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Op-Ed Global Economics

What next for the Bretton Woods twins?

Washington D.C., U.S.A

Devesh Kapur is Director of Asia Programs and Professor of South Asian Studies at the Paul H. Nitze School of Advanced International Studies, Johns Hopkins University, and co-author of The World Bank: Its First Half Century.

The 75th anniversary of the signing of the Bretton Woods Agreement comes at a time when multilateralism is under unprecedented pressure. Bretton Woods created the International Monetary Fund and the World Bank, and laid the foundations for the General Agreement on Tariffs and Trade, the precursor to the World Trade Organization. But trade agreements are now being undermined around the world. Deadlocks within the United Nations Security Council are permitting the conflicts – and deepening human misery – in Syria and Yemen to continue. And climate-change agreements are being flouted, with dire consequences for future generations.

Inevitably, the strain on multilateralism carries over to multilateral institutions. With US President Donald Trump’s administration blocking the appointment of judges to the WTO’s dispute-resolution body, that organization has largely become a bystander to ongoing trade conflicts. As matters stand, the entire dispute-settlement mechanism will have seized up by December. Worse, UN Secretary-General António Guterres recently warned that the UN itself could run out of money with which to pay staff salaries by the end of this month, owing to the failure of member states to meet their funding commitments.

World Bank and Sons

By comparison, the IMF and the World Bank might seem relatively secure. But surviving is not the same thing as flourishing. In fact, the fortunes of these fraternal twins are increasingly diverging. Consider the World Bank, whose development mission has evolved over time, from post-war reconstruction to infrastructure investment, and from poverty alleviation to policy reform and structural adjustment. In recent decades, the World Bank has not only rediscovered its roots in reconstruction and infrastructure, but added to its agenda everything from environmental and climate policy to social inclusion and gender equality.

Insofar as imitation is the highest form of flattery, the World Bank has chalked up successes with each new multilateral bank created in its image. The Asian Development Bank and other institutions have adopted a similar model of leveraging relatively small pools of paid-in capital against a much larger subscribed capital base guaranteed by members. In the case of the World Bank, only 6% ($17 billion) of total capital ($280 billion) is paid-in, but this has allowed for some $658.5 billion in lending since its founding. Even the Chinese-led Asian Infrastructure Investment Bank (AIIB) and the so-called BRICS bank – the New Development Bank – largely draw on this same design.

In many cases, the World Bank’s imitators have outgrown their model. Among multilateral banks, the World Bank is considerably smaller than the European Investment Bank, and smaller still when compared to national institutions such as the China Development Bank and the Brazilian National Bank for Economic and Social Development. At the same time, burgeoning global capital markets and cross-border financial flows have reduced the World Bank’s role in development finance to a small fraction of the whole, especially in larger developing countries.

But the World Bank is supposed to be about more than money alone. For most of its history, it was at the center of global debates about development, which is why it attracted the best and brightest economists and practitioners. That is no longer the case. The best and brightest in fields from economics to infrastructure – especially those in developing countries – have many more options than they once did. For the idealists, there are non-governmental organizations that allow for more creative and radical thinking. For others, there are universities, think tanks, and even private start-ups now expanding the frontiers of development thinking and practice.

Favored Child

As the institution charged with ensuring global monetary and financial stability, the IMF was always the favored twin, at least in the developed world, because it played a pivotal role in managing the Bretton Woods fixed-exchange-rate regime. Following the collapse of that system, when US President Richard Nixon ended the convertibility of dollars into gold in 1971, the IMF at first seemed to have lost its raison d’être.

But then came the two oil shocks of the 1970s, which were followed by the Latin American debt crisis in the 1980s, the post-Soviet integration of Central and Eastern Europe into the global economy, the “tequila” (Mexican) and Asian financial crises of the 1990s, and the global financial crisis of 2008. Together with never-ending balance-of-payments crises in strategically important developing and emerging economies, these events have ensured the Fund’s continued relevance.

And yet, for all its importance, the Fund’s performance has been spotty, not least in Argentina and Pakistan, which are each in the middle of their 22nd IMF program. Moreover, despite its global surveillance role, the Fund has been caught out by almost every major financial crisis. And the aftermath of those crashes has reinforced its reputation as a debt collector for Western creditors – its role in Greece is the most recent example. Nonetheless, the Fund’s dual role as a punching bag for developing-country elites who have wrecked their own economies, and as a “useful idiot” or scapegoat for rich countries, has ensured that its role goes largely unchallenged, even when it is heavily criticized.

In any case, it was inevitable that the IMF would become primus inter pares among the Bretton Woods institutions. A crisis always concentrates the mind, and with each crisis, the Fund becomes newly empowered. By contrast, the World Bank deals largely with the quotidian functions of government, be it the provision of education, health care, and other public services, or overseeing sectoral functions in areas such as agriculture or energy. Likewise, the Fund’s national counterparts – central banks and finance ministries – are among the most powerful and well-resourced departments in any government, whereas the Bank’s counterparts tend to be weaker, secondary ministries.

Critically, unlike the World Bank, the Fund has never faced a serious competitor. Yes, there is the Bank for International Settlements, the General Agreements to Borrow, and various bilateral and plurilateral swap lines stemming from the European Central Bank or the Chiang Mai Initiative. But, for the most part, these have all sought to link themselves to an IMF program, in order to reduce their risk exposure. Even the US Federal Reserve’s post-2008 dollar liquidity swap lines were confined to just 14 central banks. The Fund remains the only institution with a universal mandate.

In fact, one of the most notable results of the Fund’s monopoly has been heightened demand for self-insurance in the form of higher reserves, especially in Asia. That tendency has its own costs, but has been deemed necessary by countries that are eager to avoid going to the Fund in the first place.

Who’s in Charge Here?

Governance also matters. And in this respect, the World Bank’s structure is more fractured than the IMF’s, mainly because of the Bank’s greater reliance on “soft money” from national governments. This is partly by design. At the Bretton Woods conference, it was decided that the World Bank would secure the bulk of its money from markets, thereby ensuring a degree of political autonomy vis-à-vis its national-government owners (especially the United States). Yet, faced with the inability of many low-income borrowers to service their debts, the World Bank launched the International Development Association (IDA) in 1960 to offer concessional loans. Those funds come from the governments of richer countries, and are periodically replenished (usually every three years). There have been 18 replenishments so far, and discussions for a 19th round are underway.

The IDA transformed the Bank by giving it an unmatched ability to lend to, and work in, poor countries. Historically, many of its most prominent borrowers – South Korea, China, and, most recently, India – have “graduated,” crossing the income threshold for concessional-loan eligibility. But that very record of success has fueled the World Bank’s governance travails. Donor governments, starting with the US in the early 1980s, began to use each IDA replenishment round as an opportunity to force their own pet issues onto the World Bank agenda. Over time, the IDA “tail” began to wag the Bank “dog,” undermining the latter’s governance.

Meanwhile, with major shareholders pressuring the Bank to reduce its administrative expenses, its management sought to relax budgetary constraints with the help of trust funds from external donors. These mechanisms provide grant funding for core Bank activities, such as technical assistance and advisory services, and have come to finance around 30% of the Bank’s administrative budget, nearly two‐thirds of its analytical and advisory work, and about one-tenth of its disbursements to client countries. As with any institution, the World Bank’s budget reflects core priorities. While extra-budgetary resources like trust funds allow for additional activities, they also quietly muddle institutional priorities, further weakening governance.

Of course, the IMF, too, has extended concessional or “soft” loans, beginning with the Oil Facility Subsidy Account in 1975, which was followed by a trust fund in 1976. Then, in 1987, it established the Enhanced Structural Adjustment Facility to provide low-interest loans to poor countries. And more recently, it has provided concessional lending through the Poverty Reduction and Growth Trust. This mechanism includes the Extended Credit Facility for addressing protracted balance-of-payments problems; the Standby Credit Facility for shorter-term balance-of-payments and adjustment needs; and the Rapid Credit Facility, which provides an immediate, one-time payout for low-income countries facing urgent balance-of-payments needs. All of these facilities have different maturities and grace periods, and are currently interest-free.

Unlike the IDA, funding rounds for these facilities have not become a significant source of external leverage over the IMF. That is partly because the sums involved are not particularly large; the 1976 trust fund, for instance, was financed by the sale of around 16% of the Fund’s gold stock. But it is also probably because rich countries know that they might need to avail themselves of the Fund’s general resources – directly or indirectly – in the event that their creditors require a bailout. There are no such concerns on the part of rich countries with respect to the World Bank.

Where the Buck Stops

Whatever the structural differences shaping each institution’s evolutionary path, there is little doubt that the IMF is the more robust of the twins. More to the point, it is also simply a better-run organization. The Bank has lost its mojo. Organizational lassitude, low staff morale, and a loss of talent in recent years have sapped its creativity. The stark contrast between the IMF and the Bank’s intra-organizational effectiveness bears directly on their respective global relevance.

In its first four decades, the World Bank benefited from good, highly qualified presidents. But since the 1980s, its leaders – with a few notable exceptions – have varied between the pedestrian (Alden W. Clausen, Barber Conable) and the execrable (Paul Wolfowitz, Jim Yong Kim). Each president – all of them American men – has sought to demonstrate his manhood by pursuing a full-scale reorganization. After so many reorganizations of reorganizations of reorganizations, it is little wonder that the most talented staff have left. All told, cost-saving measures have cost the Bank in non-financial terms more than they’ve saved.

To be sure, the Fund has also had its share of poor leaders (all of them Europeans), with the notorious Dominique Strauss-Kahn being the most obvious example. But for the most part, it has enjoyed greater organizational stability. More broadly, it has become increasingly clear that while institutional design matters, so does leadership. A series of poor leaders can run the best-designed institutions into the ground. Even if nature had given the Bretton Woods twins an equal start in life, nurture ensured unequal outcomes.

Much of the blame for the World Bank’s poor upbringing lies with the US government, which has shown a willful disregard for the suitability of its nominees for the presidency. But other major countries also need to be held accountable for choosing to look the other way rather than challenging the US. There has been growing clamor in recent years to abolish the traditional arrangement in which the US picks the World Bank president and Europeans choose the managing director of the IMF. But efforts to reform the process have come to no avail.

On the contrary, there was almost no opposition, even in pro forma terms, to Trump’s selection of David Malpass to lead the World Bank, nor to Kristalina Georgieva’s nomination to succeed Christine Lagarde at the IMF. This lack of pushback does not necessarily bode well for either institution. It signals resignation, foreshadowing the rise of other institutions.

As China’s prominence on the world stage continues to grow, its own institutions – from the Belt and Road Initiative to the AIIB – will increasingly be embraced by a large majority of members of the Bretton Woods institutions. As the power of the Bretton Woods institutions wanes, Western countries might be tempted to hold on even more tightly to the levers of governance. But the tighter they squeeze, the less these institutions will matter in the long run.

Copyright: Project Syndicate, 2019.