Emerging market and developing countries have long sought to secure greater voting power and voice within the International Monetary Fund, but previous attempts at reform have produced only limited concessions. Paulo Nogueira Batista Jr. presents a gradualist approach to reform that could give them better representation in decision-making.
Reform of the International Monetary Fund (IMF) has been a long-standing objective of developing nations, going back at least to the 1990s. They recognise the relevance of the IMF as a near-universal multilateral institution, especially in times of crisis. And precisely for this reason, emerging market and developing countries seek greater voice and representation in the Fund. However, progress toward this aim has been patchy and slow, leading to a sentiment of frustration and hopelessness.
This issue came to a head following the IMF’s 16th General Review of Quotas in December last year. Quotas play a crucial role in the IMF and are the main basis for the determination of the voting power of member countries. Yet this latest review resulted in only minor changes to the existing framework. This raises the question of whether emerging market and developing countries should give up on the IMF entirely, turn to alternative institutions and financing mechanisms, or stay within the IMF and continue to push for reforms.
China, Europe, and the United States
Rivalry between the West, led by the United States, and emerging powers, notably China, is at the root of the current widespread pessimism concerning IMF reform. A key obstacle is that the main shareholders in the IMF, the United States, European countries and Japan, as well other high-income nations, are dead set against contemplating any reform that would give more decision-making power to China.
China is the country that is most heavily underrepresented by any conceivable metric and, therefore, the one that most stands to gain from a redistribution of quotas and voting power in the Fund. The other side of the coin is that the developed countries, especially European members, are heavily overrepresented. Countries that control the institution would stand to lose from the redistribution of quotas and votes. The developed world, notably Europe, is both the main reason for and the main obstacle to reform.
The latest failure in 2023 to produce meaningful reform was a considerable, if not lethal blow to the Fund’s credibility. Given the institution’s many functions and the practical difficulties of quickly and fully replacing it with alternative multilateral or national financing mechanisms, the IMF will in all probability continue to play an important role for the foreseeable future. However, its centrality and relevance may diminish, undermined by the geopolitical fractures that have emerged starkly over recent decades.
A gradualist approach to reform
Emerging market and developing countries would nevertheless be ill-advised to neglect or abandon the IMF entirely. Without giving up on the goal of making the IMF more reflective of 21st century realities, they might contemplate working together to promote consensus on a gradualist attempt at reform.
This would involve advocating measures and specific reforms that could increase the relevance of the Fund to emerging market and developing countries, especially those that are low-income, small and climate vulnerable. The key to the definition of a viable agenda is to specify objectives that would benefit the developing world and the institution without running up against the entrenched vetoes of the developed world. There are at least seven reforms that could be included within this agenda.
Reforming conditionality
The first reform that could be targeted is a reform of conditionality to make it more flexible. It is understandable that countries resorting to emergency lending are required to implement adjustment programmes tailored to their circumstances. National authorities need to face up to the harsh realities that made them resort to the IMF and the institution needs to protect its resources.
However, conditionality is often too stringent, leading to excessive economic and social costs and/or repeated failures to implement agreed macroeconomic targets. This harms the credibility of countries and of the IMF itself. Conditionality could be reformed not only by revising the criteria followed in the institution’s standard lending facilities but also by making more use of newer facilities that are more automatic and involve lighter conditionality.
A reduction in surcharges
Surcharges are the increases in IMF interest rates that are applied to the lending of larger amounts or longer maturities. Countries that borrow longer-term and beyond certain limits, defined in terms of their individual quotas, are penalised by higher interest rates. From the point of view of the Fund, this compensates for the higher risks associated with larger and longer-term loans.
A reduction in surcharges would benefit all countries resorting to exceptionally high and long-term borrowing from the IMF. These would be mostly middle-income countries. The rationale for this reduction is that it makes little sense to charge high interest rates to countries that are most in need. This runs counter to the IMF’s goal of helping countries to navigate severe macroeconomic difficulties.
Bolstering concessional financing
The IMF provides concessional loans to low-income countries through a special facility called the Poverty Reduction and Growth Trust. Low-income countries are therefore not exposed to the high cost of borrowing from normal facilities. For the poorest countries, the interest rate for this lending is now zero.
A welcome reform would be to increase the availability and perhaps further reduce the cost of loans from the Poverty Reduction and Growth Trust, strengthening the capacity of low-income countries to deal with economic challenges. The US Treasury threw its weight behind a proposal to bolster the Poverty Reduction and Growth Trust in September 2023. This increases the possibility of implementing improvements in this area to the benefit of low-income IMF members.
Increasing the IMF’s overall resources
Increasing the Fund’s overall resources by revising plans for a roll-back in IMF borrowing arrangements could be another target for reform. There are two types of resources in the IMF: quotas and borrowing. The 16th General Review of Quotas doubled the overall size of quotas but foresaw a reduction in borrowing by the same amount, thus keeping overall resources constant. One possibility for increasing the total amount of Fund lending capacity would be to revise the reduction in borrowing, establishing that it would fall by a lower amount than the rise in quotas.
Here it is important to distinguish between the poorer developing countries and the middle-income emerging market countries. The lower-income countries would probably view this approach more favourably, being as they are more interested in borrowing during crises than in increasing their votes. Emerging market countries, including the underrepresented, mostly Asian countries, would probably be opposed or indifferent to making this a priority as they are more interested in voting power than in borrowing from the Fund.
A higher proportion of basic votes
The voting power of each member of the IMF is determined by two factors: individual country quotas, which are by far the most important, and so-called “basic votes”. Basic votes were introduced in the IMF to compensate for a country’s size, amounting to recognition that quotas by themselves bias voting power in favour of larger countries. The system works by allocating the same absolute number of basic votes to all member countries, thus leading to a larger percentage increase in voting power for smaller states.
Basic votes currently represent 5.5% of total votes. Any increase of basic votes that could be seen as a challenge to the hold of the United States and other high-income countries on the institution would be a non-starter, but there is still scope to increase their use. Increasing the use of basic votes would favour all small countries, including some small high-income countries, such as Singapore, Switzerland, and Luxembourg. Most small countries, however, are developing nations and many are among the poorest and most climate vulnerable. The proposal seems therefore defensible.
A third chair for Sub-Saharan Africa
One of the distortions of IMF governance is the unfair distribution of the 24 chairs in the Executive Board and in the International Monetary and Financial Committee. Europe is excessively represented. Emerging market and developing countries, especially Sub-Saharan countries, are underrepresented. Granting a third chair for Sub-Saharan Africa could help redress the balance. This issue pertains not to voting power as such but to voice and representation, another important and sometimes neglected aspect of governance.
A fifth Deputy Managing Director position
For some time now, there have been four Deputy Managing Directors (DMDs) in the IMF – a First Deputy Managing Director, always a US national, and three other DMDs: one Japanese national, one Chinese national and one from a middle or low-income country.
The latter is supposed to stand in for or “represent” all middle or low-income nations except China. The imbalance is thus obvious. On top of the well-known rule that reserves the number one position, that of Managing Director, for a European national, there are four other informal rules: the one that reserves the First Deputy Managing Director position for the US, plus the rules for Japan, China and all other emerging market and developing countries. Correcting this imbalance is another priority for reform.
This could be done by creating a fifth DMD position in the IMF’s Administration. A rule could be established whereby two of the five DMDs would be nationals either of a middle-income or of a low-income nation. This would establish a somewhat better geographical balance in IMF management.
The future of the IMF
The approach taken here should be regarded as a package, meaning that to have the desired effect of recovering the Fund’s credibility, the proposals would have to be implemented over the next few years as part of an agenda to be made public as a target at the beginning of the process. The package would be an open one where specific proposals could be modified, while some could be abandoned as less practical and others of the same general nature could be added. All of them could be adjusted and improved during the negotiations.
The sad truth is, however, that even limited proposals such as the ones sketched out here are likely to encounter resistance from major shareholders, as they have in the past. Will they realise, however, that this resistance is going too far and that some breaking point for the Fund will be reached, perhaps sooner than they expect? Or will they stick to their habitual inertia and attachment to the status quo, counting on the perception that even an unreformed IMF would remain a relevant and valuable financial institution?
Note: This article gives the views of the author, not the position of EUROPP – European Politics and Policy or the London School of Economics. Featured image credit: christianthiel.net / Shutterstock.com
