The IMF’s 2018 Stand-By Arrangement with Argentina: An Ultra Vires Act?

A good paper by Karina Patricio and Chris Marsh that deserves a wider readership, in particular if you are interested on the International Monetary Fund (IMF) and it's policies. The paper argues that the IMF agreement is legally void, and might lend support (the authors do not say so) to a more radical view, suggesting that Argentina should not pay. From the abstract:

The 36-month exceptional access Stand-By Arrangement (SBA) with the Republic of Argentina approved by the International Monetary Fund (IMF) in June 2018, later augmented in October 2018, represents the largest programme in the history of the Fund. The programme, however, has failed in all its core objectives. While the programme has been subject to macroeconomic critiques, this is the first study that integrates such analyses into a comprehensive legal evaluation, with resort to general Public International Law, the law of the IMF and, where international law is uncertain, relevant analogies with English private law.We introduce the hypothesis that the SBA violated the core purposes of the IMF as per its Articles of Agreement and, therefore, constitutes an ultra vires act. To explain why, we proceed as follows. Section 1 provides the legal foundations of our analysis. First, it explains the ultra vires doctrine in international law and outlines key considerations drawn from case law of the International Court of Justice for the recognition of ultra vires acts. Second, it draws on core provisions of the Articles of Agreement to discuss relevant purposes of the IMF, as well as a set of authorisations and limitations to its powers established in the treaty to achieve such purposes. Section 2 draws on macroeconomics to discuss how those substantive rules were violated in the SBA in a way that is too manifest to be open to reasonable doubt, thereby raising suspicion that the SBA’s approval was ultra vires. In particular, the programme was characterized by egregious assumptions and accounting inconsistencies that meant the objectives were impossible to attain. Section 3 considers the impact of the IMF’s recently published Ex-Post Evaluation of Exceptional Access Under the SBA on our legal analysis. Section 4 draws on the premise that the SBA’s approval constituted an ultra vires act to discuss the potential legal implications of its invalidity. Section 5 concludes this piece by summarising its key findings and reflecting upon the need for clarification on the legal validity of the SBA, as well as further scholarly research on ultra vires lending by the IMF.

Read full paper here. This is in accordance with recent critiques on the IMF role by Joe Stiglitz and Kevin Gallagher. Note that the IMF itself has done a mea culpa of sorts on the lending to Argentina (see here).

Kevin Gallagher on Emerging Markets and Re-regulation of Cross-Border Finance

"Since the revival of global capital markets in the 1960s, cross-border capital flows have increased by orders of magnitude, so much so that international asset positions now outstrip global economic output. Most cross-border capital flows occur among industrialized nations, but emerging markets are increasing participants in the globalization of capital flows..."

Financialization and the Resource Curse in Brazil

"Financialization and the Resource Curse: The Challenge of Exchange Rate Management in Brazil"

By Kevin P. Gallagher and Daniela Magalhães Prates

Indeed, Brazil has been blessed and cursed with high commodity prices (from 2003 to mid-2008 and 2009-2011) and low interest rates in the core economies after the 2008 global financial crisis. Such an environment, coupled with the high domestic policy rate and the sophistication of the Brazilian financial system, has made Brazil a much sought after destination for carry trade operations through short-term financial flows that are largely transmitted through the foreign exchange derivatives market. Speculative operations into this market have accentuated the upward pressure on the exchange rate, which has come with higher commodities prices, leading to what we refer to here as a financialization of the resource curse (pp. 2).

Read rest here.

Kevin P. Gallagher On The Fed, Emerging Markets, & Role of The Dollar

By Kevin P. Gallagher

From Foreign Policy Magazine

Emerging-market and developing countries resented U.S. Federal Reserve Chair Ben Bernanke during his spell in office. In 2012, Brazilian President Dilma Rousseff scolded Bernanke and the Fed's loose monetary policy for creating a "tsunami" of financial flows to emerging markets that was appreciating currencies, causing asset bubbles, and exporting financial instability to the developing world. It may just turn out that they dislike Janet Yellen even more.Although it was Bernanke who started tapering the Fed's loose policy, Yellen will be the one to end quantitative easing and, eventually, raise short-term interest rates. And those could be an even bigger problem for emerging markets than the initial tsunami.Yellen's recent confirmation that quantitative easing (QE) will cease in October 2014 is the latest and firmest signal that U.S. monetary policy is reversing direction. The Fed began the year talking about the "tapering" of loose monetary policy, relaxing QE's bond-buying program and potentially raising interest rates. Now a concrete end to QE is on the horizon. The big question that emerging markets are now asking is how quickly and how suddenly interest rates will go up. Following the latest numbers that the United States' GDP grew by 4 percent during the second quarter, some monetary policy hawks are calling for interest-rate hikes soon to cool the economy. That's exactly what emerging markets are worried about....

Read rest here.

And for more on the role of the dollar in the world economy see here, here, and here

Kevin P. Gallagher on BRICS Consensus

By Kevin P. Gallagher

Conveniently scheduled at the end of the World Cup, leaders of the BRICS countries travel to Brazil in mid-July for a meeting that presents them with a truly historic opportunity. While in Brazil, the BRICS hope to establish a new development bank and reserve currency pool arrangement. This action could strike a true trifecta — recharge global economic governance and the prospects for development as well as pressure the World Bank and the International Monetary Fund (IMF) — to get back on the right track. The two Bretton Woods institutions, both headquartered in Washington, with good reason originally put financial stability, employment and development as their core missions. That focus, however, became derailed in the last quarter of the 20th century. During the 1980s and 1990s, the World Bank and the IMF pushed the “Washington Consensus,” which offered countries financing but conditioned it on a doctrine of deregulation.

Read rest here.

Kevin Gallagher on capital controls in developing countries

From the letters section in the Financial Times.

For the piece Kevin is responding to go here (subscription required)

G-24 Policy Brief: Capital Flow Management and the Trans-Pacific Partnership Agreement

A recent Global Economic Governance Initiative (GEGI) G-24 policy brief by Kevin P. Gallagher, Anna Maria Viterbo, and Sarah Anderson asses the degree to which the final draft of Obama's TPP (Trans-Pacific Partnership) deal must include significant safeguards to prevent and mitigate financial crises. The authors provide an alternative legal language that could be incorporated in future trade deals such that nations have the space and flexibility requisite to ensure financial stability. In my view, however, it is perhaps highly unlikely that the power brokers of TPP would even consider or critically reflect on the far-reaching proposals. From the Intro:

The Trans Pacific Partnership (TPP) being negotiated by 12 governments represents an important opportunity for a fresh approach to the treatment of capital flow management measures in trade agreements. Most regional and bilateral free trade agreements (FTAs) and bilateral investment treaties (BITs) enacted in the past two decades have encouraged capital account liberalization based on the view that this policy choice would facilitate more efficient international allocation of resources and spur foreign investment and growth in developing countries. In recent years, however, there has been a major re-thinking on the issue of capital account liberalization. In December 2012, the International Monetary Fund (IMF) issued a new “institutional view” that endorses the regulation of cross-border finance in some circumstances. The IMF also pointed out that many trade and investment treaties do not provide the appropriate level of policy space to regulate cross-border finance when needed. While the IMF’s new position was the outcome of many years of analysis, it was no doubt influenced by the 2008 financial crisis and the fact that a number of governments have used various forms of capital flow management measures (CFMs) in recent years to address financial volatility. The Trans-Pacific Partnership, as the first major trade negotiations since the 2008 crisis, presents an important arena to ensure coherence between current thinking on CFMs, including the IMF’s “new view," and trade and investment agreements.

Read rest here.

China and Latin American Development

Here are the highlights of the China-Latin America Economic Bulletin published by the Pardee Center and written by Rebecca Ray and Kevin P. Gallagher.

• LAC exports to China have soared since 2000, but slowed in 2012, stalling to a 7.2 percent growth rate in real dollar terms, compared to average annual export growth to China at 23 percent from 2006 to 2011.
• Behind this slowdown are falling commodity prices. LAC exporters are “running in place” as exports to China have continued to grow in volume, but have fallen in price, leading to stagnant total export values.
• More than half of all LAC exports remain concentrated in three broad sectors related to copper, iron, and soy—with the majority of these exports concentrated in three countries: Brazil, Argentina, and Chile. These sectors are all prone to large price swings, contributing further to the slowdown in the value of exports to China.
• Chinese exports to LAC are diverse and mostly in manufacturing, with a heavy emphasis on electronics and vehicles. Their value has grown more quickly than LAC exports to China, opening an LAC trade deficit in goods with China in 2011 and 2012.
• Chinese FDI to LAC increased slightly but remains a relatively small percent of total FDI into LAC. Chinese FDI continues to be concentrated in a handful of sectors, such as food and tobacco, automobiles, energy and communications.
• Chinese finance to sovereign governments has slowed and become more discretionary in nature, rather than earmarked for particular industries and sectors.
• Based on preliminary commodity price values for 2013 and projections for 2014, it is reasonable to expect a growing LAC trade deficit in goods with China.

Read the whole report here.

Yves Smith and Dean Baker on the Trans-Pacific Partnership Agreement

The Trans-Pacific Partnership Agreement (TPP) is a somewhat secretive Free Trade Agreement that the US and several Asian and Latin American countries are negotiating. In the short part below Yves Smith (from Naked Capitalism) talks about the restrictions on financial regulations and capital controls that the agreement would impose.

Watch the whole interview conducted by Bill Moyers here. A similar take by Kevin Gallagher here.

Gallagher on Why Trade Deals Must Allow for Regulating Finance

From the Global Economic Governance Initiative (GEGI).

APEC leaders gather in Bali this week to discuss the Trans-Pacific Partnership (TPP) agreement, among other topics. In this opinion article that will appear this week in the Bangkok Post, Jakarta Post, China Daily and other Asian papers via the Globalist, GEGI's Gallagher urges reform of the TPP. Based on new GEGI research with Chilean and Malaysian economists, Gallagher argues that the TPP should have safeguards that allow nations to regulate cross-border finance to prevent and regulate financial crises.

Read the whole thing here.

New Book: 'The Clash of Globalizations' by Kevin P. Gallagher

 

Collecting and synthesizing a series of essays on the political economy of trade and development policy, this book explores the following research questions: to what extent is the global trading regime reducing the ability of nation-states to pursue policies for financial stability and economic growth; and what political factors explain such changes in policy space over time, across different types of trade treaties and across nations? Gallagher presents intriguing findings on the policy constraints on the Uruguay Round, as well as the significant restrictions that the USA places upon the ability of developing nations to deploy a range of development strategies for stability and growth.

See rest here.

Kevin Gallagher on China and financial deregulation

Kevin Gallagher explains why financial deregulation in China would be a huge mistake. In his words:

"Rumor has it that China is set to accelerate the de-regulation of its financial system.

For years, China has restricted the ability of its residents and foreign investors to pull and push their money in and out of the country.

While that may be illiberal, there was a sound reason for this restriction: Every emerging market that has scrapped these regulations has had a major financial crisis and subsequent trouble with growth."

Read the rest here.

The US as a Global Risk Generator

By Kevin Gallagher

The U.S. economy continues to have a hard time recovering from the biggest financial crisis since the Great Depression.

So the last thing one would expect the U.S. government to do is to engage in policies that open the floodgates to severe risks in financial markets once again.

And yet, that is precisely what's going on.

For all the attention that is paid to the Federal Reserve's "tapering," what Washington has in its crosshairs is something quite different.

It is putting massive pressure on the Commodity Futures Trading Commission (CFTC) and the Security and Exchange Commission (SEC).

Unless concerned policymakers — and the public at large — act quickly to counter that pressure, the disastrous past — a financial industry running amok — may well be not just be the United States' national, but our common global future.

How is this even possible?

Even though the U.S. Congress passed the Dodd-Frank financial reform law a few years ago as a bulwark against reoccurring financial crises, the legislation actually left most of the key decisions — the actual detailed rule-making to rein in the financial industry — for later.

Read the rest at The Globalist.

The New Banks in Town: Chinese Finance in Latin America

By Kevin P. Gallagher, Amos Irwin, & Katherine Koleski

"Although China's impact in Africa receives the most attention, China trades just as much in Latin America as in Africa, and has more investments in the region. Chinese finance in Latin America – chiefly from the China Development Bank and the Export-Import Bank of China – is staggeringly large and growing [...] China's presence is a great opportunity for Latin America, but it brings new risks. If the region can seize the new opportunities that come with Chinese finance, countries could come closer to their development goals, and pose a real challenge to the way western-backed development banks do business. However, if Latin American nations don't channel this new trade and investment toward long-term growth and sustainability, the risks may take away many of the rewards."

Read the rest here.

IMF's New View on Capital Controls

By Kevin P. Gallagher and Jose Antonio Ocampo

"Weeks before the spring meetings of the International Monetary Fund (IMF) in Washington next month, GDAE Senior Researcher Kevin P. Gallagher and Colombia University economist Jose Antonio Ocampo offer a critical analysis of the IMF's new view on capital account liberalization and the management of capital flows. The article, “The IMF’s New View on Capital Controls,” appears in India's Economic and Political Weekly (see here).

In the 1970s the International Monetary Fund became an advocate of capital account liberalization, and in 1997 it tried to change its Articles of Agreement to include capital account convertibility among its mandates. In contrast, the IMF embraced in December 2012 a new "institutional view" on this issue. While it remains wedded to eventual financial liberalization, it now acknowledges that free movement of capital rests on a weak intellectual foundation. Gallagher and Ocampo claim that this is a step in the right direction, but that the new institutional view still suffers from a number of shortcomings that will need to be addressed in national capitals and in other international fora.

Although a significant step forward, the new institutional view is still out of step with country experience and economic thinking in many respects. In particular, it continues to insist on eventual capital market liberalization despite the lack of evidence supporting it, is too narrow concerning the sanctioned use of capital account regulations on inflows and outflows, and does not deal with the implications for multilateral aspects of regulating cross-border finance."

What's the deal with MERCOSUR/SUL?

First there is the issue of whether it should be called MERCOSUL in Portuguese or MERCOSUR in Spanish. More people speak Portuguese, but more member countries speak Spanish. But that is not a real problem. The problem that almost nobody understands is that it is a Free Trade Agreement (FTA). While MERCOSUR/SUL is an alternative to the Free Trade Area of the Americas (FTAA) in the sense that it excludes larger integration with other regions, and the US in particular, it is a Free Trade Agreement (FTA), and was part of the neoliberal logic of integration that came to dominate in both Argentina and Brazil in the 1990s when the main agreements were signed. Per se the treaty is not better than the North American Free Trade Area (NAFTA), and the main advantage is that, given that the initial asymmetries between Argentina and Brazil were smaller than between Mexico and the US, the negative effects were also less significant.

There is little connection with the logic of integration that was defended from the 1950s onwards by the economists at the Economic Commission for Latin America (ECLA) – and the Caribbean, now (ECLAC) – which was based on industrial integration for the creation of economies of scale. In Prebisch's view the aim of integration was to support industrialization. In fact, to some extent the boom in South America – in contrast to Central America and Mexico – in the 2000s has been based on a peripheral integration with Asia, in particular China, that allows for the exports of commodities. In that sense, the Bolivarian project is based on a change in State ownership, wherever it was possible, and an increase in the State’s share of the absolute rents associated with commodity exports, and an increase in transfers programs. Something that has been named natural resource nationalism [on the problems of national resources and development strategies see the paper by Carlos Medeiros here].

The degree of industrial development has been limited in the region during the last decade (meaning import substitution re-industrialization), even if it is far from clear that deindustrialization has really occurred, that is, a Dutch Disease problem (I would argue there is almost no case for it). Also, integration of infrastructure or regional financial development have been limited at best, and most plans (like the Banco del Sur or Sul in Portuguese) remain in its early stages. But the limitations of the process of integration should not lead to the notion that we need more integration at any cost in the region. In fact, one of the great advantages of Brazilian external policy is that is has refrained from getting into FTAs and Bilateral Investment Treaties (BITs), preserving policy space, as noted by Kevin Gallagher.

It is important to emphasize that more trade does NOT depend necessarily on reducing the ability of the State to manage trade flows (what is often referred to as Free Trade; for critiques of the comparative advantage theories of trade see here, here and here). Trade integration should not be made at the expense of national development policies, and further integration, with Asia or even within the region, should take place, but subordinated to the development of national processes of industrialization. MERCOSUR/SUL too should be envisioned, less as a FTA, and more as an instrument of mutual support for those national strategies.

Let’s not get ‘carried away’ by Bernanke’s latest twist

By Kevin P. Gallagher

Ben Bernanke, chairman of the US Federal Reserve, should be applauded for boldly putting employment over price stability in his latest move to keep interest rates low and to purchase mortgage-backed securities. Bernanke’s critics (and Bernanke himself) have rightly said that monetary policy is not enough, however. To truly generate employment-led growth in the US, those critics say more fiscal policy is needed.

There is also a need for stronger financial regulation in order to ensure that financial institutions do not steer newfound liquidity into currency and commodity speculation in emerging markets and developing countries—speculation that can wreak havoc on developing countries’ financial systems and growth prospects. Such was the case during previous rounds of interest rate declines and quantitative easing in the US, and could occur again.

Investors may choose not to go down Bernanke’s path but rather to use the carry trade to speculate on foreign currencies. The carry trade is a strategy where investors borrow in low interest rate countries and invest in higher interest rate countries with the “carry” being the difference between the two rates. Profits can increase by orders of magnitude if investors are significantly leveraged and bet against the funding country and on the target country currency.

Earlier this year, the IMF reported that lower interest rates in the US and higher economic growth in emerging markets were associated with a higher probability of a capital inflow “surge”. Surges in capital inflows can cause currency appreciation and asset bubbles that can make exports more expensive and destabilise domestic financial systems. According to that IMF report, one third of the time such surges were accompanied by a sudden reversal of capital flows.

The IMF’s 2011 World Economic Outlook report documents how a “sudden stop” in capital flows can unwind emerging markets and developing economies as well. They show that a 5 basis point increase in US rates could cause capital flight worth 0.5-1.25 per cent of GDP out of the developing world. This is not a short-term problem given that Bernanke has committed to keeping rates low into the future. However, global risk aversion, such as continued euro jitters, can also cause sudden reversals of capital flows.

In 2010 and 2011, many emerging markets and developing countries deployed counter-cyclical capital account regulations such as taxes on inflows or reserve requirements on derivatives transactions to curb the negative effects of cross-border capital volatility. Like earlier studies by the National Bureau of Economic Research and others confirming that regulating capital flows can change the composition of inflows, make for more independent monetary policy and ease exchange rate tensions, new studies by the IMF and others show how countries such as Brazil, Taiwan and South Korea have been at least moderately successful during this recent go-around.

Echoing but formalising work that dates back to Keynes, a new IMF report finds that industrialised countries may need to regulate the outflow of capital as well. The new IMF paper, “Multilateral Aspects of Managing the Capital Account”, argues that when regulating capital inflows is costly or relatively ineffective for borrowing countries, or if the proper regulation would cost too much “collateral damage”, then nations such as the US may need to regulate the outflow of capital.

It may come as a big surprise to learn that the US regulated outflows of speculative capital for close to 10 years, 1963 to 1973. During that period the US administered the Interest Equalisation Tax (IET). The IET was a 15 per cent tax on the purchase of foreign equities. For bond trades the tax variety depending on the maturity structure of the bond, ranging from 2.75 per cent on a three-year bond and up to 15 per cent on a 28.5 year bond. Borrowers looking to float bonds would thus pay approximately 1 per cent more than interest rates in the US, thereby flattening the interest rate differential between the US and Europe.

The proposed Volker Rule would make it harder for US banks to speculate on foreign countries via the carry trade with US deposits. However, an increasing amount of carry trade transactions occur outside the commercial banking system. Moreover, financial interests have led to measures in US trade treaties that make it illegal for trading partners to regulate cross-border finance as well.

Later this autumn, the IMF is set to release a new set of guidelines that will reiterate the need to regulate global financial flows. The fund would do well to incorporate its latest work that shows how industrialised nations may need to regulate capital flows as well. Doing so will help nations across the global economy, regardless of their level of development, achieve their stated economic goals without getting “carried away” by footloose finance.

Published originally here.

Kevin Gallagher on capital controls

Another interesting talk at the Central Bank of Argentina, this one by Kevin Gallagher from the University of Boston based to a great extent on his recent work with José Antonio Ocampo and Stephany Griffith-Jones on the regulation of capital flows (see here).

He has three main points to make. First, there is increasing and overwhelming evidence that there is no connection between capital account liberalization and economic growth. He cited the recent work by Arvind Subramanian, Olivier Jeanne and John Williamson (the latter of Washington Consensus fame) at the Peterson Institute, called "Who Needs to Open the Capital Account?," who argue (2012, p. 5) that "the international community should not seek to promote totally free trade in assets -- even over the long run-- because ... free capital mobility seems to have little benefit in terms of long run growth."

Second, it seems that the International Monetary Fund (IMF) has come to partially recognize the appropriateness of capital account regulations and has gone so far as to recommend (and officially endorse) a set of guidelines regarding the appropriate use of Capital Account Regulations (CARs), the new term for capital controls within the IMF. He warned, correctly I think, that changes within the IMF can be seen as a reform that tries to restrict the use of capital account regulations to emergencies, and situations approved by the IMF within article 4 consultations, when article 6 guarantees that countries can use them freely.

Finally, and more importantly, Kevin warned that Bilateral Investment Treaties (BITs) and Free Trade Agreements (FTAs) have regularly included very restrictive language on capital account regulations, and have a tendency to restrict the policy space in developing countries, exactly when a consensus that this restrictions do not provide any benefit in terms of growth.

Is China really opening the capital account?

Martin Wolf tells us in a recent column that China is opening up its capital account, according to a report from the People’s Bank of China, and that it is taking a gradual approach. Reform will be in three steps:

"The first, to occur over the next three years, would clear the path for more Chinese investment abroad as ‘the shrinkage of western banks and companies has vacated space for Chinese investments’ and so presented a ‘strategic opportunity’. The second phase, in between three and five years, would accelerate foreign lending of the renminbi. In the longer term, over five to 10 years, foreigners could invest in Chinese stocks, bonds and property. Free convertibility of the renminbi would be the ‘last step’, to be taken at an unspecified time."

Wait what? What this says is that they are going to lend more in yuan, given the retreat of American and European banks, and will eventually allow some amount of foreign ownership of assets denominated in yuan. This, by the way, is just trying to expand the international role of the yuan, something aptly called the yuan diplomacy by Kevin Gallagher, who notes that already: "China became the largest source of finance for Latin American governments."

Yet, only the last step, the one to be taken at an unspecified time, would constitute opening the capital account. So basically they announced that they want to increase the international use of the yuan, getting more developing countries to borrow in their currency, while maintaining a strict control of the supply of their currency. In fact, The Economist tells us that Sheng Songcheng, head of the central bank’s research department and the lead author of the study cited by Wolf said that: "If you wait for the exchange rate and interest rates to be fully liberalized ...  you may wait forever." I guess then never is when the capital account will be fully open. That's slow enough, and is a capital account liberalization I would recommend too.

Crossing lines

David Ruccio has a great post on why there are no clear lines between research and policy advice, between advocacy and activism. The post was prompted by Krugman's justifications for not appearing in the Occupy Wall Street protests. I agree with Ruccio that it is possible to provide serious analysis and participate in social movements, and there are lots of examples of public intellectuals that do both well (Noam Chomsky, the late Howard Zinn, and Cornell West, shown above, come to mind). For example, here is the take from Kevin Gallagher and Mark Blyth in Occupy Boston.