When the IMF says it will rescue Greece, we all provide the funding

Philip Bayley

With a €40 billion commitment to the bailout of Greece in the first week of May and a €250 billion commitment to the EU’s eurozone stabilisation mechanism a week later, the curious among us may ask where does the IMF get its money?

The short answer is from all its member countries, including Australia. In other words we’re all funding the IMF’s activities.

To understand how this works in practice, it’s useful to consider the history of the IMF and its function.

The IMF was conceived in July 1944, when representatives of 45 countries meeting in the town of Bretton Woods, New Hampshire, in north eastern United States, agreed on a framework for international economic cooperation to be established after the Second World War. (This is where the Bretton Woods agreement on (relatively) fixed exchange rates came from.) The founders believed that such a framework was necessary to avoid a repetition of the disastrous economic policies that had contributed to the Great Depression.

Since then the world has changed dramatically but the IMF's main purpose - to provide the global public good of financial stability – has remained unchanged.

More specifically, the IMF continues to provide a forum for cooperation on international monetary problems, facilitate the growth of international trade, promote exchange rate stability and lend countries foreign exchange when needed.

The IMF is a specialised agency of the United Nations, with its own charter and governing structure. It has a membership of 186 countries, with each assigned a ‘quota’ that determines a country’s maximum financial commitment to the IMF, and its voting power. Australia’s quota is SDR3.2 billion and the United States, as the largest member, has a quota of SDR37.1 billion.

SDR is the acronym for Special Drawing Rights – the IMF’s own currency, created in 1969. It is an international reserve asset and is based on a basket comprised of the British pound, the euro, Japanese yen and the United States dollar but its value is measured in US dollars daily.

So, as for how the IMF funds its activities: firstly from the quotas. Each member must pay 25 per cent of its quota to the IMF upon joining. Furthermore, quotas are reviewed every five years for a possible increase.

The 1998 review led to a 45 per cent increase in quotas but there have been no changes at each review since. That said, ad hoc increases have been implemented since 2006 to give greater voting rights to smaller countries.
The IMF’s second source of funds is its gold holdings. It was, as at January this year, the world’s third largest official gold holder, with just over 3,000 tonnes in its possession. However, in the fourth quarter of 2009 the IMF initiated the first phase of a program to sell 403 tonnes of gold.

In this first phase, 212 tonnes of gold were sold to the Reserve Bank of India, the Bank of Mauritius and the Central Bank of Sri Lanka. The second phase, commenced in February, will see the remaining tonnes sold on-market.

Thirdly, the IMF can borrow from its members. It has two standing multilateral borrowing arrangements: General Arrangements to Borrow (GAB); and New Arrangements to Borrow (NAB).

Until recently, the combined capacity to borrow under the arrangements was just SDR34 billion. GAB was the original arrangement, with just 11 countries participating. NAB was established to supplement GAB, at the Halifax G7 summit in 1995, following the Mexican crisis.

Funding under GAB and NAB must be called upon by the IMF and can only be activated if unanimously agreed by the participants in GAB and agreed by 80 per cent of the participants in NAB. Australia’s commitment under NAB is SDR4.4 billion.

NAB has been activated only once when Brazil defaulted in December 1998. GAB has been activated ten times, the last being when Russia defaulted in July 1998.

However in April 2009, the G20 and IMF agreed to increase the resources available to the IMF by US$250 billion of immediate financing from members (in the form of bilateral loan agreements, of which Australia committed US$5.7 billion to both the IMF and Asian Development Bank) and to expand NAB by up to US$500 billion. The expansion of NAB will be funded from the addition of 13 new participants, mainly emerging market countries.

Lastly, the IMF implemented a note issuance facility in July, last year. The IMF can now issue notes (or bonds) to the ‘official sector’ of member countries i.e. their central banks and/or monetary authorities.

The notes provide the official sector with a safe investment and help ensure the IMF can provide timely and effective assistance to countries in need. To date, three note purchase agreements have been signed with member countries, with a total a total value of US$69 billion.

Clearly, the IMF’s ability to fund its activities comes directly from the strength of the economies of its members.