Capital account liberalization has reemerged as a topic of intense debate in recent years. Some argue that rapid capital account liberalization caused much of the financial instability and economic distress that many emerging market countries experienced in the mid- and late 1990s. The IMF—which has always had a mandate to promote current account liberalization but no explicit mandate to promote capital account liberalization—has been part of the controversy, with some criticizing it for encouraging member countries to liberalize their capital accounts prematurely. On May 24, the IMF’s Independent Evaluation Office (IEO) released its report on the IMF’s approach to capital account liberalization. Shinji Takagi, IEO advisor and team leader for the report, spoke with Christine Ebrahim-zadeh of the IMF Survey about the report’s findings, which are based partly on the IMF’s experience in a sample of emerging market economies during 1990-2004.
IMF staff support our first recommendation, which is to establish a formal IMF position on capital account issues. But the Executive Board could not reach consensus on that recommendation. Nevertheless, I believe the Board has realized that staff need some guidance in this area. If nothing else, the Board could at least agree to disagree—that is, it could state that there is no consensus in the Board and that the IMF has no official position on capital account liberalization. It could even say that staff may make their own decisions in their policy advice to countries.
Somewhat disappointing to me was the fact that so much of the Board discussion focused on our two broad recommendations. The IEO always has two purposes when it takes on a review. One is to increase transparency, and the other is to draw lessons for the IMF. In this case, we accomplished more on the first point because we documented and cleared up a number of misconceptions about the IMF’s role in capital account liberalization. The Board’s response, however, is understandable because the recommendations, and not the findings, are the ones that could potentially affect the institution.
Highlights of IEO report
The IMF encouraged countries that wanted to move ahead with capital account liberalization, especially before the East Asian crisis. However, it did not push countries to move faster than they were willing to. While the IMF pointed out the risks inherent in an open capital account and the need for a sound financial system, these risks were insufficiently highlighted, until later in the 1990s.
In multilateral surveillance, the IMF emphasized the benefits to developing countries of greater access to international capital flows, while paying less attention to the risks inherent in their volatility. Its policy advice was directed more toward emerging market recipients of capital flows than to the question of how source countries might help reduce the volatility of capital flows on the supply side. In more recent years, IMF analysis of supply-side factors has intensified, but the focus remains on recipient countries.
In country work, IMF advice on capital account issues seems to have, at times, lacked consistency across countries. Policy advice must of necessity be tailored to country-specific circumstances, so uniformity cannot be the only criterion for judging the quality of IMF advice. Country documents, however, do not always provide sufficient basis for making a judgment on how the staff’s policy advice was linked to its assessment of the overall macroeconomic and institutional environments in which it was given.
The lack of a formal IMF position on capital account liberalization gave individual staff members freedom to use their own professional and intellectual judgment in dealing with specific country issues. In more recent years, the IMF’s approach to capital account issues has become somewhat more consistent and clear. But the new paradigm is still unofficial, and has not been formally adopted.
There is a need for more clarity in the IMF’s approach to capital account issues. Possible steps to improve the consistency could include:
- clarification of the place of capital account issues in IMF surveillance.
- sharpening of the IMF’s advice on capital account issues, based on solid analysis of the particular situation and risks facing specific countries.
- clarification by the Executive Board of the common elements of agreement on capital account liberalization.
IMF analysis and surveillance should give greater attention to the supply-side determinants of international capital flows and what can be done to minimize their volatility. The IMF should also provide analysis of what can be done on the supply side to minimize the volatility of capital flows.
IMF staff responds
Staff largely concurs with the IEO’s findings on the IMF’s policy advice to its member countries on capital account issues. However, it feels that the report does not do justice to the role played by external forces in promoting capital account liberalization. Also, while staff considers the sample of country cases that formed a basis for the IEO’s evaluation to be a fair representation of the diverse membership, it believes that more attention could have been paid to differences among these countries. Relatedly, the finding of some apparent inconsistencies in the IMF’s advice on capital account liberalization across countries needs to be more nuanced.
With regard to the two main recommendations, staff notes that the IMF already is either implementing some of them in its work program or has plans to do so. Staff endorses the first recommendation—that the IMF clarify its approach, and sharpen its advice, on capital account issues. However, staff points out that the Board and the staff have increasingly made capital account developments and vulnerabilities an important focus of the IMF’s work on promoting stability, and that the process of clarifying the scope of IMF surveillance to include capital account issues is already under way. Staff agrees that it would be useful to have some clear operational guidance laying out the broad principles that it needs to follow in its policy advice across countries. There is, however, no single “right” approach.
Staff emphasizes that sharper advice from the IMF on capital account issues must be based on solid analysis of the particular situation and risks facing specific countries. However, the IEO’s suggestion that the IMF provide some quantitative gauge of the benefits, costs, and risks of liberalizing at different speeds is likely to prove difficult to put into practice, given the conflicting theoretical and empirical evidence on the subject and the political and economic complexities that capital account issues typically involve.
Staff agrees with the crux of the second recommendation—that the IMF’s analysis and surveillance should give greater attention to the supply-side factors of international capital flows and what can be done on the supply side to minimize the volatility of capital movements. However, given the large number of staff studies already completed (and more under way), staff is uncertain what other specific actions, if any, the IEO may have in mind. With so many initiatives under way, staff is puzzled by the report’s finding that the IMF pays too little attention to supply-side risks. Staff emphasizes that additional internationally coordinated efforts could help give supply-side issues higher priority among policymakers in advanced economies.
The full text of “IEO Report on the Evaluation of the IMF’s Approach to Capital Account Liberalization,” along with IMF management and staff responses and the summing up of the Executive Board’s discussion of the report, is available on the IEO’s website at http://www.imf.org/ieo.