G8 and financial crises - June 20, 2003

G7 Response to Financial Crises – Another Band-Aid

The frequent financial crises of recent years has exposed the systemic instability of global finance and resulted in devastating impacts on human development. Financial liberalization has meant that governments have lost their ability to control the global flow of capital, thereby surrendering monetary and economic policy sovereignty to investment firms and large banks.

These financial crises revealed the degree to which financial markets are under-governed in the global economy. An enormous discrepancy exists between an increasingly sophisticated international financial world and the lack of proper institutional frameworks to regulate it at the national and multilateral levels. The inevitability of future crises makes the re-regulation of capital a global imperative.

In response to the global financial crises, industrialized nations established international forums to propose measures to reform the international financial “architecture”. The underlying assumptions guiding these fora -  that the primary causes of the crises were inadequate provision of information to investors and inappropriate developing country policies -  are too narrow and fail to address the systemic nature of the problem.

Further, these “reform” proposals increase IMF surveillance and control of developing country finance policy and effectively make the fox responsible for guarding the henhouse. In spite of lessons on the contributory effect of financial market liberalization to financial crises, the IMF remains committed to the liberalization of the capital account of its member nations. Measures to reform domestic financial institutions and markets to better meet the demands of liberalized foreign capital flows only set the stage for future crisis. In light of the IMF’s widely acknowledged role in exacerbating the financial crises through its bailout package conditionality, any proposal to increase IMF control over member country finance policy is counter intuitive.

On April 20, 2002 the G7 Finance Ministers announced an Action Plan for resolving financial crises in emerging market countries.  Some of the measures include:

PROPOSAL #1 – Debt Standstills

Canada’s former Finance Minister, Paul Martin, introduced the idea of putting an Emergency Standstill Clause into sovereign debt contracts in September of 1998. A standstill would enable a sovereign debtor (a country) to cease payments legally for a time without fear of retaliation by its creditors. A standstill mechanism is the first step in any bankruptcy or insolvency procedure. While a good idea on the surface, the G7 have insisted that any standstill be approved by the IMF, thereby giving the institution increased leverage over developing countries.

PROPOSAL #2 – Collective Action Bond Clauses – supported by the US

These clauses would allow bondholders to negotiate in groups when debtors (countries) default on payments due to financial crises and ultimately to vote on settlements with debtors. On the surface again, this is a good idea as countries in default want to protect themselves from being sued by a host of creditors bent on seizing their assets during or post-crisis. Implicit in the notion of a market-oriented approach is that any mechanism is in effect a forum for negotiation and not an arbitration tribunal where a third party, the arbitrator, imposes a settlement if the parties themselves cannot agree. The problem therefore with bond clauses is they are based on unequal power relationships. A country in crisis is ill equipped to negotiate with powerful creditors, some of which, like the IMF control virtually all financial activities of the country already.

PROPOSAL #3 – Insolvency Mechanism – supported by the rest of the G7

In theory it is in the interests of both debtors and creditors to find ways for the orderly writing off or writing down of unpayable debts. This is the basis of national bankruptcy or insolvency laws. But the details of those laws, and any conditions attached to their use, can tilt the balance of power towards either debtors or creditors.

In November of 2001, the deputy director of the IMF, Anne Krueger, proposed an international workout mechanism (later renamed the Sovereign Debt Reduction Mechanism or SDRM) to be administered by the IMF. Krueger’s plan involves a framework for the sovereign debtor and its creditors to negotiate without fear that a rogue trader would take the debtor to court. The plan would encourage private lenders to provide fresh money possibly with some kind of preferred creditor status and would bind all creditors to accept a deal after a vote by a large enough majority of creditors.

The IMF playing any role in any such mechanism is unacceptable because, as a powerful creditor institution, it is not a neutral body and is subject to the political dictates of its strongest member, the USA. None of the proposals from the G7 deal with the issue of the legitimacy of the debt, and they provide for an expanded role for the IMF.

Demands from civil society to address financial crisis have not been addressed. These include:

    * 100% cancellation of all bilateral and multilateral debts owed by low-income countries.
    * An end to Structural Adjustment Programs, including requirements for capital account liberalization.
    * Full support of international institutions and donors for imposition of capital controls, including a currency transaction tax (Tobin tax).
    * Mechanisms to assess and cancel the illegitimate debts of all developing countries including:
          o Sovereign processes of independent audits to verify whether debts are legitimate (i.e. national processes under control of each country);
          o The creation of a fair and transparent international debt arbitration tribunal independent of the IMF, incorporating an automatic stay of debt servicing once a case is opened and protection for resources needed for essential services and access for civil society to proceedings.
          o Repatriation of wealth illegitimately placed overseas by dictatorships and corrupt government officials.