund’s governance and this weakness entails risks to the Fund’s legitimacy, which in turn has a bearing on its effectiveness.