FINANCE | 04.16.2020

Helping the IMF in its role as a lender of last resort for developing countries

Juan Francés

The pandemic that we are experiencing in 2020 may be the greatest global economic disaster on record, at least in the short-term. Due to the lack of precedents, even economic experts are not able to agree on the real scope of the impact of this situation.

As on April 20, we will be able to see the new forecast by MAPFRE Economic Research. On this occasion, the update of the Quarterly Outlook raises additional interest, and in addition to incorporating the GDP forecasts for the major world economies, this report contains one of the most complete analyses to exist on the economic outlook for Latin America.

What does seem to be the consensus is the fact that the economic impact may be even more severe in emerging economies than in developed countries. Although the virus has so far spread more widely in some prosperous economies, the truth is that in the US or the European Union, for example, responses in the form of stimulus plans to try to counteract the crisis are also historic. On the other hand, developing countries, many of whose citizens are part of the informal economy, have far fewer tools to combat the situation.

This week, dozens of prominent personalities have signed a letter addressed to the G20 demanding immediate coordinated action at the international level to deal with the serious global health and economic crises resulting from Covid-19. Last Sunday, Bill Gates himself in EL PAÍS called for a global response proportional to the enormous challenge faced by humanity.

It is in this context that some voices have begun to emerge proposing novel ideas to help the world face the tsunami that may be ahead for many developing economies.

One of these has to do with the United Nations Special Drawing Rights (SDR). SDR are international monetary assets issued by the IMF, which act, in a sense, as a kind of central bank for the whole world. They make up part of countries’ foreign exchange reserves and can be sold or used to pay other central banks. They were introduced in 1969, to help the world economy reduce its dependence on the dollar. Why were they unsuccessful? Because the world’s largest economy was not very happy about its currency losing prominence.

Currently, there are more than 200 billion SDR in the balance sheets of the ministries of economy and central banks of countries around the world. In theory, each SDR can be exchanged for 1 dollar 36 cents. Governments of poor countries urgently need cash right now to retain investor confidence, pay creditors and buy medical supplies.

Recently, a group of economists published an article in the Financial Times, advocating the use of these financial instruments as a response to the coronavirus crisis.
It would not be the first time they were used in an economic emergency. During its meeting in London in April 2009, the G20 approved the issuing of SDR equivalent to 250 billion dollars, to combat the financial crisis.

These economists are now advocating the issuing of twice as much: at least 500 billion dollars. Others go even further and speak of up to 4 trillion dollars.

The IMF, for its part, reports that several countries have already expressed interest in something similar, and that some of its members are discussing the idea. If rich countries are offering their citizens cash with very few conditions, why should the IMF not offer the same to the world’s governments?
One of the advantages of these types of instruments is that they are not a real currency, since they can only be exchanged between members of the IMF; that is, they are not listed in any private SDR market. Countries receive them in proportion to their IMF quotas, which determine their financial commitment to the fund and their voting rights. When faced with a liquidity crisis, countries can offer SDR in exchange for currency.

“The use of an alternative cash flow instrument to the dollar could make sense at the present time, especially for economies with weak currencies in developing countries,” says Gonzalo de Cadenas, Director of Macroeconomics and Financial Analysis at MAPFRE Economic Research. “Although this type of operation (if it is not sterilized) may risk creating inflationary pressures in the long-term, on the horizon of the pandemic it could help to solve the financing problems of many emerging countries with little capacity to overcome the health and social bill.”

The main obstacle?

Again, it’s the United States, which, as a general rule, is not very keen on making decisions that could harm the dominance of its currency, and even less so if what is being discussed is putting into circulation the equivalent of 4 trillion dollars in one fell swoop, with unknown effects on the world economy.

It may not be a conventional measure, but what is certain is that the countries with the least resources need urgent help in the face of the pandemic. Desperate situations sometimes require unconventional measures.