IMF Creates $100 Billion Fund to Aid Crisis Fight

[Princess Royal]

IMF Creates $100 Billion Fund to Aid Crisis Fight
By BOB DAVIS, MARCUS WALKER and JOHN LYONS

OCTOBER 30, 2008

The International Monetary Fund will offer as much as $100 billion in a new kind of loan to countries that are battered by the financial crisis, making available new cash to help ease the world credit crisis.

The new three-month loans, aimed at economies the IMF judges to be troubled but basically sound, wouldn't require countries to make the often severe changes in their policies that the IMF has demanded for decades.

That makes it potentially easier for crisis-hammered countries such as Mexico, Brazil and Korea to shore up cash reserves, their currency, and their ability to help ailing companies as shaken foreign investors withdraw.

Those countries have shunned the IMF because of the strings attached to the loans, which often force sharp budget cuts or interest-rate increases. The conditions are designed to help governments save money and pay for necessary imports, but they also often deepen an economic downturn, making the IMF deeply unpopular around the world.

Now it essentially is dividing developing countries into an A-list of nations that qualify for loans without strings, and a B-list of everyone else.

Late Tuesday, the IMF unveiled a $25 billion package of loans organized for Hungary. That package and a $16.5 billion loan for Ukraine require painful belt-tightening in exchange for help. Hungary must cut its budget deficit further, plans to cut bonus payments to retirees and public-sector workers, and predicted on Tuesday that the economy would shrink by as much as 1% next year.

The new program, which will use up to about half the IMF's resources, represents a big break from such requirements. "Exceptional times call for an exceptional response," said IMF Managing Director Dominique Strauss-Kahn.

The Fed also took new steps to flood dollars into markets outside the U.S., where banks' unwillingness to lend has left foreign firms without dollars they need. In recent weeks, the Fed has created arrangements with central banks in Europe, Australia, Canada and other developed economies to make dollars available overseas. On Wednesday, it extended those lines, for up to $30 billion each, to Brazil, Mexico, Korea and Singapore.

The two moves underscore deepening problems in developing nations, which have sent currencies plunging and blown holes in the balance sheets of healthy companies. In recent days, Brazil's financial capital of São Paulo has been awash in speculation that the plunging currency and lack of dollar financing could spur a wave of corporate defaults that might even bring down key parts of the financial system. After their stocks plunged, major banks Banco Itaú and Unibanco reported their earnings early this week in a bid to assure investors that they are healthy.

Even healthy companies are finding it difficult to obtain dollar-denominated financing they need to do business. In Brazil, the total stock outstanding of trade finance has dropped in half to $18 billion since the crisis deepened.

Central banks in Mexico and Brazil deployed billions of dollars of international reserves in recent days to try to fill the dollar void. The U.S. Fed move suggests the problem may have grown above their weight classes. Even countries that don't take the money immediately could benefit if market confidence increases.

The IMF's new program, called the Short Term Liquidity Facility, would be used largely to pad a country's reserves, which could help the recipient defend its currency. But the funds could also be used to help recapitalize banks or cover import bills.

The IMF plan is its clearest recognition that its insistence on tough conditions is driving away potential borrowers that might need its help. But the new plan also puts the IMF in the position of deciding who can have money with few strings attached, and who can't.

"The more you send reassuring signals" by approving some countries for the loans with fewer strings, said former IMF chief economist Simon Johnson, "the more you send warnings about others."

The IMF said it won't disclose the names of countries that it rejects for condition-free loans to try to make sure its decision doesn't worsen the applicant's problems. But Mr. Strauss-Kahn said in a news conference that Argentina wouldn't qualify because it hasn't had an IMF review of its finances for more than a year.

Argentina is also on the outs with many lenders because it defaulted on its loans in 2001 and offered only partial repayment, which many borrowers considered inadequate.

Romania, Bulgaria and other Eastern European countries may also need IMF help, but haven't decided whether to take the unpopular steps that would still be required for them by the IMF.

Belarus, which wants a $2 billion IMF loan, is indicating it would open its economy more to foreign investors and loosen the state's tight control to get the money. Pakistan is likely to do the same, after weeks of searching for alternatives to IMF funding. IMF and Pakistani officials say Pakistan is looking to get IMF approval of a loan as early as next week, though it probably would require Pakistan to cut budget expenses and popular subsidies for food and oil.

To qualify for loans under the no-strings program, countries must show that their public and external debt are at sustainable levels and must have a "good track record" at the IMF, said a senior IMF official. "Borrowers are expected to go on with strong policies," said Mr. Strauss-Kahn

The program would offer three-month loans of as much as five times a country's so-called quota, meaning its financial stake in the IMF. Mexico, for instance, has a quota of $4.75 billion, so it could borrow as much as $23.6 billion. Borrowers can renew their loans twice during a year.

The IMF is funded by contributions from its members and its large holdings of gold, among other sources. By itself, IMF money might be enough for the needs of Mexico or other countries. IMF funding also can often unlock other lending. The World Bank, for instance, chipped in $1.3 billion for the Hungary package. The World Bank has said it may double its lending to countries that might be affected by the financial crisis to $27 billion from $13.5 billion in 2007.

In many ways, the new plan is a reprise of a proposal by President Bill Clinton in late 1998 to have the IMF lend to pre-approved countries. That was in response to criticism of the IMF by countries caught up in the Asia financial crisis in 1997 and 1998 in which IMF pushed them to make deep economic changes. Tough IMF requirements in Indonesia, for instance, played a role in violent riots that led to President Suharto's resignation.

The IMF adopted a version of the Clinton plan in 1999, but no developing country asked for a loan before the IMF killed the program in 2003. The countries worried that signing up would be interpreted by the market as a sign of worry that the country would face turmoil later on.

This time, the IMF plans to streamline the approval process and keep the results quiet as a way to induce countries to participate. Prospective borrowers are also far less picky now in looking for funding.

Mexico's Finance Ministry said it is keeping the door open to tapping the new fund. "Mexico approves any moves by the IMF to actively generate new products that are attractive for its clients," said a ministry spokesman. He said the country would have to evaluate the design of the new loan program "and the convenience of taking it," before making a decision. Mexico now is rounding up $5 billion in alternative financing from the World Bank and Inter-American Development Bank.

Korea, however, still may have little interest in the new arrangements. Koreans view the fact they needed IMF help a decade ago as a national humiliation, and Korean officials have said other countries need such help far more.

Mr. Strauss-Kahn said the IMF is trying to learn the lessons from the Asia crisis and is limiting its demands for change even for its traditional loans. IMF economists should pick policy changes necessary "to make a program a success," he said, not to remake the economy.

—Charles Forelle contributed to this article.

Write to Bob Davis at bob.davis@wsj.com, Marcus Walker at marcus.walker@wsj.com and John Lyons at john.lyons@wsj.com

Source: The Wall Street Journal