MCom I Semester Environment International Monetary Fund ( IMF) notes Study Material

MCom I Semester Environment International Monetary Fund ( IMF) Notes Study Material: Objectives of International Monetary fund  Organisation and Management of the  International Monetary Fund Office and Depositories of the Fund Progress of Financial Facilities of IMF International Monetary fund and India Advantages of international monetary fund  Long Answer Questions Short Answer Questions Objectives Questions ( Most Important Notes For MCom Students )

CTET Paper Level 2 Previous Year Science Model paper II in Hindi

International Monetary Fund (IMF)

With the abandonment of the gold standard in 1930s by the major countries of the world, a vacuum was created in the field of international trade. The period was characterized by competitive depreciation of currencies, restrictions on import of goods and exports of capital goods and a general tendency for economic anarchy and isolationism. It was considered that the monetary disorders of the world could be corrected only by mutual agreement between nations. This led to the Tripartite Agreement 1936 among Britain, France and U.S.A.. For International Monetary Cooperation Comprehensive Plans were drawn up. The articles of agreement of the International Monetary Fund were formulated at the United Nations Monetary and Financial Conference held at Brettonwoods in 1944. For the formation of IMF, thirty of the 44 countries that represented at Brettonwoods Conference became original members of the Fund on December 1945. The main purpose for which the IMF was set up to provide exchange stability and international sponsoring of measures for curing fundamental causes of disequilibrium in balance of payment. At present, 188 nations are the members of International Monetary Fund.

OBJECTIVES OF INTERNATIONAL MONETARY FUND

Article 1 of the Fund Agreement states the following objectives of the IMF:

1 Balanced economic development : To facilitate the expansion and balanced growth of international trade and to contribute thereby to the : (i) Promotion and maintenance of high levels of employment and real income growth, and (ii) development of productive resources of all members as primary objectives of economic policy.

2. Monetary assistance V/s World Peace : To promote international monetary cooperation through permanent institution which provides the machinery for consulation and collaboration on international monetary problems.

3. Agreements for bi-lateral payment system : To assist in establishment of a multilateral system of payments in respects of current transactions amongst members and in the elimination of foreign exchange restrictions which hamper the growth of world trade.

4. Restriction on business boundness: For this purpose, no member country could impose restrictions on the making payments and transfers for current international transactions or engage in any discriminatory currency arrangements or multiple currency practices, without the approval of the It has made provision to hold consultation with members at annual interval the member countries to adopt appropriate economic and financial policies which assist in promoting growth with stability.

5. Stability in exchange rate : Article IV of the Fund Agreement required each member country to fix par value of its currency in terms of gold as a common denominator or in terms of the United State dollar. The underlying idea was to create a system of stable exchange rates with orderly cross rates. Infact, the participating nations have now fully established a regime where in they are pledged to promote exchange stability to make no changes in the par values of their currencies except in accordance with the Fund Agreement and to assist each other in attaining the general objectives of the Fund.

6. Short-term assistance: The IMF was set up for the purpose of making short term loans to member countries experiencing temporary payment deficits to enable them to weather these difficulties by resorting to devaluation or exchange or exchange control.

ORGANISATION AND MANAGEMENT OF THE INTERNATIONAL MONETARY FUND

The IMF like World Bank is also managed by a three tier structure including Board of Governors, Board of Executive Directors and the Managing Director.

1 Board of Governors : All the powers of the Fund are vested in the Board of Governor, consisting of one governor and one alternative governor appointed by each member country. Normally, the Board of Governors meets once a year and exercises its power in such important matters as admission of new members, revision of quotas, election of executive director etc.

2. Board of Executive Directors : The Board of Governors delegates the executive authority to the Board of Executive Directors. This Board consists of 20 executive directors of whom 5 are appointed, one each by the five largest quota holding countries U.S.A. U.K., Federal Republic of Germany, France and Japan. The others are elected by different regional groups of member countries. The executive board meets two or three time each week to consider day to day problems.

3. Managing Director: The chairman of the Board of Executive Directors is the Managing Director, who is the executive head and head of the staff of the Fund. He holds office for a period of five years though his reappointment for another term is not ruled out.

OFFICE AND DEPOSITORIES OF THE FUND

The International Monetary Fund (IMF) was constitued by subscriptions from members agreeing to participate in the Fund. The IMF is financed by the participating countries, with each countries contribution fixed in terms of quota, which determines the borrowing rights and the voting strength of a member country. Under the Fund’s Article of Agreement each member country was required to subscribe its quota partly in gold and partly in its own currency. The minimum subscription in gold payable by original members was equivalent to the smaller of two amounts-25 percent of quota and 10 percent of net official holdings of gold and US dollars. The IMF is a pool of central bank reserves and national currencies which are available to its members under certain conditions. It can be regarded as an extension of the central bank reserves of the member countries.

Work-Field of Fund: The Fund does not interfere in the internal economy of the member-countries in order to restore equilibrium in their balance of payments. The members can withdraw from the Fund by a simple notice in writing. The Funds provide a mechanism for improving short term balance of payments positions. The fund plays a vital role in achieving international monetary stability and in promoting healthy international monetary relations, If any country is in temporary difficulty in liquidating an adverse balance of payments, the Fund will come to its aid. The Fund is not intended to supplant them but to provide only a second line of defense in case of emergency. The borrowing country has to pay interest and maintain its quota intact. The credit operations of the Fund are not only conducted on sound business principles but they also ensure that the object of Fund, viz, to provide short-term loan only, is not defeated

PROGRESS OF FINANCIAL FACILITIES OF IMF

The fundamental objective of the IMF is to facilitate the expansion of international trade by establishing a multilateral system of payments. The Fund provides means to correct short-term maladjustments in member’s balance of payment. Progress of financial facilities of IMF are as follows:

1 Regular Facilities : The regular facilities provided by the IMF are as follows:

(i) Purchase of foreign currencies and repurchase of its own currencies: The mechanism of drawing on the Fund takes the form of purchases of the desired currencies from the Fund in exchange for an equivalent amount of the borrowing countries own currency. The repayments to the Fund take the form of repurchase of its own currency by the borrowing country. Usually the Fund expects repayment within three to five years. The various conditions of repurchases were established to prevent the Fund’s getting all its resources tied up in long-term commitments.

(ii) Stand by Agreements : Stand by agreement means a decision of the Fund by which a member is assured that it will be able to make purchase from the General Resources Account in accordance with the terms of the decision during a specified period and upto a specified amount. Stand-by arrangements provide a technique by which members can be assured of prompt financial assitance from the Fund. The most arangements have been for a period of 12 to 18 month. Stand-by agreements are designed to correct medium-term balance of payment problems of a member country. Purchases under these agreements in the upper credit tranches depend upon the members meeting the performance criteria included in the agreements.

(iii) The Extended Fund Facility : The facility was established on September 13, 1974 and is considered likely to be of a particular benefit to developing countries. Its purpose is to give medium term assistance to IMF member countries in “special circumstances of balance of payment difficulty. Where “the solution to the member’s balance of payments problem will require longer period than the period for which the resources of the Fund are available under existing tranche policies.” A maximum of four to eight ye for repurchases under the facility, which was extended in four to eight years was provided eight years to ten years from the date of purchase.

which was extended in December 1979 from 2. Special Facilities: Special facilities providing by are as follows:

2 : Special facilities providing by the IMF to its members are as follows :

(i) Compensatory and Contingency Financing Sacility : launched in February 1963, is designed to extend the Fund’s balance of This facility support to member countries particular member countries particularly primary providing countries suttering trom temporary fluctuations in their expert receipts due to circumstancese The amounts available under the facility were increased by the decision of 1966, 1975 and 1979 and the formula used in determining a short was modified and liberalized to take account of the sharply rising values for world trade in general that have been associated with rising prices. In 1981, the facility was extended for an initial period of four years, to assist members encountering payment difficulties produced by an excess in the cost of their cereal imports.

Drawing under the compensatory financing facilities are additional to those under the fund’s regular tranche policies. In September 1983, the access limits under the facilities were reviewed. The separate limits of 100 percent of quota on outstanding purchases relating to export shortfalls or cereal import excess were reduced to 83 percent. The joint limit of 125 percent on outstanding purchases relating to both export shortfalls and cereal import excess was reduced to 105 percent.

(ii) Buffer Stock Financing Facilities: Funds’s financial assistance can be requested for establishing buffer stocks of primary products under international commodity agreements. Since the establishment of the facility in 1969 the Fund has provided assistance in constituted with the financing of buffer stocks of tin, sugar and rubber constituted under the terms of international agreements relating to these commodities.

Upto 1975, the Fund has provided assistance of six crore SDRs for the buffer stock of tin. In 1982, Bolivia and Malaysia got the assistance of 8.3 crore under this scheme.

(iii) Supplementary Reserve Facility : In April 1977, the interim committee of the Fund recognised that there was an urgent need for a supplementary facility of a temporary nature that would enable the Fund to expand its financial assistance to those of its members that in next several years will face payment imbalances that are large in relation to their economics and quotas in the fund.

This facility was introduced in 1977 to meet a need for very short term financing on a large scale. The motivation for the SRF was the sudden loss of market confidence experienced by emerging market economies in the 1990s, which led to massive outflows of capital and required financing on a much larger scale than anything the IMF head previously been asked to provide. Countries are expected to repay loans within 2-2 % year, but may request an extension of upto six months. All SRF loans carry a substantial surcharge of 3-5 percentage points.

 (iv) Concessional Facilities : It includes following facilities:

(a) Structure Adjustment Facility

(b) Under Extended Structure Adjustment Facility the assistance is provided on concessional terms to poor countries. Structure Adjustment Facility was started in 1986 while ESAF facility was announced in 1987. Interest on facility 1s charged at the rate of one-half percent per annum and is payable in 5.5 to 10 years.

International Monetary Fund ( IMF)

INTERNATIONAL MONETARY FUND AND INDIA

India was one of the 44 countries that had participated in the Brettonwoods Confrence and became an ‘original member of the fund. By virtue of being one of the five countries holding the largest quotas in the fund, India occupied a permanent seat on the Board of Executive Directors. However, the increase in quota effected in Feburary 1970 put Japan, Canada and Italy at a relative higher position and this deprived India of the permanent membership of the executive Board. India’s relative position based on quota is 14th.

1 Determination of exchange rate of rupee with other currencies: The Indian rupee remains linked to the pound sterling in the foreign exchange market for the purpose of exchange rate determination. The initial par value of the Indian rupee established with the Fund on December 18, 1946, was 2.268601 gram of fine gold or 30.225 U.S. cent per rupee ($ 1 = 3.508). As a result of devaluation of rupee in 1949, the rupee became equivalent to $ 0.18662 grams of fine gold of 21 U.S. cents ($1 = 4.75). The devaluation of the rupee on 6th June, 1966 further reduced the par value to 0.118489 gram of fine gold or 13.33 U.S. cents. The rupee has been pegged to a weighted basket of currencies pertaining to our principal partners in foreign trade.

2. Assistance from the Fund: In order to meet the balance of payments deficit, India has borrowed from the IMF from time to time. By August 1977, India had completed repayments to the IMF against the outstanding first credit and gold tranches amounting to SDR 281 million. The only repayment obligation to the Fund that remained outside the normal drawing rights was the 1975 oil Facility of SDR 201.34 million with the repayment of this amount to the Fund in July 1978, India became free from all repayment obligations to the fund.

3. Increase in Quota : India’ quota share has been increased from 2:44 per cent to 2.75 percent. 14th Quota Review has raise India’s quota to SDR 13,114.4 million.

4. Assistance during economic Crisis : At various times India has received foreign exchange loans to meet foreign exchange crisis. In order to meet the balance of payments deficit, India has borrowed funds from the IMF from time to time. By the end of March 1968, India has purchased foreign currencies equivalent to 817.50 crores from the Fund. During 1974 and 1975 India was plagued by the mounting of import bill on the one hand and a precarious foreign exchange reserves on the other. The country had, therefore, to draw heavily from the fund. India’s total drawing in the two years under the various tranches and facilities amounted to a staggering 7,532 million. In August 1980, the Fund granted a credit of about 282.40 crores to India under compensatory financing facilities. This was to help the country offset declining export turnover.

India entered into an agreement with the IMF in November 1981 for a redit line of SDR 5 billion. The loan, the largest granted by the IMF and the by India was approved under the Extended facility. million and, thus, voluntarily decided not to draw attained the assistance of SDR 138.6 billion. a trade liberalisation and to grant access tolargest single borrowing made by India was approve But it drew only SDR, 3,900 million and, thus, volu on the remaining amount of SDR 1,100 million.

During 1992-93 to 1996-97. India attained the assistance of The conditionality package included trade liberalisation and the global competition.

During 1947 to 2000 the fund has provided $ 900 2000 no loan has been taken by India from IMF.

5. Voting rights : The quota of India in the Fund is SDR 13,114.4 billion and voting rights are 30,803.

6. Other benefits to India India has enjoyed the following benefits its membership of the IMF:

(i) Membership of world Bank : By virtue of the membership of the IMF, India could gain membership of the World Bank.

(ii) Technical Help : India has got the advisory services from the experts on the matters related to the monetary tariff.

(iii) Policy Determination of Monetary Fund : Till 1970, India was among the first five nations having the highest deposit with IMF and due to this status India was allotted a permanent place in Executive Board of Directors. After 1970, by appointment of Indian representatives in Executive Board of Directors with the cooperation of Sri Lanka and Bangladesh, India protected the interests of developing countries.

ADVANTAGES OF INTERNATIONAL MONETARY FUND

The advantages of the IMF are as follows:

1 Establishment of multilateral payment system : One of the primary goals of the IMF was “to assist in the establishment of a multilateral system of payments in respect of current transactions between members. Under the provisions of Article VIII of the Fund’s Articles of Agreement, the member countries were required to avoid restrictions of payments and transfers on current transactions to forgo multiple exchange rate practices, and to refrain from discriminatory currency arrangements. With the acceptance in 1961 by the majority of the European countries of the principles set forth in Article VIII, the IMF was able to achieve not only free convertibility but also a multilateral system of payment. In addition to gold, the U.S. dollar, and British Pound Sterling were freely used as ‘key currencies’ for settlement of international transactions.

2. Establishment of Monetary Reserve Fund : As a result of quotas of various countries, the Fund is able to establish the Monetary Reserve Fund of various currencies. The Fund can purchase and sell currencies of member countries for one another. Thus debtor-country is saved from gold exports and consequent deflation through the help of the Fund. The creditor countries whose export surplus exceeds 75 percent of their quota, will have their currencies declared scarce. Such currencies are rationed among countries needing them. The IMF, however, can increase the supply of scarce currencies by borrowing them or by purchasing them against gold. If even then currencies are not enough, debtor-countries must restrict their imports from credit-countries and thus achieve an equilibrium in their balance of payments.

3. Stability in exchange rate : A member country of the Fund has to declare par value of its currency in terms of its reserve of dollar or gold. The underlying idea was “to create a system of stable exchange rates with orderly cross rates’. The exchange rates were to be stabilized at the official par values The members of the Fund undertook not to vary the exchange rate for spot transactions from the established par value by more than one percent. IMF rules provided that a member country could depreciate its currency upto 10 percent of the original parity. The Fund sought to promote exchange stability without exchange rigidity as well as exchange anarchy. This system of managed Texibility combined the features of both the gold standard and paper standard, It was sought “to promote exchange stability to maintain orderly exchange arrangements among members and to avoid competitive exchange depreciation.”

4. Encouragement of foreign trade and investment : The IMF has contributed in many ways to the expansion of world trade. Most of the countries of the world may be able to solve their monetary problems by mutal cooperation. The IMF has succeeded in achieving the main objective of the Fund to foster international monetary cooperation,

5. Received SDR profits : The system of SDR represents a bold attempt to tackle the serious problem of international liquidity. The Fund was able to secure for its members all the advantages of gold standard without any of its disadvantages. It provided a sensible substitute for gold standard although with a diminished role for gold.

DISADVANTAGES OF INTERNATIONAL MONETARY FUND

Despite its various achievements, the Brettonwoods system had shown several shortcomings :

(i) Limited scope of the Fund: The Fund provides foreign exchange only to tide over current payments. The Fund was designed to provide assistance only in relation to small and short disturbances of equilibrium, and to function in a world where the financial relationship between the countries was almost in balance, where disequilibrium, if any, could be corrected by small adjustments. It was incapable of dealing with the major disturbances as they prevailed in the post-war world and the Fund, therefore stood aside impotently. Further, it does not provide assistance in situations like war, repayment of debts import and export and blocked sterling etc.

(ii) Differential behaviour of Fund : The funds of the IMF have been largely flowing to rich countries. The early years of the Fund’s operation were disappointing. Several devaluations occurred which were presented to the fund as a fate accomplished without any prior consultation and in excess of 10 percent adjustments. In 1948, Franc devalued by nearly one-half. Similarly in 1949, Great Britain served notice on the fund of a 30 percent devaluation of the pound.

(iii) Faulty working of membership of Executives : The U.S.A with its largest quota in the Fund, held the key positon and dominated over the working of the Fund. The executive membership of the Fund was so devised as to safeguard the interests of the U.S.A. The developing countries, on the other hand, did not gain substantially from their membership of the IMF.

(iv) Different countries quota is not on scientific basis: The quota of the member countries were fixed arbitrarily without having any appropriate or scientific basis. The larger quotas of the U.S.A and the U.K. were fixed mainly because of their greater political influence. Since the right of a country to draw from the Fund and its voting power depends upon the size of its quota in the Fund, the drawing rights do not take into account the creditworthiness of the country.

International Monetary Fund ( IMF)

EXERCISE QUESTIONS

Long Answer Questions

1 What is International Monetary Fund Why was International Monetary established? Explain the objectives and organisation of International mone Fund.

2. Explain the advantages to India due to International Monetary Fund.

3. While explaining the functions of International Monetary Fund, discuss the achievements and failure of International Monetary Fund.

4. Critically examine the objectives and achievements of International Monetary Fund.

5. What is International Monetary Fund and how does it work? How far the Fund is successful to conduct these functions? Explain.

Short Answer Questions

1 Write the objectives of International Monetary Fund.

2. Write the functions of International Monetary Fund.

3. Why was International Monetary Fund established?

4.What advantages India got from International Monetary Fund?

5. What is International Monetary Fund? Objective Questions

(I) Select the Correct Alternatives :

1 Recently developing countries are benefitted by the Fund in:

(a) balance of payment assistance

(b) assistance in employment

(c) assistance in gold

(d) all of above

2. The main function of the International Monetary Fund is:

(a) to take loan

(b) to provide loan

(c) to give employment

(d) none of these

3. The balanced development of international trade is the:

(a) function of IMF

(b) demerit of IMF

(c) management of IMF

(d) objective of the IMF

4. The advantage of IMF is :

(a) limited scope

(b) need of foreign exchange

(c) stability in exchange rate

(d) none of these

[Ans. 1. (a), 2. (b), 3. (d), 4. (c).]

(II) Write True or False :

1 The IMF was set up to provide temporary assistance to countries falling short of foreign exchange and international sponsoring of measures for curing fundamental causes of disequilibrium in balance of payment.

2. The Executive Board meets to consider day to day problems.

3. Each member country subscribes its quota partly in gold and partly in its own currency.

4. The quota of member countries does not determine the voting strength of a member country

[Ans. 1. True, 2. True, 3. True, 4. False.)

(III) Fill in the Blanks :

1 At the time of creation of the International Monetary Fund, ……., quota, tariff barriers and import licences prevailed.

2. The IMF facilitated the …………. and balanced growth of international trade.

3. The IMF is required to make provision of means to correct …………. maladjustments in member’s balance of…

4. A …………. was established to assist low income developing members to meet the cost of using resources made available through the Fund.

(Ans. 1. exchange control, 2. expansion, 3. short-term, payment 4. Subsidy account.]

International Monetary Fund ( IMF)