International Finance
Bretton Woods

Paola Subacchi calls on advanced-economy leaders to commit urgently to reforming the Bretton Woods institutions – or risk watching them be replaced.

Burgess COMMENTARY

Peter Burgess

Paola Subacchi calls on advanced-economy leaders to commit urgently to reforming the Bretton Woods institutions – or risk watching them be replaced. Long View: Extended commentaries distinguished by richly detailed analysis. Saving the International Economic Order This autumn, the IMF and the World Bank will once again hold their annual conference in Washington, DC. At a time when the liberal international economic order that these institutions underpin is under threat, they cannot afford to stick to business as usual.


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LONDON – This autumn, the International Monetary Fund and the World Bank will once again hold their annual conference in Washington, DC. At a time when the liberal world order that these institutions underpin is under threat, they cannot afford to stick with business as usual. Instead, they must consider deep reforms – and that will require abandoning the paternalistic, even hostile, tone that has often dominated discussion of the topic.

Since the election of Donald Trump as US president last November – the culmination of an upsurge in nationalist-populist sentiment across the Western world – the weaknesses of existing multilateral frameworks have come increasingly to the fore. But the current crisis of the liberal world order has been a long time in the making.

In fact, it has been apparent since before the turn of the century that the post-World War II governance structures were untenable, because the assumptions that formed their foundation were beginning to crumble. In particular, with emerging economies, especially China, on the rise, the division between the West and the “rest” was narrowing fast.

Yet the global economy’s institutional underpinnings – the IMF and the World Bank – have remained largely unchanged. Indeed, the multilateral institutions on which global governance rests do not look all that different today than they did in 1944, when Britain’s John Maynard Keynes and America’s Harry Dexter White convened representatives from 44 countries in in Bretton Woods, New Hampshire, to design the post-WWII international order.

Global Governance Red Flags

There has been no shortage of signals that the global economy’s institutional architecture needs to be updated. If the Asian financial crisis of 1997 pointed to the potential for contagion in an increasingly interconnected financial system, the global crisis of 2008 directed a neon-lit flashing arrow at it.

Meanwhile, China’s rise to prominence as a global economic powerhouse was by no means subtle. After some three decades of double-digit economic growth, facilitated in the latter years by its 2001 accession to the WTO, China has emerged as the world’s second-largest economy (the largest, by some measures) and its top exporter. Last year, the renminbi was added to the basket of currencies that, along with the US dollar, the euro, the Japanese yen, and the British pound, determines the value of the IMF’s reserve asset, the Special Drawing Right.

And China was not the only emerging economy to contribute to the transformation of the global economic landscape. Taken together, the “BRICS” countries – Brazil, Russia, India, China, and South Africa – were expected in the early 2000s to become the new engine of the global economy. Though some of these countries have not lived up to their billing – owing to some combination of dependence on the commodities cycle, reluctance to embrace reform, and domestic political challenges – there is no doubt that they have reshaped the global order.

The Untenable Slowness of Progress

Despite these tectonic shifts, attempts to reform the Bretton Woods institutions have so far been fragmented and uncoordinated. In 1999, in the wake of the Asian crisis, the G20 was established as a forum for finance ministers and central bankers of the 20 largest developed and developing economies, in order to expand representation in global economic governance beyond the G8.

After the 2008 crisis, the G20 became a leaders’ forum, responsible for rethinking the international monetary and financial system. And, in 2010, things seemed to be going according to plan, with the G20 promoting a plan to reform the governance and quota structure of the IMF by redistributing votes and seats to underrepresented emerging economies, especially China.

This initiative, however, produced limited action. Despite improvements in the IMF’s policy approach and staff diversity, the Fund’s governance remains dominated by the same main shareholders, with the United States retaining its veto power and Europe de facto guaranteed the managing director job.

The Path of Most Resistance

In order to be legitimate, effective, and accountable, multilateral economic institutions need to work proactively to align representation within the institutions with countries’ relative economic weight and systemic importance. Waiting for leadership to change organically – that is, leaving it up to developing countries to work together to get their voices heard – simply will not bring about the governance reforms that are needed.

To be sure, if developing countries can all get behind a single candidate, it is possible that the next IMF managing director will be a non-European. But that landmark would be achieved nearly a quarter-century after the Asian financial crisis – far later than it should have. Simply put, the onus should not be on developing countries to fight for the influence they have already earned.

Moreover, the leading advanced economies cannot realistically be expected to relinquish gracefully their claim to the top jobs at the world’s most important multilateral economic institutions. After all, it took the US Congress five full years to ratify an international deal to reform the IMF quota system.

Such resistance seems set only to intensify, at least in the US. Trump has expressed clearly his distaste for international structures – from NATO to the Paris climate agreement to the G20 – which he claims advance the interests of others over those of the US. He has also made explicit his belief that the US should no longer bankroll the provision of global public goods, from defence to financial stability.

Add to that the deafening silence from the largest European countries on the issue, and it is possible that emerging economies, particularly China, will give up on advocating reform from within the Bretton Woods system. While emerging economies have made it clear that the existing system can remain relevant, if all stakeholders commit to making the necessary changes, a credible plan to do so has yet to emerge.

Beijing Woods?

If the major advanced economies continue to lag in pursuing change, the emerging economies, with China in the lead, could well decide to pursue a more radical course, one that aims to replace, rather than reshape, today’s institutions. Already, China has spearheaded the creation of two multilateral development institutions – the Asian Infrastructure Investment Bank (AIIB) and the New Development Bank (NDB) – as well as the Silk Road Fund, financed exclusively by the Chinese government. The AIIB and the NDB are headquartered in Beijing and in Shanghai, respectively. They have fewer resources than the World Bank – $100 billion for the AIIB and $50 billion for the NDB, compared to $200 billion for the World Bank – but they are big enough to finance significant infrastructure projects in the region. While the NDB is limited to the BRICS, the AIIB has 56 shareholder countries, with the notable exceptions of the US and Japan. (In yet another sign of American resistance to greater Chinese institutional leadership, US President Barack Obama’s administration pressured its allies not to join.) The IMF retains its role in providing an extensive financial safety net for the global economy. But regional facilities have been created to provide a cooperative mechanism for dealing with occasional liquidity crunches. The Chiang Mai Initiative (CMI), for instance, pools the foreign-exchange reserves of the ASEAN+3 countries – a nominal total of $240 billion – to provide currency swaps to members in times of financial distress. The facility can be expanded if necessary, provided that members are prepared to assume the risk. Similarly, BRICS countries can rely on a Contingency Reserve Arrangement of approximately $100 billion.

Eminents’ Domain

Last April, the G20 finance ministers and central bank governors established an “Eminent Persons Group on Global Financial Governance” to make recommendations on how to reform the world economy’s institutional infrastructure. To succeed, the group will need to reconcile the views of the countries that form the bulk of the membership of the Bretton Woods institutions and devise a concrete plan for rebalancing.

But the group has only until next year’s annual IMF/World Bank conference to wrap up its work and issue recommendations. That is not a lot of time to engage in the necessary deliberations, especially given the broadness of the group’s mandate. Just as the Bretton Woods institutions resulted from years of debate about how to shape a new model of international economic cooperation, the reform of these institutions must reflect a process of careful deliberation.

To be sure, since the 2008 financial crisis, there has been much debate about globalization, governance, international cooperation, and the tension between open markets and domestic politics. Well-rehearsed discussions of issues like financial surveillance, coordination, moral hazard, international lenders of last resort, a debt-resolution regime, and sustainability in development finance will surely inform the work of the eminent persons group.

But discussion does not imply consensus, and I am not convinced that agreement on any of these topics is strong enough to produce concrete policy action. The question of how to pursue governance and quota reform in the Bretton Woods institutions – critical to these bodies’ survival – is nowhere near answered. And Trump’s US, which is engaged in its own rethinking of its role in world affairs, remains a wild card.

Surviving Without America

America’s quota in the IMF amounts to approximately $113 billion, and the US has contributed some $27 billion to the World Bank since 2010. Moreover, the US has long been a leader and crisis manager within the international institutional framework. If Trump’s “America First” leads him to turn on financial multilateralism, the US would deal a massive blow to the institutions that underpin the global monetary system.

In particular, Trump may decide that, rather than fully delegating leadership responsibilities to the institutions themselves, the US should intervene on an ad hoc basis, potentially within bilateral frameworks, whenever he believes that an important national interest is at stake. Unfortunately, this approach – which certainly would not be embraced by a country like China – does seem to be the one that is most aligned with the Trump administration’s worldview and foreign policy.

In this uncertain context, the best way forward may be not to assume that a partial US withdrawal from the Bretton Woods system would spell disaster, and instead to consider how the US stance may open the way for change. It will not be easy, particularly if Trump decides that the US should start making its own rules. But if the other main players cooperate, there is a chance that the Bretton Woods system can survive changing economic dynamics.

Time is not on our side; indeed, a year is probably not a long enough time to deal with the disruption that a reluctant hegemon may create. But it may deliver a better sense of the scale of the disruption that the US may be prepared to trigger – and the capability of the rest of the Bretton Woods system’s stakeholders to adapt.
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Photo of Paola Subacchi PAOLA SUBACCHI Paola Subacchi is Research Director of International Economics at Chatham House and Professor of Economics at the University of Bologna. She is the author of The People's Money: How China is Building an International Currency.
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stephan Edwards SEP 1, 2017 The problem is there is no agreement on what reforms need to made and what economists agree on is politically untenable. And frankly the IMF has proven several times it exists to protect the interests of banks and only of banks. At best the the IMF/Worldbank is a hired gun for the financial interests at worst well look at Greece. Speaking for a whole lot of peasants I am not sure there is any reason to save 'The International Economic Order'. It does a whole lot for bankers and multinational corporations but for th rest of us.....Not to much. READ LESS
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Michael Parsons SEP 2, 2017 'It will not be easy, particularly if Trump decides that the US should start making its own rules'. Presumably written with eyes tight shut. America denies every vestige of 'free and impartialtrade', forcing on others its own political and economic choices by controling and sabotaging payments via SWIFT (eg to Iran), 'fining' foeign banks that trade in disregard of US dictats (eg the French and German), threatening bans on anyone with links to US disfavoured nations. Freely operating trade system vthis bis not. And don't forget the Bretton Woods agreement was made in defiance of Keyensian proposals for an independent payments system (the 'bancor') and paved the way for this US bullying and over-dominance and wreckig of third-world social development- it certainly does not need 'rescuing' . Doesn't anyone read the record anymore? READ LESS Reply
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Comment David Punabantu SEP 2, 2017 The IMF has to reform. It its self is the main culprit in not following the free market system it advocates so much. Take the IMF fixed cross rate system. The cross-rates appear day in and day out, in value terms, in many national currencies. This implies that national money markets have the same money market currency liquidity and trade volumes to produce the same cross rates as observed between Britain and the United State of America. On the February 16th 2017 the Indian Rupee traded at INR0.01495 per US$1, while the Sterling pound was at INR0.01199 per £1, giving a IMF cross rate of 1.24. The Japanese Yen on the same date stood at JPY¥0.008782 per US$1 and JPY¥0.007033 per £1 giving a cross rate of 1.24. The Canadian dollar also on the same day had CAD$0.76569 per US$1 and CAD$0.61420 per £1 to give 1.24 as it's IMF fixed cross rate. The Chinese Yuan against the US dollar stood at CNY¥0.145541 per US$1, and CNY¥0.116789 per £1, on the same day to give a IMF cross rate of 1.24. The Mexican Pesos, Brazilian Real, South African Rand, on the same day like all currencies across the world had 1.24 as the IMF cross rate fixed on the US dollar and Sterling pound. The reality on the ground is that Zambia, Britain, Canada, India, Japan, China, Mexico nor the EU has the same level and volume of trade to give credibility to the IMF fixed cross-rates. In fact, the demand of the Euro or the Zambian Kwacha, Euro against the US dollar and the British Sterling pound and other African, Asian, Latin American currencies in relation to trade, within their money markets, gives exchange rates that are outside the IMF fixed cross-rate system. There is no competition here with IMF fixed cross rates. It must be noted that IMF MD Mr. M. Gutt at his Harvard University address on the 13th February 1948 noted that the indirect exchange rate of the US dollar to the Sterling pound was £1 per US$2.6 as US$1 equalled 600 Lire and £1 equalled 1,560 Lire, while the direct Sterling pound-US dollar rate stood at £1 per US$4. American found it cheaper buying British goods via Italy. The IMF ruled in favour of Britain as if Italy's money markets had the same inflows as London's money market.The picture that emerges, in a free floating cross rate system for example, may see Country Z having trade surplus with Country J as it uses Yen to convert into Country Z’s currency the Kwachas to buy copper. This creates an exchange rate of ¥1,000 per K1 as Country J uses her Yen to purchase Kwachas, Country Z’s national currency. Country Z buys very little from Country J in relation to what Country Z exports to Country J. To this, Country J uses the purchased Country Z’s Kwachas to buy copper, against which Country Z accumulates Yen in its market as the Fund as noted in Article I of the Fund Agreement is, “to assist in the establishment of a [multilateral] system of payments in respect of current transactions between nations.” Although the exchange rate in Country Z for the US dollar, based on Country Z’s market liquidity may be K8 per US dollar, in Country J it may well be ¥200 per US dollar as Country J trades more with the United States than Country Z. If a citizen in Country Z wanted to import an iphone from the United States pegged at US$500, it would be cheaper to buy the iphone via Country J, but this would in turn affect market liquidities in both Country Z and Country J money markets and hence exchange rates as exchange arbitrage operations occur. The US$500 iphone in Country Z in Kwacha terms based on its K8 per US dollar rate would cost K4,000, but through Country J the cost of the iphone would be ¥100,000 at ¥200 per US dollar, being through Country Z’s Kwacha/Yen exchange rate at ¥1,000 per K1 be worth K100, which is equal in US dollars based on Country Z’s US dollar/Kwacha exchange rate at US$12.50. At US$12.50 per iphone the United States would be on an equal footing to deal with another country called China with its cheap exports unless China’s cross-rates are lower in the countries China/United States/Country Z’s exchange rate configurations. It would then be a question of quality and finding the best value in currency arbitrage operations. The United States would still get its US$500 disregardless of the value step up or step down and the problem of external disequilibrium is addressed provided each country settled its exports in its national currencies. It is here that China's economic success can be understood. As noted by Mr. Crowther in his book ' an outline of money' he wrote ' if a purchaser is someone who want D-marks in order to pay for German exports, the fact that he can get his marks cheap is equivalent to a reduction in the price of exports; it will stimulate sale in exactly the same way as an ordinary depreciation of the exchange rate” (Crowther (1951) p.260). The next issue that has to be tackled is the London Metal Exchange. Adam Smith's market doctrine is based on supply and demand. The underlying axiom is country X produces good X and is bought by currency X belonging to country X. If country Y wanted good X it has to change its currency Y into currency X to buy good X. That is why a Euro cannot directly buy goods from the US until it is changed into a US dollar hence Exchange Rate. But for Africa, Latin America, Asia that is not the case as seen in the London Metal Exchange. Africa's, Latin America's, Asia's mineral wealth on the LME that handles most of the world's non ferrous metals only allows the US dollar, the Sterling pound, the Japanese Yen, the Euro to buy Africa's, Latin America's, Asia's mineral wealth adding that wealth to the US dollar and the LME accepted Currencies. In 2015 the Chinese reminibi was added to the list while African, Latin America, and Asian currencies minus China and Japan are banned in this so called age of free markets and trade liberalisation. Trade liberalisation and free markets for whom? Do such policies follow the tenets of the market doctrine or corrupt it? It adds Africa's, Latin America's, and Asia's wealth in value terms to the US dollar. Thus Financial in global trade under the LME system Africa, Latin America, Asia minus Japan and China don't exist hence particularly Africa is always at the bottom because the value of it's wealth is added to the accepted Currencies. READ LESS Reply
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Comment Peter Howe SEP 1, 2017 I might add, a wonderful Advisor on any future improvements in the system, in my humble opinion - would be Mr Kofi Anan. A Wonderful Wisdom, in this day and age. Peter Howe Reply
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Comment Peter Howe SEP 1, 2017 Disruption is a term that speaks to, the fact that you were not prepared for it. As a business colleague once said to me, 'there is never a problem, only a solution'. As age has added some wisdom, I added - a solution waiting to be found. Without taking the time to sit, and break bread with All Parties that sit at the Table - and Converse... we will not know the peaceful end of it. Peter Howe, Ottawa, Ontario, Canada Reply
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Comment Andrew (Andy) Crow SEP 1, 2017 Barking at the Moon, dear. IMF and World Bank are not economic institutions they are both political bodies. If you expect economic leadership from either you will wait along time. Reply
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Comment stephan Edwards SEP 1, 2017 The problem is there is no agreement on what reforms need to made and what economists agree on is politically untenable. And frankly the IMF has proven several times it exists to protect the interests of banks and only of banks. At best the the IMF/Worldbank is a hired gun for the financial interests at worst well look at Greece. Speaking for a whole lot of peasants I am not sure there is any reason to save 'The International Economic Order'. It does a whole lot for bankers and multinational corporations but for th rest of us.....Not to much. READ LESS