Multilateralism and the role of the International Monetary Fund
in the global financial crisis

by Mr. Dominique Strauss-Kahn Managing Director, International Monetary Fund

Especially in the current environment, there is a need for strong global cooperation in macroeconomic and financialsector policies. One of the key lessons of the Great Depression was that a lack of cooperation and a retreat to isolationism can make things worse. The unprecedented collapse in global activity in the 1930s also had dire social and political consequences, and contributed to the outbreak of a disastrous war that left tens of millions dead and a whole continent in ruins. When world leaders met in Bretton Woods in 1944, they vowed never to repeat the errors of the past. They embraced multilateralism and a cooperative approach to economic and financial policies.

The IMF was born in Bretton Woods, forged in the furnace of this multilateral idealism, and endowed with a mandate to oversee the global financial system and to act as a lender of last resort to members with balance of payments needs. It stands right at the heart of macroeconomic and financial-sector policy coordination.

Over sixty years later, although the contours of the world financial system would be unrecognizable to the Bretton Woods delegates, the IMF remains as central as ever. But it took the worst financial crisis since the Great Depression for this to be made manifest.

Over the past eighteen months, an economic crisis that originated in the U.S. housing market has spread like wildfire to every corner of the world. As the dust settles, we are learning a few core lessons—the links between the real economy and the financial sector are deep-rooted and complex, and that world economy is interconnected in more ways than we had imagined. It is also clear that a multilateral solution is essential, and that the IMF has a central role to play. It is an international institution ideally placed to address financing and liquidity problems at a global level, and to conduct candid, independent, and even-handed surveillance.

Effectiveness as a firefighter

The IMF is helping a wide array of countries meet their financing needs, and expects to add more to that list before the year is out. To help the IMF perform its firefighter function effectively in this crisis, world leaders pledged to triple the IMF's lending capacity to an unprecedented US$ 750 billion, and—in addition—to double its capacity for concessional lending to low-income countries. In response, the institution is adapting to circumstances, and has introduced a package of innovative reforms. As a key first step, all loan access limits have been doubled, including for lowincome countries.

It is surely better to prevent fires than put them out. The IMF has introduced a flexible credit line that grants rapid upfront financing in large amounts— with no ex post conditions—for countries with a proven track record of good performance. More generally, the institution will provide larger amounts and more upfront financing across a wide range of facilities.

While conditionality remains important, it must become more focused and streamlined—this should encourage countries to approach the IMF early on. The IMF remains committed to protecting the poorest and most vulnerable in both concessional and non-concessional lending programmes. Many recent programmes call for sizable increases in social spending.

Effectiveness as a policy adviser

The IMF also has an important role as policy adviser in the global economy, through its bilateral and multilateral surveillance. As the crisis evolved, the IMF was among the first to pinpoint the policy responses that have now become part of conventional wisdom. This is especially true in two key areas— the case for fiscal stimulus, and the need to restructure the banking system.

The IMF has been recommending, as early as January 2008, a discretionary loosening for countries that can afford it. Countries have delivered a 2 per cent of GDP fiscal stimulus in 2009, exactly in line with IMF recommendations. The unprecedented degree of international cooperation was particularly impressive. Countries are still delivering stimulus for 2010, less than in 2009, but still sizeable. The jury is still out on whether this will be enough.

The IMF also noted very early on that a speedy recovery depended on cleansing banks' balance sheets of toxic assets. Without this, efforts to boost demand will prove fruitless. And here, the message is mixed—while moving in the right direction, the response has tended to be slow and piecemeal, though recent signs have been more positive.

Legitimacy as a provider of early warnings

One criticism levelled against the IMF was that it failed to predict the crisis. Some of this criticism is justified. The warnings were given, but were not loud or clear enough, and were ften ignored by policymakers. But the institution proved its worth once the crisis broke out. Its forecasts were ahead of the curve, both for economic activity and for credit losses.

Looking ahead, the IMF is dramatically improving its early warning exercise. These new early warnings must be strong, candid, credible, and evenhanded. They must not shy away from “naming and shaming” where appropriate. The strategy will be to focus on systemic risks from all quarters, better integrating the macroeconomic and financial sector work, and better monitoring policy spillovers and cross-country linkages.

Legitimacy as a global institution

For the facilities and surveillance reforms to be effective, the IMF must have legitimacy as a global institution. Its voice must be respected in every corner of the world. This is why the institution must reform its governance structure to give more influence to emerging markets and lowincome countries. The next phase of quota reform should be completed by early 2011.

In sum, robust multilateralism is essential to the resolution of the current crisis, and indeed, to the prevention of future crises. In an increasingly globalized world, the web of connections between countries and activities will continue to grow. As this crisis unfolded, the benefits of cooperation were evident with the global fiscal stimulus and with coordinated liquidity provision by central banks. The costs of non-cooperation were seen with temptations to protect domestic banking systems at the expense of neighbours, ring-fence assets, and favour domestic lending.

Countries seem increasingly inclined to adopt a coordinated response to policy challenges, a positive development. The IMF will do its part. At the end of the day, however, it is not about the IMF, but rather the global economy and the welfare of the nearly seven billion people who share this planet.