INTERNATIONAL MONETARY SYSTEM

The international monetary system consists of laws, rules,

institutions, instruments and procedures which involve
international transfer of money. These elements affect foreign
exchange rates, international trade and capital flows and
balance of payment adjustments. Foreign exchange rates
determine prices of goods and services across national
boundaries. These exchange rates also affect international
loans and foreign investment. Hence, the international
monetary system plays a critical role in the financial
management of multinational business and economic
policies of individual countries.

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 AGENCIES/INSTITUTIONS THAT
FACILITATE INTERNATIONAL
FLOWS
International Monetary Fund
The United Nations Monetary and Financial Conference held in Bretton
Woods, New Hampshire, in July 1944 was called to develop a structured
international monetary system. As a result of this conference, the
International Monetary Fund (IMF) was formed. The major objectives of the
IMF, as set by its charter, are to
(1) promote cooperation among countries on international monetary issues,
(2) promote stability in exchange rates,
(3) provide temporary funds to member countries attempting to correct
imbalances of international payments,
(4) promote free mobility of capital funds across countries, and
(5) promote free trade. It is clear from these objectives that the IMF’s goals
encourage increased internationalization of business.

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The IMF is overseen by a Board of Governors, composed of
finance officers (such as the head of the central bank) from
each of the 190 member countries. It also has an executive
board composed of 24 executive directors representing the
member countries. This board is based in Washington, D.C.,
and meets at least three times a week to discuss ongoing
issues.

One of the key duties of the IMF is its compensatory financing

facility (CFF), which attempts to reduce the impact of export
instability on country economies. Although it is available to all
IMF members, this facility is used mainly by developing
countries. A country experiencing financial problems due to
reduced export earnings must demonstrate that the
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reduction is
temporary and beyond its control.
Each member country of the IMF is assigned a quota based on a variety of
factors reflecting that country’s economic status. Members are required to pay
this assigned quota. The amount of funds that each member can borrow from
the IMF depends on its particular quota.
The financing by the IMF is measured in special drawing rights (SDRs),
which represent a unit of account that are allocated to member countries to
supplement currency reserves. The SDR’s value fluctuates in accordance with
the value of major currencies.

The SDR is an international reserve asset created by the IMF to supplement the
official reserves of its member countries. The SDR is not a currency. It is a
potential claim on the freely usable currencies of IMF members. As such,
SDRs can provide a country with liquidity.

The SDR is an international reserve asset. The SDR is not a currency, but its
value is based on a basket of five currencies—the US dollar, the euro, the
Chinese renminbi, the Japanese yen, and the British pound sterling.
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In theory, the IMF makes short-term loans conditional on the
borrower’s implementation of policy changes that will allow it to
achieve self-sustaining economic growth. This is the doctrine of
conditionality. However, a review of the evidence suggests that the
IMF creates long-term dependency. For example, 41 countries have
been receiving IMF credit for 10 to 20 years, 32 countries have been
borrowing from the IMF for between 20 and 30 years, and 11
nations have been relying on IMF loans for more than 30 years. This
evidence explains why IMF conditionality has little credibility.

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IMF Funding during the Credit Crisis
In 2008, the IMF used $100 billion to provide short-term loans
for temporary funding for developing countries that were
devastated by the credit crisis. These funds represented 50 percent
of the IMF’s total resources. The IMF organized a $25 billion
package of loans for Hungary and a $16 billion loan for Ukraine.
It also provided funding to some other Eastern European countries
and to Brazil, Mexico, and South Korea. The governments of
Eastern Europe had borrowed from European banks, and had they
defaulted on their loans, more problems might have been created
for those banks that had provided loans.

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World Bank
The International Bank for Reconstruction and Development
(IBRD), also referred to as the World Bank, was established in
1944. Its primary objective is to make loans to countries to
enhance economic development.

Its main source of funds is the sale of bonds and other debt
instruments to private investors and governments. The World
Bank has a profit-oriented philosophy. Therefore, its loans are
not subsidized but are extended at market rates to governments
(and their agencies) that are likely to repay them.

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A key aspect of the World Bank’s mission is the Structural Adjustment Loan
(SAL), established in 1980. The SALs are intended to enhance a country’s long-term
economic growth. For example, SALs have been provided to Turkey and to some
less developed countries that are attempting to improve their balance of trade.

Because the World Bank provides only a small portion of the financing needed by
developing countries, it attempts to spread its funds by entering into cofinancing
agreements. Cofinancing is performed in the following ways:

■ Official aid agencies. Development agencies may join the World Bank in financing
development projects in low-income countries.

■ Export credit agencies. The World Bank cofinances some capital-intensive projects
that are also financed through export credit agencies.

■ Commercial banks. The World Bank has joined with commercial banks to provide
financing for private-sector development. In recent years, more than 350 banks from
all over the world have participated in cofinancing, including Bank of America, 8J.P.
Morgan Chase, and Citigroup
The World Bank recently established the Multilateral
Investment Guarantee Agency (MIGA), which offers various
forms of political risk insurance. This is an additional means
(along with its SALs) by which the World Bank can encourage
the development of international trade and investment.

WB GROUP = WB/IBRD + IDA + IFC

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World Trade Organization

The World Trade Organization (WTO) was created as a result of

the Uruguay Round of trade negotiations that led to the GATT
accord in 1993. This organization was established to provide a
forum for multilateral trade negotiations and to settle trade
disputes related to the GATT accord. It began its operations in
1995 with 81 member countries, and more countries have joined
since then. Member countries are given voting rights that are
used to make judgments about trade disputes and other issues.

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International Financial Corporation
In 1956 the International Financial Corporation (IFC) was
established to promote private enterprise within countries.
Composed of a number of member nations, the IFC works to
promote economic development through the private rather than the
government sector. It not only provides loans to corporations but
also purchases stock, thereby becoming part owner in some cases
rather than just a creditor. The IFC typically provides 10 to
15 percent of the necessary funds in the private enterprise projects
in which it invests, and the remainder of the project must be
financed through other sources. Thus, the IFC acts as a catalyst, as
opposed to a sole supporter, for private enterprise development
projects. It traditionally has obtained financing from the World
Bank but can borrow in the international financial markets.
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International Development Association
The International Development Association (IDA) was created in 1960 with
country development objectives somewhat similar to those of the World Bank.
Its loan policy is more appropriate for less prosperous nations, however. The
IDA extends loans at low interest rates to poor nations that cannot qualify for
loans from the World Bank.

Bank for International Settlements

The Bank for International Settlements (BIS) attempts to facilitate cooperation among
countries with regard to international transactions. It also provides assistance to
countries experiencing a financial crisis. The BIS is sometimes referred to as the
“central banks’ central bank” or the “lender of last resort.” It played an important
role in supporting some of the less developed countries during the international debt
crisis in the early and mid-1980s. It commonly provides financing for central banks in
Latin American and Eastern European countries.
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The Organisation for Economic Co-operation and Development
(OECD) is an international organisation that works to build better policies
for better lives. Goal is to shape policies that foster prosperity, equality,
opportunity and well-being for all. They draw on 60 years of
experience and insights to better prepare the world of tomorrow.
Together with governments, policy makers and citizens, they work on
establishing evidence-based international standards and finding solutions to
a range of social, economic and environmental challenges. From improving
economic performance and creating jobs to fostering strong education and
fighting international tax evasion, we provide a unique forum and
knowledge hub for data and analysis, exchange of experiences, best-
practice sharing, and advice on public policies and international standard-
setting.

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Regional Development Agencies
Several other agencies have more regional (as opposed to global) objectives
relating to economic development. These include, for example, the Inter-
American Development Bank (focusing on the needs of Latin America), the
Asian Development Bank (established to enhance social and economic
development in Asia), and the African Development Bank (focusing on
development in African countries). In 1990, the European Bank for
Reconstruction and Development was created to help the Eastern European
countries adjust from communism to capitalism. Twelve Western European
countries hold a 51 percent interest, while Eastern European countries hold a 13.5
percent interest. The United States is the biggest shareholder, with a 10 percent
interest. There are 40 member countries in aggregate.

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l European Investment Bank (EIB): The EIB offers funds for certain public and private
projects in European and other nations associated with the Common Market. It
emphasizes loans to the lesser-developed regions in Europe and to associated members in
Africa.
l Inter-American Development Bank (IADB): The IADB is a key source of long-term

capital in Latin America. It lends to joint ventures, both minority and majority foreign-
owned, and it provides small amounts of equity capital. One initiative was to act as a
catalyst for further private sector funding for Latin American infrastructure projects. By
partially guaranteeing commercial bank loans and directly lending to infrastructure
projects, the IADB aims to bring funding to many projects for which commercial bank
loans might not otherwise be available. For example, it lent $75 million to a private
consortium led by General Electric and Bechtel to build and lease the second stage of the
Samalayuca power project in Mexico.

lAtlantic Development Group for Latin America (ADELA): ADELA is an international

private investment company dedicated to the socioeconomic development of Latin
America. Its objective is to strengthen private enterprise by providing capital and
entrepreneurial and technical services.
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l Asian Development Bank (ADB): The ADB guarantees or makes direct loans to member states and
private ventures in Asian/Pacific nations and helps develop local capital markets by underwriting securities
issued by private enterprises.

lAfrican Development Bank (AFDB): The AFDB makes or guarantees loans and provides technical
assistance to member states for various development projects. Beneficiaries of AFDB loans and activities
are normally governments or government-related agencies.

lArab Fund for Economic and Social Development (AFESD): The AFESD is a multilateral Arab fund that
actively searches for projects (restricted to Arab League countries) and then assumes responsibility for
project implementation by conducting feasibility studies, contracting, controlling quality, and supervising
the work schedule.

lEuropean Bank for Reconstruction and Development (EBRD): The EBRD, which was founded in 1990
with an initial capital of about $13 billion, is supposed to finance the privatization of Eastern Europe. Many
critics are skeptical of its chances, however. For example, the first person appointed to head it was a French
socialist who masterminded the most sweeping program of nationalizations in French history. The EBRD’s
reputation was not helped when it was revealed in 1993 that in its first two years of operation, it had spent
more than twice as much on its building, staff, and overhead (more than $300 million) as it had disbursed in
loans (about $150 million) to its 25 client countries. Thanks to the nudging of the United States, one of the
ground rules for the EBRD is that it must make 60% of its loans to the private sector, a target it is now
approaching after an early tilt toward the public sector.
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