IMF, IMF Quota System, and SDRs

  • November 9, 2023
  • Posted by: OptimizeIAS Team
  • Category: DPN Topics
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IMF, IMF Quota System, and SDRs

Subject :IR

Section: International Organisation

Overview:

  • The IMF Executive Board approved a 50% quota increase to provide critical resources to developing nations.
  • The proposal emphasizes the need for fair representation, safeguarding the poorest members’ shares.

Quota Increase Proposal:

  • The proposal advocates for a 50% quota increase to be distributed to members based on their current quotas.
  • If approved by the Board of Governors, it will strengthen global financial stability and minimize reliance on borrowed resources.
  • The proposed increase is aimed at preserving the IMF’s robust, quota-based, and adequately funded structure within the Global Financial Safety Net.

Boosting Financial Stability:

  • Quotas serve as the IMF’s financial and governance foundation, determining lending capacity and voting power.
  • The plan is to decrease borrowed resources like Bilateral Borrowing Agreements and New Arrangements to Borrow (NAB) to maintain the Fund’s current lending capacity.

Future Quota Realignment:

  • The proposal acknowledges the importance of realigning quota shares to reflect members’ relative positions in the world economy.
  • The Executive Board is called upon to work on possible approaches for further quota realignment by June 2025 under the 17th General Review of Quotas.

Expectations and Decision:

  • The proposal seeks broad support from the membership and highlights the IMF’s ability to foster cooperative solutions amid global challenges.
  • The Board of Governors is scheduled to vote on the proposal by December 15, 2023, requiring an 85% majority of the total voting power.

About International Monetary Fund (IMF) –

  • Founded in 1944, the IMF fosters global monetary cooperation and financial stability.
  • Works to facilitate international trade, promote employment, sustainable economic growth, and reduce global poverty.
  • World Economic Outlook, published by IMF, accompanied by lengthy discussions on the effect of fiscal, monetary, and trade policies on growth prospects and financial stability

Functions:

  1. Surveillance: Gathers extensive economic data, providing updated economic forecasts globally.
  2. Capacity Building: Offers technical assistance, training, and policy advice to member countries.
  3. Lending: Provides loans with specific conditions to nations facing financial challenges.

Organization:

  • Board of Governors: Oversees IMF operations, advising the Managing Director.
  • Executive Board: Consists of 24 directors representing member countries, responsible for day-to-day operations.
  • Managing Director: Leads the IMF’s staff and the Executive Board.

Voting Power and Quotas:

  • Quotas determine financial commitments and voting power of member countries.

Notable Contributions:

  • The IMF has played a crucial role in managing various global financial crises, including the Suez Crisis, OPEC oil embargo, and the Asian financial crisis, among others.

India and IMF:

  • India holds a significant SDR quota and votes in the IMF, benefiting from technical assistance and financial aid during crises.
  • India currently holds 2.75% of SDR quota, and 2.63% of votes in the IMF
  • The IMF has supported India during economic challenges, offering advice and financing assistance.
  • SDR is one of the components of the Foreign Exchange Reserves (FER) of India.

Criticisms and Reforms:

  • Criticisms include structural under-representation, undermining of democratic ownership, and weak learning from past mistakes.
  • Calls for greater transparency, representation, and tailored policies for different countries have been made.

About Special Drawing Rights (SDR)

  • Meaning: SDR is an international reserve asset created by the IMF in 1969 to supplement its member countries’ official reserves.
  • Composition: It is based on a basket of five major currencies: U.S. dollar, euro, Chinese renminbi, Japanese yen, and British pound sterling.
  • Allocation: SDRs are allocated to member countries by the IMF as per their quota shares.
  • Review: The SDR basket is reviewed every five years to ensure its reflection of the relative importance of currencies in the global economy.

Significance of SDRs:

  1. Global Reserve Asset: SDRs provide an additional liquidity cushion to countries during times of financial stress and economic uncertainty.
  2. International Unit of Account: SDR serves as a common unit of accounting for the IMF and certain other international organizations, facilitating international financial transactions.
  3. Diversification of Reserves: Helps in diversifying countries’ reserves, reducing dependency on any single currency and promoting global financial stability.
  4. Emergency Response: Enables the IMF to provide liquidity to its members, assisting in managing balance of payments difficulties and supporting global economic stability.

The International Monetary Fund (IMF) operates on a quota system and uses Special Drawing Rights (SDRs) as its unit of account.

IMF Quota System:

IMF Quotas play a pivotal role in determining member countries’ financial contributions, voting power, access to financing, and SDR allocations.

IMF Quotas are the building blocks of the IMF’s financial and governance structure, denominated in Special Drawing Rights (SDRs), and determined by a formula considering a member country’s GDP, economic openness, economic variability, and international reserves.

  1. Quota Subscription: Each member contributes a sum known as a quota subscription upon joining the IMF.
  2. Quota Formula: It involves a weighted average of GDP (50%), openness (30%), economic variability (15%), and international reserves (5%).
  3. GDP Measurement: GDP is measured using market exchange rates (60%) and purchasing power parity (PPP) exchange rates (40%).
  4. Quotas in SDRs: Quotas are expressed in SDRs, representing member countries’ contributions to the IMF.
  5. Voting Power:Voting power is linked to quotas, with larger quotas leading to greater influence in decision-making within the IMF.
  6. Resource Contributions: Quotas determine the maximum financial resources a member is obliged to provide to the IMF.
  7. Voting Power:Quotas are crucial in determining the voting power in IMF decisions, with votes based on a combination of quota size and basic votes.
  8. Access to Financing: The maximum financing a member can obtain from the IMF is based on its quota.
  9. SDR Allocations: Quotas determine a member’s share in the general allocation of SDRs.

Quota Reviews: The IMF conducts general quota reviews at regular intervals, and any changes in quotas require approval by an 85% majority of the total voting power. A member’s quota cannot be changed without its consent.

Need for Reforms: Calls for reforms in the IMF governance structure have been made due to shifts in global economic and geopolitical power. The disparity in quota shares has led to frustrations among some IMF members, with concerns about the concentration of power among certain countries.

The recent decision to maintain IMF quotas without changes highlights the challenges in achieving governance reforms that reflect the evolving dynamics of the global economy.

Special Drawing Rights (SDRs): SDRs are not a currency but an IMF unit of account, representing claims to currency held by IMF members.

Value Determination: SDR value is calculated daily based on market exchange rates, and the valuation basket includes major currencies such as the U.S. dollar, Euro, Japanese yen, pound sterling, and Chinese renminbi.

Currency Exchange: SDRs are exchangeable among IMF member countries, providing liquidity and serving as a supplementary international reserve asset.

About New Arrangement to Borrow (NAB)

The New Arrangement to Borrow (NAB) is an agreement established by the International Monetary Fund (IMF) that allows member countries and institutions to lend additional funds to the IMF.

  1. Purpose: The NAB was created as a fund mobilization arrangement for the IMF to have access to additional resources through borrowing from member countries.
  2. Structure: The NAB is set up as a series of credit arrangements between the IMF and a select group of 38 member countries and institutions. The list of participating countries and institutions can be subject to change.
  3. Origins: The concept of the NAB was initially proposed at the 1995 G-7 Halifax Summit in response to the Mexican financial crisis. Subsequently, the IMF’s Executive Board adopted a decision to establish the NAB in January 1997, and it became effective in November 1998.
  4. Revival during the Global Financial Crisis: The NAB was reinvigorated amid the global financial crisis of 2009. Its purpose was to ensure that the IMF had sufficient lending resources to address the pressing financial challenges, particularly those arising from the Eurozone crisis.
  5. By allowing the IMF to access additional resources through borrowing from its member countries and institutions, the NAB serves as a critical mechanism to bolster the IMF’s lending capacity during periods of economic and financial turmoil.
IMF Quota System IR