Thursday, April 26, 2012

Who Bails Out the IMF?

Us, says Simon Johnson:
Over the weekend, the monetary fund became a lot more leveraged — that is, its debt increased relative to its equity. The potential future liability to American taxpayers went up, because the risk of large credit losses increased, and those losses would need to be covered by shareholders (and the American stake in the fund is 17.69 percent of quota, with 16.8 percent of the votes).

There is also an implicit guarantee — arguably without limit — from the United States to the monetary fund. The United States set up the world trading system after World War II, and has a huge amount to lose if it fails. It also has deep pockets, compared with almost all other countries.

Therefore, unlike those at a typical corporation, the shareholders in the International Monetary Fund do not have limited liability, so we should care a great deal about the downside risks. The Europeans are currently increasing those risks — by lending to the fund and planning to use fund loans as part of future bailouts.
It hadn't occurred to me to worry about that.  Darn those "implicit guarantees"...

But this one seems very different from the implicit guarantees of Fannie Mae, Freddie Mac and "too big to fail" financial institutions that have made so much trouble.  When a government "bails out" a financial institution, it is really bailing out the financial institution's creditors.   Often those creditors are other financial institutions (who might be their counterparties on various transactions), or creditors of other financial institutions (e.g. a money market mutual fund that buys bank debt), so the government feels the need to rescue them because of a broader concern about "systemic risk" to the entire financial system.

The IMF's creditors, on the other hand, are governments.  If the IMF were to become insolvent, it would be a diplomatic issue, since governments would stand to lose money, but I'm not sure it would be such a problem for the world financial system.  How much - beyond the money the US has put into it - the US would have to lose if the IMF fails is not immediately obvious to me.  While a failure wouldn't spark an immediate financial crisis in the conventional way (though no doubt everyone would be pretty spooked!), how much worse off one thinks the world would be without the IMF depends on how much good you believe the IMF does.  And that is something people can (and do) debate.

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