Earned international reserve units: The catalyst of two complementary world problems—the monetary and development

EARNED INTERNATIONAL RESERVE UNITS: The Catalyst of Two Complementary World Problems - the Monetary and Development CHRIS ECONOM I DES, President,

1. THE SECOND AND - HOPEFULLY COLLAPSE

1.1.

In the

Cyprus

- THE LAST

OF THE GOLD EXCHANGE

world’s

monetary

Economic

history

STANDARD

of the past 50

years, two memorable dates, 20 September 193 1, and 15 August 1971, happen to have much in common: on the former date, the gold-sterling exchange standard, standard,

and on the latter, the gold-dollar exchange collapsed for practically the same reasons.

Society

International Reserve Units to be earned through the discount with the I.M.F. of long-term bonds connected with development loans.S 1.6. It is to be hoped that the world will not go back to the gold exchange standard or perpetuate ‘on a provisional basis’ the Inconvertible Dollar Standard, for history teaches that those who do not learn from their past mistakes, are doomed to repeat them with catastrophic consequences.

1.2. On 20 September 193 1, the British Government announced the suspension of the convertibility of the pound sterling into gold for the following reasons, stated in a communique of H.M. Government:

2. THE FIRST CONTRADICTION:

as

INADEQUATE

GROWTH OF MONETARY

GOLD

‘During the last few days the international financial have become demoralized, and have been liquidating their sterling assets regardless of their intrinsic ” worth.1 ‘In the circumstances there was no alternative but to protect the financial position of this country by the only means at our disposal [that is, by] suspending for the time being the operation of that section of the Gold Standard Act of 1925, which requires the Bank of England to sell gold at a fixed price.‘2

2.1. The gold exchange standard was expected to be more efficient than the ‘gold standard’, because the key-currency-originally the pound sterling and later the U.S. dollar-would supplement gold as a reserve asset and the two together would, hopefully, serve the needs of international trade better than gold alone.

Many

eliminate the main contradiction of gold as an international reserve asset, which was that its annual

markets

‘after

monetary

the

abuses

experts

thought

at that

it led to, the system

time that of the gold

exchange standard was dead for ever’.3 1.3. However, after the Second World War, that system was revived again, with the American dollar substituted for the English pound as the keycurrency. Ultimately, however, the gold-dollar exchange standard, was doomed to have the same fate as its predecessor. President

On 15 August 1971, Richard Nixon had to

the American announce the

2.2.

growth

The gold exchange

was

international

standard

could not, however,

commensurate with trade, in current prices.

not

the growth

of

1. All italics in this paper have been added for purposes of emphasis (excepting references to books, etc.). 2. Quoted in Keesing’s*Contemporay 1931-4, p. 62.

Archives,

vol.

i,

‘temporary’ suspension of the convertibility of the American dollar into gold, in order-as he put it-‘to defend the dollar against the international specula-

3. Comment by M. Pierre Quesnay, Manager-General of the Bank for International Settlements in Basle, quoted by Professor Giuseppe Ugo Papi in his paper ‘An old question: choice of an international monetary measure’, Rivista di Politica Economica, January 1970.

tors’, who ‘in recent weeks out attack on the dollar’.4

4. See the official version of President Nixon’s announcement, published in The Times on 17 August 1971.

have been

waging an all-

1.4. Although on both occasions the speculators were, admittedly, the proximate cause that precipitated the collapse, yet the real causes were more fundamental: they were the latent contradictions of the gold exchange standard, the effects of which, with the passage of time, were bound to expand and eventually to explode. 1.5. The purpose of this paper is to analyse these contradictions and to elaborate the idea which I first put forward in a letter to The Times on 27 September 1971, of substituting for the gold exchange standard and the present gold-linked gifted SDRs, new Vol. 1 Nos. 3 & 4

5. My letter to The Times on 27 September 1971, in which I gave a very brief outline of the views set forth in this paper, was occasioned by one of three articles by Professor Nicholas Kaldor published in the same paper on 8 September 1971 in which he made the point that SDRs, in the way that they have been brought into existence, ‘will be quite ineffective in performing,the vital function of ensuring that the effective demand for goods and services in international trade should go on rising’; and by a letter from Mr. Hugh M. O’Connor, former Chairman of Gilbert Brothers Discount Company, to The Times published on 14 September 1971, in which he repeated his proposal made in an article in The Times, Business News, four years earlier (18 August 1967) for the formation of an International Discount Office at a World Central Bank. 49

From

1950

to 1965

the world’s

official

holdings

of gold increased 6y only 22 per cent (from $35.5 to $43.3 billion) and in the last five years (1965-1970) they

actually

decreased

to

$41.3

the net growth of gold during was only 16 per cent. At the same time, however,

billion-therefore

the past two decades

the growth of world

imports in current prices during the same period 390 per cent (from $60 to 294 billion).6 2.3.

The main

reasons

for the very slow growth

was of

monetary gold were: (a) The price of gold was kept fixed from 1934 to 1971 at U.S.%35 per ounce, while, in the meantime, the costs of its production rose several-fold and most gold-mines in the world were depleted. As a consequence, practically only South Africa, with its rich gold-mines, and to a smaller extent, the Soviet Union, could afford to mine gold at that price. (b) Because of the comparatively low .price of gold and its use in recent years in electronics, an increasing proportion of the annual production is being absorbed for industrial and artistic purposes.’ (c) Demand for gold from the traditional hoarding countries of the Middle and Far East, has continued to rise.* (d) Speculators absorbed substantial quantities gold especially during the years 1965 to 1968.9

of

3. THE SECOND CONTRADICTION: A ZERO-SUM DYNAMIC GAME’

3.1. The second contradiction of the gold exchange standard is a corollary of the fist one: the widening gap created by the inadequate growth of monetary gold, on the one hand, and the secular growth of international trade which necessitated a parallel growth of reserves, on the other hand, had to be filled by the reserve currency by way of increasing deficits in the balance of payments of the reserve-currency country-U.S.A. in the post-war period. The consequences of such deficits were to reduce the CJ.S.‘s gold stock from $22.8 to $11.1 billion (1950-70), and to increase its official liabilities from $4.4 to $23.9 billion.‘O These, in their turn, weakened U.S.‘s ability to honour its obligation to convert the dollar into gold, and ultimately led to the suspension of such convertibility and the collapse of the system. 3.2. One may, however, currency country, should

wonder why the necessarily sustain

reservebalance

in the long run balance his external accounts

would

and the only thing needed would be temporary facilities like those offered by the I.M.F. to tide over short-term deficits. 3.4. In real life, however, the zero-sum game of international payments is a dynamic one, in which, first the players have unequal competitive strength and second, whereas the winners board their gains, the losers take measures to reverse their losses into gains by currency devaluation, by direct and indirect curbing of imports, foreign aid, foreign services, foreign investments and other capital outflow and by boosting exports. In such a game, alJ countries other than the reserve-currency country thus manage, in the long

run,

surpluses

to

have

either

overall

because

balance-of-payments

they

are

competitively

stronger than the reserve-currency country or because they become stronger through the measures just mentioned, which the reserve-currency country, owing to promptly-for so

its

easily.

position example,

Since

we

as such, cannot take so it cannot devalue its currency assume

a

zero-sum

game,

balance-of-payments surpluses for the countries other than the reserve-currency country necessarily entail corresponding deficits for the latter. 3.5. These consequences of a zero-sum dynamic game are intensified if the game becomes a negativesum one, as was the case during the last five years when the global official gold holdings actually fell. 3.6. The above-described trends are reinforced by the following consequential factors: First, the reserve-currency country is usually a rich mature industrial country which disposes of large savings seeking profitable investments. As long as its currency is acceptable by other countries as a reserve asset, such a country falls into temptation and allows its capital to be invested abroad in quantities much in excess of its balanceof-payments potentialities. Actually in the past 11 years (1960-70), during which the U.S.‘s official net reserves (after deducting official liabilities and SDRs) declined billion, their ‘Direct Investments Abroad’ to $30.4 billion.‘l Second, same time

by $21.7 amounted

the reserve-currency country being at the a ‘world power’, it is likewise tempted to

incur excessive overseas military increasing its balance-of-payments

6. See International

Financid

expenditure, thus deficits further.

Statistics,

April 1960

and

January 1972. 7. See I.M.F. Annual paragraph 13.2, below.

Report,

1971,

p. 146.

See rlso

of payments deficits. To reply to this question, we will assume that no new gold enters the international monetary systemwhich, after all, is not far from the truth. Then, that system becomes practically a zero-sum game: the global balance-of-payments surpluses equal the global deficits.

10. See lntemntional October 1972.

3.3. If all the players in such a game had an equal probability of winning or losing and were ready to accept both gains and losses stoically, each player

11. See L:S. Survey of Cunent Business. June 1971, p. 32, line 39, and International Financial Statistics. February 1968 and December 1971.

50

8. ibid. 9. ibid. Financial Statistics,

April 1960

and

World Development

During 1960-70 the U.S.‘s ‘Direct Defence Expenditures Abroad’ totalled $40.4 billion. 1 2 3.7.

It might,

however,

be asked

whether

this order

of things might not, after all, change following the Smithsonian Currency Realignment of 18 December 1971, which was hailed by President Nixon as ‘the most significant the world’.’ 3 3.8.

monetary

In the absence

agreement

in the history

of a fundamental

reform

of

of the

adequate

working

capital,

proportional

of their foreign transactions; (b) the precautionary motive-to

to the volume create

strikes, war or other emergencies. (c) the deferred-investment motive-to keep tions

at home or abroad; and, last but not least, (d) the prestige and power motive-to

nothing

of

international

than a readjustment trade competition.

of handicaps

in

Such a readjustment

may very well give the U.S., after a time-lag of a year or two, a better chance of winning. In the context of a ‘zero-sum game’, however, the prospective balance-of-payments necessarily create ments of other turn, inevitably

surpluses corresponding

of the deficits

U.S.A. in the

will pay-

countries. Such countries will, in their take the measures envisaged in para-

graph 3.4 above, in their attempt to protect their balance*f-payments positions and regain their surpluses. The result will then be the adoption of ‘beggar-my-neighbour’ policies and the drift towards world economic stagnation.

the

ACCUMULATE

4.1.

It is evident

from

OF ALL COUNTRIES TO FOREIGN RESERVES

the foregoing,

that

exchange standard can no longer serve national economy and that a fundamental the international

reserve

system

the gold the interreform of

is long overdue.

Before considering any reform scheme, we must inquire why do all countries increase their reserves?

however, strive to

4.2. It is a well-known phenomenon that all developed countries have the propensity: fo export (goods and services) more than they import; thereby realize current-account to

and

country’s

wealth

keep

in international

pan

reserves,

which enhances the feeling of being financially strong and independent. Balance-of-payments surpluses, which increase the reserves, are seen as the prize of success in the international trade contest which the winners are loath fo part with; on the other hand, deficits which reduce the reserves, are felt to be a sign of failure, restrictive 4.3.

which the losers hasten measures.

In this connexion,

country reserves strive

it should

to reverse by taking be stressed

that

no

is satisfied with only the minimum volume of required as ‘working balances’; all countries to

accumulate

more

reserves

rhan

that

minimum. This is true not only for the rich countries but also the poor countries, which refrain from using all their foreign earnings in the purchase of badly needed

4. THE PROPENSITY

create

reServes pending better opportunities or condito spend them on national needs or investments

international monetary system, such as the one proposed here, the currency realignment by itself is more

and keep

reserves to be used in case of adverse eventualitiessuch as balance-of-payments deficits, flight of capital,

imports,

for

the

sake

of

satisfying

their

‘propensity’ to increase their reserves. Thus, in the past decade (1960-70), ‘the Less Developed Areas’ increased their reserves from $9.4 to $18.2 billion.14 4.4. Each country’s volume of reserves appears to have a strong positive correlation with both its imports and GNP. This is confumed by my calculations of the coefficients of correlation between reserves and imports and reserves and GNP for all countries of the O.E.C.D., with the exception of the U.S.A., the U.K., and Switzerland which are special cases (the first two as reserve-currency countries and the third as a deposit-banker for citizens of other countries), shown in Tables 1 to 5 at the end of this paper, and which have given the following results: 1 5 Coefficients

of correlation

between

average

reserves and average imports for the years 1959-61 for the years 1968-70

0.919 0.938

Coefficient of correlation between the increments of average reserves and the growth of average imports between

the years 1959-61

and 1968-70

0.939

12. ibid., line 17. 13. See The Times, 20 December 1971, p. 1. 14. See international bhmcial

Statistics,

February 1968 and

January 1972. 15. The figures of Tables 1 to 5 were taken from the sources in note 14 and from the National Accounts of O.E.C.D. counfries, 1950-1968. 1 Nos. 3 & 4

51

.

of correlation between

Coefficient

the average

The

reserves and average GNP (at current prices) for the years 1959-61 for the years 1966-68 4.5.

0.853 0.852

The above correlation figures signify that: (a) the volume of global reserves tend to be shared

by all countries-or at least by those of whom the sample of O.E.C.D. countries is representative-more or less in proportion to each country’s value of imports and GNP fat current prices). (Tables l-4.) (b) the increments of global reserves tend to be diffused among all countries more or less in proportion 4.6.

to each country’s growth of imports. That, however, does not mean that

(Table 5.) the global

reserve increments in the past decade were fully proportional to the growth of global imports and GNP. In fact, Table S shows that between the years 1959-61

and

1968-70

reserve

increments

corres-

ponded to only 21.1 per cent on the actual growth of imports, and the ratio of aggregate reserves to imports thus fell from 43.3 per cent in 1959-61 to 29.7 per cent in 1968-70. Yet, this less-than-proportional increase

of

the

ratio

of

reserves

to

imports

was

obviously due to the reduced supply of global reserves rather than to the fall in the demand for reserves. Actually the global reserve increments were in the past two decades created mainly by the balance-ofpayments

deficits

of

the

reserve-currency

country

(U.S.A.); and-with the exception of the massive outflow from America of speculative capital during 1970 and 1971-they were not sufficiently large to satisfy fully all the other countries’ demand for reserves; as the I.M.F. Annual Report for 1969 remarks (p. 27): ‘a case can be made for the view that by 1968 global reserve ease had not only been declining for a number of years but had also become less than adequate.’ 4.7.

The inference from the foregoing (a) all countries have a strong

is that: propensity

first

issue,

totalling

U.S.$3.4

billion,

was

allocated on 1 January 1970, and the second and third allocations, of about $3 billion each, were made on 1 January 1971 and 1972 respectively. 5.2. In principle, the issue of SDRs is an historic

to

progressive innovation which should be welcome. That, however, ought not to prevent us from pointing out their drawbacks and making suggestions for putting them on a sounder basis. Special Drawing Rights, in the way in which they have been issued, do not appear to fulfil their purpose, which was ‘to promote the attainment of the I.M.F.‘s purposes’, one of which was ‘to facilitate the expansion and balanced growth of international trade and to contribute thereby to the promotion and maintenance of high levels of employment and real income and to the development of the productive resources of all the members economic policy’. l7

as primary

objectives

of

5.3. Their first drawback is that, according to their conditions of issue, they should be convertible into currencies ‘convertible in fact’ into goldl* and that if any participant

would,

at any time,

withdraw

from

the scheme, the Fund was obligated to give it gold or ‘currencies convertible in fact’, in exchange for the SDRs it was then holding in excess of its cumulative allocation.’ 9 Following the coilapse of the gold exchange system, however, the SDRs’ convertibility and repayability have become meaningless. 5.4. So long as SDRs were, even contingently, repayable in gold, their allocation in proportion to each country’s quota in have been justified. convertibility is dead, ‘new-year presents’ inequitable way-much

the I.M.F. might conceivably Now, however, that goldSDRs have become mere distributed in the most to the rich and little

to the

poor. 5.5. Their serious drawback, however, is that they are not ‘earned’ through international trade which was the only way to fulfil their above-quoted official purposes.

accumulate reserves in amounts having a more or less close relation with the growth in the value of their imports and their GNP (in current prices); and (b) in a world of growing international trade and

5.6. It may, however, be wondered how it happened that the devisers of SDRs overlooked this crucial point. The answer can I think be found if one

GNP, an indispensable condition for the efficient working of the international monetary system, is a secular growth of global reserves, more or less commensurate with trade and GNP growth.

analyses carefully the following syllogism on SDRs contained in the I.M.F. Directors’ Report on the Reform of the International Monetary System (p. 8) published in August 1972:

5. SDRs AND THEIR DRAWBACKS

5.1. The Special Drawing Rights (SDRs) have been issued by the I.M.F. in order ‘to meet the long-term global need . . . to supplement existing reserve assets in such manner as will promote the attainment of the I.M.F.‘s purposes and will avoid economic stagnation and deflation as well as excess demand and inflation in the World’.16 52

16. Article XXIV, Monetary Fund.

17. ibid., Amck

Section

l(a)

of

the

International

I (ii).

18. ibid., Article XXV, Section 4 and XXX11 (b). 19. ibid., Schedule

H and Article XXX, Section

5.

World Development

‘With few exceptions countries feel more comfortable with an overall balance-of-payments surplus than with an overall deficit. ‘In so far as this attitude reflects a general desire of countties for rising reserves it should be possible to meet this desire by an appropriate amount of global reserve creation in the form of SDRs without the need for reliance on some countries to run payments deficits to accommodate the reserves needs of others.’ (Italics have been added.) 5.7. The first of the above two propositions is I think valid, as it agrees with the observed facts. Actually, it is not very different from my formulation of the countries’ ‘propensity to increase their reserves’ (in

paragraph 4.2 above). The validity of the second

proposition,

however,

on which the issue of SDRs as grants has been based, hinges on the hypothesis that the countries’ preference for balance-of-payments surpluses their desire to increase their reserves.

reflects

only

My own hunch is that an overall balanceofpayments surplus in a market-economy country is not the result of that country’s authorities’ desires and actions

alone,

but

the resultant

of numerous

desires

6. THE PRODUCTIVE VERSUS THE STERILE WAY OF REPLACING

6.1.

As we

sau’

GOLD

in paragraph

4.2

there

is a close

analogy between a person’s propensity to save and a country’s propensity to accumulate foreign reserves. My further thesis is that it is in the interests of the world economy that countries should earn their reserves rather than receive them as grants, in the same way that it is in the interests of a national economy that persons should earn their savings rather than receive them as a gift. 6.2. It is now a commonplace that in a modern economy the ‘propensity to save’ is un instrument of as it puts-usually-through the banking growth, system

goods

produced preneurs’ borrowed ‘multiplier

and

by the who are money. effect’,

growth in a national 6.3. In pm-banking

services

equivalent

to

those

savers at the disposal of ‘entrewilling to make ‘investments’ on Such investments, along with their are the means of development and economy. economies,

however,

the

and actions in the country’s business, personal, and public sectors. As is known, the business sector in

pensity to save’ was satisfied gold and silver. To the extent

every developed country is striving hard to maximize its sales both at home and abroad in order to realize economies of scale and raise its productivity and profits. On the other hand, the members of the personal sector have the propensity to save part of the income they derive from the business sector as wages, salaries and dividends. The combined effect of these tendencies is that the personal and business sectors ‘feel more comfortable’ when their country realizes current-account balance-of-payments those surpluses are the surpluses because, first,

took such a form, no goods and services equivalent those savings would be available for ‘investment’,

manifestation international and business

of the business

sector’s

success in the

trade contest and, second, the personal sectors combined gain financial surpluses

and increase their financial assets as a counterpart the country’s increased reserves. Therefore,

countries’

preference

for

of

balance-of-

payments surpluses reflects not only their authorities’ desire for rising reserves but also their business and personal sectors’ desire for currentaccount payments

surpluses

which

obviously

cannot

be

satisfied simply by a grant of SDRs to their monetary authorities. 5.8. The foregoing analysis leads us to the conclusion that

the

above-quoted

syllogistic

inference

is not

valid, and that an important role in the developed countries’ propensity to increase their reserves is played by their business and personal sectors, whose desires could be satisfied only if the SDRs were earned by their countries in exchange for increased exports of goods and services. It looks as though the ‘Group of Ten’, the devisers of SDRs, were led astray by a similar invalid syllogism. 5.9. The above analysis also explains why developed countries with large reserves continue unabatedly their drive to export more than they import and resent running current-account payments deficits. Vol.

1 Nos.

3 &4

‘pro-

by hoarding-mostly that current ‘savings’

they would be exchanged, directly the imported gold or silver-assuming

to as

or indirectly, for that these were

not produced at home. 6.4. Let us now suppose that one such country, finding itself unable to get any more gold from abroadlet us say, the gold-mines had been because, exhausted-decided to issue ‘paper gold’ to satisfy its people i ‘propensity to save ‘. If such ‘paper gold’ were to be distributed as a gift in proportion to the gold which each family used to save every year, the result would be that the goods and services equivalent to the savings, previously exchanged for the imported gold, would become redundant and, in the absence of a credit system, they could either be consumed by their producers . themselves or wasted. 6.5. If, however, the government of the country issuing the.‘paper gold’ wanted to develop the country, they would, instead, get their people to ‘earn’ the paper gold into their savings, for example, by setting up a credit establishment to issue long-term loans in paper gold to any enterprising some new industries at home. hand,

the people

persons willing to start In that way, on the one

who had a propensity

to save would

sell their spare goods and services directly or indirectly to the new ‘entrepreneurs’, in exchange for the paper gold; on the other hand, those goods and services would be used in new investments for the development

of the country.

6.6. The analogy of our imaginary pre-banking community wanting to introduce ‘paper gold’ to satisfy its people’s ‘propensity to save’ with the contemporary world community wanting to do the same to satisfy all the countries’ ‘propensity to accumulate reserves’ should, by now, be clear. Equally clear should be the moral drawn from this 53

analogy:

SDRs

namely, activity by

can

‘expansion

fulfii

their

developed

development

as grants

purpose

of

remain

countries

exports

allocated

developing extent

by

such

to the developed

of employment, on the other

increased SDRs;

SDRs

countries are

for the

instance,

to

development

incomes, exports hand, SDRs granted

or

only

thirty-two

months

of

of SDRs during

their

life (up

1972)* 1 proves the above point. (a) Out of the global allocations the the

to

more

employment,

31 August

the whole

of SDRs during

their The

SDRs

industrial

amounting

countries,

to $2,877

who

million,

have kept all their SDRs unused, with the exception of only $11 million used by Denmark. (d) The remaining SDRs, amounting to $3,138, were allocated to 99 non-industrialized countries who used

only

one-third

of

them

($1,037

millionj

in

payment of imports. The other two-thirds of their allocations ($2,101 million) have not been used so far, with

the exception

of $169 million,

which

may

be considered as having enabled their holders to use part of their other reserves. For example, Pakistan’s reserves at the end of 1969 amounted to $324 million, but by the end of August 1972 they were reduced to $265 million, including SDRs 36 million. In this case, it may be argued that the latter SDRs enabled Pakistan to use an equivalent amount of her other reserves and that they halve therefore played the same role as if they were actually used. (e) Summarizing the above, we find that of the $9,315 million SDRs issued during the past three years: 77 per cent ($7,184 million) remained economically sterile; 13 per cent tively; and

($1,217

million)

10 per cent ($914 mi!lion) of their recipients’ financial 54

were

used

produc-

were used in payment obligations.

SDRs

demand

1968-70,

incomes

would

and

ultimately

have

in proportion

to

with

the and

above. for develop-

and services would have fulfilled their main purpose and would have contrithe

realization

too-exchange stagnation,

been

19.59-61 4.5(b)

in

to each

as was done

between

have

exports

ejfects.

the issue of SDRs in exchange

ment goods abovequoted

and

countries

multiplier

them,

created

would

developed

as we saw in paragraph

Thus,

buted

tbe

the world for

reserves

employment, countries,

of the above

into

with further

throughout

country’s

world, nor to have in any way mitigated the 1971 dollar crisis. (b) Britain’s total SDR allocations were $1,006 million, of which $423 million were used in payment of her obligations to the 1.M.F. The remaining SDRs have augmented her reserves, but such augmentation does not appear to have increased employment,

world,

TtJe

diffused new

remainder ($1,803 million) have been added to the U.S.A.‘s reserves. Such addition, however, does not appear to have promoted economic activity, trade, or development, either in the U.S.A. or in the rest of the

allocated

effect

creating

$491 million were used in payment of obligations to the I.M.F. and other countries.

incomes, or exports, at all. (c) The remaining twelve

multiplier

to the

the first

to the

World.

imports

years 1970-2, amounting to $9.315 million,** U.S.A. received $2,294 million. Of these, only

were

The

(ii)

(iii) performance

in the Third

more

their

issued

to equivalent

in the developed

induced

that they are used by them for increasing

The actual

rise

and exports

to

imports. 6.7.

all the SDRs had been

have given

conducive

will be productive

liable

If, instead,

developed countries in exchange for goods and services supplied to the Third World for development purposes, the result would have been quite different: (i) All the $9,315 million SDRs would, in the first incomes

reserves i.e., not

sterile,

countries

6.8.

to

their

economically

purpose,

economic

through

financed

increasing

any growth development;

main

trade,

only if they are earned

and development’,20

the

jkt

of international

stability,

of

their

other

avoidance

of

purposes economic

etc.

7. THE BEST, REALISTIC, NEW SDRs (or IRUs)

WAY OF GETTING EARNED

7.1. If the foregoing thesis is sound, the next question is: What is the best, realistic, way toget the new SDRs

earned

by the

countries

wanting

to increase

their reserves, thereby contributing to the growth of international trade and the deveIopment of the productive resources of the whole world? 7.2. Having regard to what we have ascertained so far, I venture tentatively to put forward the following scheme: (a) New SDRs-to which, jb~ dijyerentiation purposes, Units’

I will give

the name

‘International

Reserve

fIR Us&-will

be issued by a Special Department of the I.M.F. to those members of the Development Assistance Committee (D.A.C.) (now comprising the 16 richest countries23

nations) of the O.E.C.D. and any other who will agree to participate in the

20. This is how the I.M.F. Managing-Director summarized the first objecti,ve of the SDRs in his Report to the Governors in September 1969 (see International Resemes -~ Needs and Availability, I.M.F.. 1970, p. 493). 21. See Intemntronal Financial Staristics, October 1972, p. 7. The figures of SDRs used, quoted above, differ somewhat from the totals shown on p. 7, because the latter are net totals, whereas mine are dggegnre totals. 22.

All

$

figures

in

this

paper

ue

pre-Smithsonian

U.S.

dOkUS.

23. LDCs that are in a position to contribute to the development of other LDCs could participate as lenders, provided that the loans are denominated in the convertible currency of a developed country. Such participation should not prejudice the lending country’s right to borrow under the IRU scheme for its own development. World Develupment

scheme,

against the discount

of ‘eligible’24

bonds

guaranteed, by governments to them, or less developed countries (LDCs) in connexion new development loans. Such loans should be additional development country

assistance

and should

(i) the supplied

to the

due of with

official

level given in 1971-2

by each

cover:

cost of goods and services by the lending country direct

for a development

project

currently to an LDC

or programme;

(ii) the local expenditures

and

of such project

or pro-

gramme. Thus,

part

and part,

of the loan in foreign

will be in goods

exchange,

which

and services

will enable

the

borrowing country to pay for the imports to be induced by the local expenditures needed for implementing the project or programme for which the loan is given. The lending country will then be credited by the I.M.F. with IRUs equal to the full value of the discounted bond less a small commission. (b) The lending county discounting the bonds with the I.M.F. will act as a guarantor of such bonds. (cl The debt under these bonds will be, like the National Public Debts, a ‘funded’ debt, on which only the

interest

will

be

annually

payable-without

amortization. (d) Such bonds will be currency of the lending county

denominated in the and will bear interest

at a uniform low rate, say, 3% per cent p-a. payable annually by the borrowing country to the I.M.F., and in case of default, by the guarantor. On the other hand, the I.M.F. will pay interest at, say, 3 per cent to the holders of IR Us. (e) Participant countries, which will include both lenders and borrowers as well as other countries, will undertake- to accept IRUs as a medium of international payments, unconditionally. cf, The IRU will be the common denominator of all currencies; its unit value will be fixed equal to the average parity value of one currency unit of all the participating

lending

countries

on the D-day.

On the

basis of the parity (or central) rates ruling in February 1972, one IRU would be equal to U.S. $0.4685, or Dh11.5097,or 4ZO.1798,or FFr.2.3967. (g) All countries will be able to devalue or upvalue their currencies against the IRU, in the same way as they do at present I.M.F. Article IV.

against

gold,

in accordance

with

(b) IRUs will be used as a reserve asset, side by side with gold, but they will not be obligatorily convertible

into gold.

8. BILATERAL

IRU SCHEME VERSUS

SDRs MULTILATERALLY

LINKED WITH

DEVELOPMENT

8.1. The fundamental scheme and the present Vol. 1 Nos. 3 & 4

differences between my 1RU SDR system are that, whereas

SDRs are allocated virtually as grants to all the countries in proportion to each one’s 1.M.F. quota, of which, as we saw in Section 6, only being used for ‘productive’ purposes:

13 per cent are

(a) all IRL’s will be issued to the developed countries; (b) such issue will be against a valuable consideration-goods, services and foreign exchange; and (cl all such consideration development purposes.

will

go to LDCs for

Thus the issue of IRUs will, in the first instance, give rise to equivalent exports of goods and services from the developed to the developing countries, to be followed induced

by further growth of international trade by the ‘multiplier effect’, thereby fulfilling

the original international ment’.

object of SDRs, trade, economic

namely, activity

‘expansion of and develop-

8.2. The main points of differentiation between the IRU scheme and other proposals for linking SDRs with development2 5 are, besides the above, that: (a) all the IRUs will be linked with development; (6) the link will be through bilateral loans rather than through multilateral-institution loans. The first point over the hitherto

is obviously demanded

a very great advantage SDR multilateral link,

the extent of which, if it were ever accepted by the developed countries, would not amount to more than a fraction of the global issue of SDRs. The second point may, on the face of it, appear to be a disadvantage. Before considering, however, the advantages and disadvantages, if any, of the bilateralism of the IRU scheme, we should inquire into the chances that an SDR fully multilateral link system has of being adopted by the developed countries. 8.3. The post-war history of official foreign aid shows that the industrial developed countries overwhelmingly prefer bilateral rather than multilateral and ‘tied’ratber than ‘untied’aid. This is evident from the following

facts:

(a) The famous

‘Marshall Plan ‘, at the end of the

1940s and beginning economy of Western ‘tied ‘.

of the 1950s which restored the Europe, was wholly bilateral and

(b) During the last few years, about 95 per cent of the American official foreign aid has been bilateral (of which

86 per cent was in goods and services

per cent in dollar

currency)

24. See the ‘eligibility’ conditions

and only

and 9

5 per cent

was

in paragraph 14.8.

25. See. for example, the proposal of the UNCTAD Expert Group on International Monetary Issues in their Report Intematronal Monetary Reform and Co-operation for Development (TDIB/tSS), U.N., 1969. p. 14: ‘One method [for implementing a link with development aid1 would involve an amendment to the Articles of Agreement of I.M.F. to permit the direct contribution of SDRs bYy the developed countries to I.D.A. out of their allocatzom. The other method would involve contributions in national currencies by the developed countries to I.D.A. in proportion to SDRs annually allocated to them. ’ 55

.

‘multilateral untied’ aid through international and regional credit institutions.26 (c) Also, British aid in last has been about 90 cent bilateral and presumably ‘tied’ and only 10 per cent multilateral.27 (d) The Commission on International Development makes the following remarks in its Report: ‘The of aid to purchases in the aid-giving tying spread a contagious fashion in the country. . 196Os, than

and

untied

aid

now the

rather

8.4. of the above, I believe that of a fully-multilateral SDR-development

the chances link being

adopted by the developed countries in the near future are rather slight.29 On the contrary, a bilateral system such as the one proposed here should have much more chance of being accepted by the parties, since, besides its other advantages, it is based on the existing practice of official bilateral assistance, the extension Strategy ment.

of which

to

the

of Development30

target

set

by the

it is intended

8.5. The IRU system described above, bilateral, should not have the disadvantages aid for the following reasons:

U.N.

to implethough of tied

(a) As mentioned in paragraph 7.2(a), part of the loans under this system will be in foreign exchange intended

to enable

the borrowing

country

to pay for

the imports induced by the local expenditure of the project or programme. This part of the loans will be ‘untied’ and will therefore, though bilateral, have all the advantages of multilateralism. (b) The main part of the loans, which will cover the cost of goods and services directly supplied by the lending country, will of course be ‘tied’, though, for the reasons given below, they should not be expected to have the disadvantages of ‘tied aid’. 8.6. As reported by the Commission on International Development31 the main disadvantage of tied aid is that the ‘direct costs . . frequently exceed by 20 per cent’ competitive market prices. This, I believe, is due to the fact that bilateral aid has the taint of charity which gives, on the one band, to the donor the sense of superiority which enables bim to dictate the terms of the deal, and, on the other band, to the recipient the feeling of inferiority which prevents him from bargaining those terms. Under the LRU system,

however,

and especially

when it is well established, the said relationship will evolve into one of a seller, on the one hand, who is paid for his goods and services ‘in cash’ (IRUs), and of a buyer, on the other hand, to whom easy financial terms are extended by the I.M.F. rather than by the seller, and who is free to bargain the terms of the transaction and to compare them with those of alternative suppliers. Under this new relationship, the suppliers will have to charge international market prices raised only by a certain margin to cover their guarantee obligation32 and their other special costs of the transaction. 8.7. Furthermore, the IRU scheme is expected to 56

have certain definite advantages over the SDR tiltilateral link system: (a) Under the IRU scheme countries with spare productive

the deficit developed capacity will be able

to take the initiative and increase the official bilateral development assistance which they already provide, thus gaining, and second,

first, the trade surpluses they long for, the IRUs they need. Under the SDR

multilateral link system, however, the chances would be that most of the SDRs (or the equivalent foreign exchange) loaned out by I.D.A., would be gained by the more competitive surplus countries. (b)

Under

the holders

the

IRU scheme,

of IRUs-which

interest

payment

to

is of course

essential

for

the efficient operation of the system-is secured by the guarantee on the part of the developed country presenting the bond to the I.M.F. for discount,33 as is usual in domestic discounting business. Something similar would apparently be difficult to do in connection with the multilateral link system. (c) Under the latter system, the I.D.A._‘s and other Development Banks’ administrative Regional expenses, amounting perhaps to 1 per cent p.a. on the loans34 would either increase the interest charged on the loans or reduce the interest payable to the holders of IRUs. Under the IRU bilateral system all the preparatory work for the development projects and programmes will be done by the developed countries issuing the loan, and even if the expenses involved were to be added to the price of the goods and services supplied, the LDC would have to pay only the annual

interest

thereon.

26. See U.S. Survey of Current Business. June 1971. Table 5, p. 40. Total U.S. official foreign aid in 1970 amounted to $5,05Om, of which $4,348m were ‘transactions involving no direct dollar outflow from the U.S.‘, while $702m involved dollar payments, of which 9234m were ‘capital subscriptions to international and regional organizations excluding I.M.F.’ 27. See U.K. Balance of Payments, 1971, Table 43. p. 46. Total U.K. official economic aid in 1970 amounted to &219m, of which only EtOm was multilateral through the I.D.A., the Asian Development Bank or other agencies. 28. Partners in Devefopment (the Pearson Report), Pall Mall Press, London 1969, p. 172. 29. ‘. . . the idea [of a link between SDRs and development aid! was generally unwelcome to industrial countries who felt that . reserve creation should not provide a back door through from

which aid-giving could be freed, in some measure, the restraints of pnrliammrary control over

expenditure.’ Quotation from Pierre-Paul Schweitzer. ‘New arrangements to supplement world reserves and their implications for the developing countries’, fncemationnl Financial News Suruey. 15 December 1967, p. 418. 30. See Section 14. 31. Partners in Development. p. 172. 32. See Section 33.

See paragraph

10. 7.2(b)

34. See World Bank and 80, 82, 94 and 95. 1971 total balances, 98.562m.

and Section

10. pp. 3, $2,48Zm:

I.D.A. Annual Report, 1971, expenses.

976m;

loans,

World Development

(d)

Last

but

not

the developed

least,

would under the IRU system in the development of the under

the

SDR multilateral

be mere sleeping but

taking

partners,

no active

countries

become active partners Third World, whereas link system

supplying

they

would

only the capital

part in the development

effort.

THE IDCs’ DEBTS

The

errtiating financed debts,

second

main point

of my scheme,

it from others, is that by IRUs will be in the

on which

will be payable,

differ-

the loans to be form of ‘funded’

only interest at, say, 3% per cent p.a, without annual amortization. Such a

proposal may, at fist sight, appear rather unorthodox. In fact, however, it is simply an extension of a system prevalent in all domestic economies. 9.2. If we take a look at most national monetary systems we will see that they are all backed by funded public debts, which are in fact permanent debts, although part of them is technically ‘unfunded’. At the end of 1970: l (a) The U.K.‘s ‘reserve money’-currency in circulation and commercial banks’ deposits with the Bank of England-amounting to 164.7 billion, was wholly backed by U.K. Government securities;3 5 (b) the U.S.A.‘s ‘reserve money’, amounting to $81 billion, was backed by $69 billion worth of claims on the U.S. Government, $11 billion in gold, and $1 billion (part of) I.M.F. gold tranche position.36 9.3. As is well known, national monetary and banking systems are based on the statistical law of large numbers in spite behaviour.

and the constancy of the society’s bebaviour of the unpredictability of individuals’

In this connexion, although individuals’ savings are ‘liquid’, the savings of a modern society, as a whole, are permanent and ever growing. Therefore, the counterpart-or ‘backing’-of a society’s savings may very well be permanent and ever growing, too-as they

actually

9.4.

The

are in all modern

same

applies

also

societies.

to

international

liquid

savings in the form of monetary reserves: they too are permanent and perennially growing, and tberifore their liquidity will not be harmed if their ‘backing’ consists

of permanent

and growing funded

9.6.

In the case of the

will

be

LDCs’ funded

counterpart

obviously be thereto-debtors,

of resources

of

the

never replace debts,

IRUs,

more convenient guarantors and

towards

the industrial

eased. How unbearably be, should the present

it

for all I.M.F.-if

which would parties their

tinue,

IS shown

countries,

will be

heavy this burden will shortly system of amortization con-

by the following

quotation

from

the

Report of the Commission on International Develop ment:37 ‘If the flow of new lending were to remain at the level of 1965-7, with no change in its composition,. . . by 1977, debt service [interest and amortization] would considerably exceed new lending’: e.g., East Asia’s debt service will be 134 per cent of new gross lending, Africa’s 121 per cent, Latin America’s 130 per cent, Europe’s 109 per cent and South Asia’s and the Middle East’s 97 per cent. 9.8.

It should

be realized

that it is equally

unrealistic

and a ‘fallacy of composition’ to contemplate the eventual redevnption of the debts of all the LDCs as a whole template

to

the

industrial

the redemption

countries,

as it is to con-

of internal

public

debts.

In

either case, such redemption would involve a largescale reverse flow of resources-in the former, from the poor to the rich countries, and in the latter from the taxpayers to the savers-which, if ever attempted, would create severe deflation and chronic economic depression. Those who may doubt, should look back to the reparations imposed on Germany after the First World War. For the fist five years Germany paid the reparations to the Allies with money borrowed from the U.S.A. In 1931, however, when the U.S.A. wanted its money back, the whole of Europe virtually went bankrupt, and the U.S.A. had to proclaim in June 1931 the famous ‘Hoover Moratorium’ which, inter alia, put an end to the German reparations, though too late to avert the advent of Hitler.

debts. 10.

9.5. The funding of public debts is done either with fixed redemption dates or with indefinite redemption dates, like British ‘undated’ funds, such as ‘Consols 2.5 p-c. 1923 or after’, ‘War Loan 3.5 p.c. 1952 or after’, etc. Both ‘fixed-dated’ and ‘undated’ public funds are in fact permanent loans; the only difference is that, in the former case, the public authorities have to make, on the fixed redemption date, a new issue, at the ruling interest rate-which may be higher or lower than that of the original fund-whereas in the case of ‘undated’ funds, on which the interest payable is Vol. 1 Nos. 3 & 4

the

need

redemption dates were made indefinite-for example, ‘2000 or after’, thus obviating the need for renewal. 9.7. By funding the LDCs’ debts to be financed through the IRUs, the already heavy debt-service burden of the LDCs, which necessitates a reverse flow

9. THE CASE FOR ‘FUNDING’

9.1.

usually very low, the authorities them by a new issue.

GUARANTEE

OF THE INTEREST

ON DEVELOPMENT

PAYMENTS

LOANS

10.1. The third main distinguishing point of my scheme is the guarantee of the discounted bonds by tbe lending

countries

35. See International 349. 36.

ibid., p. 355.

37.

Partners

in

receiving

IRUs in exchange

Financral Sratistics, January

1972,

for

p.

Development, p. 74. 57

those bonds. As is known, such a guarantee banking business whenever the payee discounts it in exchange for cash.

is usual in of a bill

the principal, and second, they will be denominated in national currencies which are subject to a secular tendency to depreciation and devaluation.

A similar guarantee is suggested in the case of the bonds that will back the IRUs, in order to secure the 11. PARITY

CHANGES BETWEEN

payment of the interest due on such bonds and enable the I.M.F. in its turn regularly to pay the holders of IRUs the interest due to them. In practice, as most of the IRUs will ultimately be held by the developed countries, the latter will at the same time be guarantors and beneficiaries of the interest on such IRUs. So, such a guarantee is to a great extent in the interest of the developed countries themselves, and it is of course indispensable for the smooth working of the system. 10.2. As is mentioned in paragraph 8.6, the suppliers of goods and services will in practice tend to raise their prices by a certain margin to cover the risk

the Fund the difference, initially in its own currency, and eventually in an acceptable convertible currency,

undertaken by them by this guarantee. This price rise, however, is not expected to be significant and in any case what the debtors will have to pay is only the interest on such a rise.

in gold, or in SDRs. In case of upvaluation, the Fund refunds the difference to the country concerned.38 11.2. In the case of IRUs, the question will arise as to who has to pay the difference and how. Can the

10.3.

Fund

ally

The risks under such guarantees be

pooled

under

insurance schemes. margin mentioned

ad

hoc

could eventu-

regional

or global

In such a case, the price-rise in the previous paragraph will

equal the insurance premium. 10.4. A problem will, however,

arise with

the very

poor LDCs, which will be a ‘poor risk’ for such insurance. It would be too bad if the very poor LDCs, being

a ‘poor

risk’,

were

either

by-passed

‘by the

developed countries or burdened with higher prices. The solution of this problem would obviously lie in relieving the very poor LDCs from the payment of interest on their development loans. Thus, the very poor LDCs will become the very best clients of the developed countries as the goods and services supplied to them will be paid for in ‘cash’ (IRUs) without any risk on the part of the suppliers. If the principle of relieving the very poor LDCs of obligations is adopted, their interest-payment provision should also be made for border-line cases for which it would be fair to fix a lower inrerest rate than the normal one. 10.5. In order to accommodate the cases of the very poor LDCs as well as those on the border-line, it would be necessary that the normal interest payable to the I.M.F. on the development loans under the

NATIONAL

CURRENCIES

AND IRUs

11.1. As national currencies may be upvalued against IRUs, provision should

devalued or be made for

compensating the I.M.F. for its loss on bonds payable in devalued currencies and also for adjusting the difference due to a currency upvaluation. For similar cases, the I.M.F. Articles provide that, if a country which is a debtor to the Fund for drawings devalues its currency, that country has to pay to

claim such difference

If the

loans

were

from the debtor

in terms

of IRUs,

country? the debtor

would obviously be liable to pay the devaluation difference. In the scheme envisaged above, however, the development loans will be, as usual, in terms of the lender’s currency. Therefore, the debtor cannot be held liable for any exchange difference between , the currency in which its loan was expressed and the IRUs received by the lender against the discount of the debtor’s bond, especially since the devaluation decision is taken by the lender itself. The inference, therefore, is that the lender and guarantor which received the IRUs and which is now devaluing its currency against the IRU, has to make up the devaluation difference to the Fund. 11.3. Since the original debt against which the IRUs had been issued was, as contemplated above, a funded debt, it is only fair that the difference should also be paid in the same way, by a bond signed by the lender/guarantor bearing the same interest and having the same maturity as the original bond. Thus, the actual burden to the devaluing country will be only the annual interest on the devaluation difference of the bonds already discounted with the Fund. 11.4.

On the same reasoning,

the inference

would

be

IRU scheme should be a little-perhaps % per centhigher than the interest payable by the I.M.F. to the

that if a country entitled to claim

holders of IRUs. This difference could be either added to the interest rate paid by the debtors to make it, say, 3.5 per cent, or deducted from the interest rate payable to the IRU holders to make it 2.5 per cent. It seems to me that the latter would make the IRUs less attractive as a reserve asset vis-his reserve currencies, whereas the former would not make the debtservice burden on the average LDC too heavy, provided that, as I am proposing in this paper, first, the loans will be perpetual with no amortization of

difference on the bonds already discounted with the Fund. However, it could be argued, that, ongrounds of equity, the poor debtors should not be compelled to pay interest of a higher real value than before, simply because its rich lender opted, for reasons of its own, to increase the real value of its currency. If the equity line is adopted, the upvaluing (lender) country’s position towards the Fund, regarding the bonds already discounted, will remain

58

38. I.M.F.

Arricle

upvalues its currency from the Fund the

IV, Section

it is legally upvaluation

8. World Development

unchanged, while the Fund will be able to relieve the debtors of part of the interest due to the Fund in terms of the upvalued 11.5.

Unlike

gold

currency.

and

the reserve

currencies,

IRUs

of ail 59 countries,

the U.S.A.,

for all the

years 1954 to 1968, was an almost reserves-imports ratio of about 40 per 476-8).

excluding

constant cent (pp.

will be capable of devaluation or upvaluation without any repercussions on any domestic economy or on

(iv) The actual reserves-imports ratio of the countries for 1968 was only 33 per cent (p. 473).

the international

12.2. On the basis of these and other calculations it was concluded by the I.M.F. that ‘by 1968 global reserves ease bad not only been declining for a number of years but bad also become less than adequate ‘,40 and that SDRs should be issued in order

economy.

In view of the secular trends of price inflation over the world, I think that a general devaluation

all of

the IRU against all currencies will be called for, say, every decade-or earlier if so decided by the prescribed majority of participants-in order to relieve the

to supplement

existing

reserve

59

assets.

lenders, which would in the meantime have devalued their currencies, of the interest (or part of it) payable

The I.M.F. Managing-Director’s proposal, in September 1969, on the SDRs allocation of $9.5

by them,

billion

Such to

the

as per paragraph a devaluation weighted

11.3 above.

could

be fixed

average

at a rate equal

devaluation

during

the

(at the old exchange

rate of the dollar)

first basic period 1970-2, appears on the following estimates:41

for the

to have been based

decade-or other shorter period-of all the currencies in which the discounted bonds are denominated.

(i) If the normal growth in the need for reserves were to be measured by the growth of imports over

Supposing that such an average devaluation is found to have been 20 per cent, the I.M.F. would then distribute to each holder of IRUs new IRUs

the 1952-68

equal to 25 per cent of its holdings, provided that in the case of countries owing devaluation differences to the Fund, the Fund would set off such debts against their share of new IRUs.

(ii) Other approaches, estimating the need for lower rates of increase.

At the same time, the necessary adjustments will have to be made regarding differences due to previous upvaluations of currencies, as per paragraph 11.4 above. Thus,

the

countries

with

a lower

than

average

currency devaluation during the previous decade will have their devaluation-difference debts settled and will also receive a supplementary issue of IRUs to make up for the devaluation

of the IRU.

12. THE TARGET ANNUAL

12.1.

A crucial

reserve creation.

RESERVE

question

creation As this

several exhaustive findings, published

is the problem

VOLUME OF CREATION

in any scheme

of deliberate

annual volume of such has been the subject of

studies by the I.M.F. staff, their in June 1969 in an article entitled

‘Quantitative criteria needs’, are relevant.39

for the assessment of reserve Here are some of them:

(i) The 1954-64 annual average trend rate of growth qf reserves of industrial countries, excluding the U.S.A., was 8.4 per cent, and that of their imports 8 per cent (p. 475). (ii) The corresponding trend for all 59 countries for which reliable data were available, excluding the U.S.A., showed an average annual rate of growth of resewes of 5.8 per cent, and of 7.4 per cent for imports

reserves annum.

period,

would

the long-term

increase

trend

in required

at the rate of 7 per cent per however, reserves,

might be used for which would give

To be on the safe side, the required growth of reserves was taken to be about 6 per cent per annum on the 1968 global volume of reserves ($77 billion), that is, about $4.5 billion. (iii) Of these, $1 to 1.5 billion were expected to be covered by the growth of gold reserves, reserve positions in the Fund, U.S. dollars and other currencies. Thus, the first allocations of SDRs were fixed at $3.5 billion for the first year (1970) and at $3 billion for each of the following two years. 12.3. Actual developments during the past three years from 30 June 1968 however, been very different

to 30 June 1971 from expectations:

have,

(a) The average rate of growth of world imports has been double the 1952-68 trend, namely 14 per cent per annum.42 (b)

The

dollar

component

of

global

reserves

increased from $15.9 on 30 June 1968 to $34.3 on of 30 June 1971,43 and during the third quarter 1971 it increased by a further $11 billion, raising the total to over $45 billion.

39. Republished in International Reserves Availability, I.M.F., 1970, pp. 464-90. 40.

See I.M.P. Annual Report,

-

Needs

and

1969, p. 27.

41. See the I.M.F. Managing-Director’s Report to the Board of Governors, republished in International Reserues. . ., op. cit., pp. 501-2.

(p. 475 ).

(iii) The above-mentioned trends were distorted by past redistributions of reserves from countries with initially high reserves-imports ratios to those with low ratios. After eliminating these distortions by regression analysis it was found that the ‘ideal trend’ Vol. 1 Nos. 3 & 4

42. See International Financial Statistics, January 1970, p. 33 and January 1972, p. 37. World imports in years-ending 30 June 1968 and 1971 were $209 and 312 billion respectively. 43. See International January 1972.

k’inancial Statistics,

January

1970 and

59

(c) Global placing market,

reserves

were

also

inflated

by

the

of official reserves in the Euro-currency which resulted in counting the same reserves

twice-first, secondly

in

in the depositor-country’s the reserves of the

reserves and country whose

residents had borrowed that money from the Eurothe Euro-currency component of market. Thus, global reserves, during the same period (1968-71), increased from $3.3 to 14.5 billion.44 (d) Official holdings of gold increased by only $250m per annum-from $40.5 billion on 30 June 1968 to $41.3 billion on 30 June 1971.45 12.4.

The

total

volume

of

world

reserves

on

30

September 1971, standing at $117 billion, gives the false impression of adequacy, as it represents a 35.5 per cent compared

ratio with

to world imports a similar ratio of

($330 billion), 34.2 per cent in

1968 ($77 billion reserves to $225 billion imports).46 In fact, however, a large part of present reserves

with

the signing

would

show

of the aforesaid

in their

external

bonds-which

accounts

long-term capital’. Besides that, could, if they wanted to increase

they

as ‘inflow

of

however, the LDCs their reserves, try to

export to the developed countries more goods than they imported-apart from those covered by bonds-in which case they would also have overall surpluses paid for by the developed countries with part of their IRUs. All the other countries, nor

receive

balance-of-payments developed countries they

imported

which

neither

give

also

have

surpluses by exporting more goods and services

to than

IRU-financed

from

would

loans,

them,

could

receiving

in exchange

part

of the latter countries’ IRUs. Thus, although IRUs will, in the first instance, be received by the developed countries, they will ultimately be diffused into the international monetary system in proportion to each country’s demand for reserves, provided of course that, first, such demand is matched by the requisite competitiveness, and secorrd, the volume of annual reserve creation is sufficiently large. Therefore, under the IRU system, balance-of

consists of short-term funds (mostly American) which are bound, sooner or later, to be repatriated. If this ‘hot money’ is excluded from permanent, owned, international reserves, the ratio of global reserves to imports in 1971 was lower than that of 1968, which was considered by the I.M.F. experts as inadequate. 12.5. Before attempting to make any estimate of the future needs of global reserve growth, 1 would like to point out that, under a system of a fiduciary reserve medium as envisaged here, it would be wrong to aim

supplied to LDCs.

‘to shorten the duration and lessen the degree’ of balance-of~ayments surpluses, as implied by I.M.F. Article I (vi).

volume another

It is certainly true that under the gold exchange standard, and especially under conditions of a zero-

issued so far and the IRUs proposed here. As the SDRs are issued virtually as gifts

sum game (as I argued balance-of-payments

distributed in an obviously arbitrary and inequitable way, their volume has to be estimated with great caution and wariness.

in Section 3 above), surpluses in

overall some

competitively-strong countries provoked deficits in others, and the rules of the game therefore required all countries to try negative imbalances.

to minimize

12.6. Under the system overall balance-of-payments

both

positive

and

proposed here, however, surpluses would not

necessarily create corresponding deficits. On the contrary, the ideal situation would be one in which all countries in the world bad overall balance-ofpayments surpluses, the counterpart of which would, for the developed countries, be the net amount of goods and services supplied to less developed countries in the way described in Sections 7 above and 14 below, financed by the issue of IRUs; and for all the other countries, the net amount of goods and services which they supplied to the developed countries. In other words, the developed countries will show balance-of-payments surpluses because they would export more goods and services than they imported, and receive the difference in IRUs by discounting with the I.M.F. the bonds covering part of their exports to LDCS.“~ On the other hand, the less developed countries would basically square their balance of payments

payments surpluses. especially of the rich countries, should be encouraged rather than disapproved of, as implied

by

counterpart 12.7.

Coming

the of

I.M.F. such

back

of reserve fundamental

inasmuch

Articles, surpluses

to the

will

question

be

as the

resources

of the

annual

creation, I would like to stress difference between the SDRs as and are

In the case of IRUs, however, as they will be issued against a valuable consideration, there is no reason for particular caution and wariness especially since the consideration will be mostly goods and services already supplied by countries which have, presumably, judged that they could afford to do so without any risk of excess-demand inflation to their domestic economy. The issue, therefore, of IRUs cannot be excessive from the point of view of the countries supplying the equivalent resources in the first instance. As, however, such issues are bound to have multiplier effects on the international economy, it would be advisable for the issuing authority (the I.M.F.) to fix a target ceiling for its annual IRU creation in order to avert a world excessdemand inflation, which is hypothetically possible, although, as I argue in Section 17 below, the real danger facing

44.

ibid.

45.

ibid.

46.

ibid. World

Development

the world

today

and in the coming years

is economic

stagnation rather than excess-demand inflation. 12.8. Without playing the crystalgazer, I will now try to make a rough estimate of such a target ceiling of IRU tions,

creation,

based

on the

and on the following

(a) World imports to grow at an annual

foregoing

considera-

assumptions:

at current prices will continue rate of about 10 per cent, and

will amount to about $400 billion (at the previous dollar value) in 197 3. (b) World GNP at current prices will continue to grow at an annual rate of about 8 per cent4* (c) Global reserves, which on 30 September 1971 amounted to $117 billion, will, excluding the ‘hot amount in 1973 to about $100 billion, money’,49 corresponding to only 25 per cent of global imports. (d) Insignificant quantities of gold will be added to official holdings. (e) Under the new monetary like all other

countries,

proportion to its trade probably more than that, their present shortfall. (f,

On the other

system,

the U.S. will,

tend to increase

its reserves

in

and GNP growth-and in order to make up for

hand,

the volume

be demanded by the enlarged Community will, as a percentage

of reserves

to

be lower than so far, in view of the expected morethan-worldaverage increase in their inter-community

venture

to

suggest

annual

creation

that of

period-which

might

1974-should

be

namely,

rhe

IRUs

during

hopefully

7 per

cent

ceiling the

begin

for

first

I the

basic

on 1 January

on the

$100

billion,

$7 billion.

13. THE FUTURE THE RESERVE

13.1.

target

If a scheme

medium, question

for the creation

AND SDRs

of a new reserve

such as the IRU, is to be adopted, will arise: what is to be done with

present balances

reserve media-gold, and SDRs?

dollar

and

the the

sterling

13.2. At the end of September 1971 gold represented 31 per cent of global reserves ($36.2 billion out of $117.3 billion). If the trend of the past decade continues, additions

it is very doubtful to official gold holdings

if in future any will be made at all.

For example, the use of gold for industrial and artistic purposes in 1958 absorbed 28 per cent of newly available gold ($360m out of $1,26lm). By 1970

this

proportion

increased

to

67

per

cent

($975m out of $1,450m).50 If this trend continues, and assuming that the annual demand for gold for hoarding purposes will be only 14 per cent ($200m)-which was the minimum so far-the demand for gold in the private market will very shortly outstrip current production. 13.3. In the circumstances, and having regard to the Vol.

1 Nos. 3 & 4

provided

for, ‘each member

currency member

held shall

shall buy balances

of its

by another member’, and ‘the buying have the option to pay either in the

currency of the member gold, or in IR Us’. Article

V should

making

the request,

be amended

or in

so that IRUs

will be acceptable by the Fund, as well asgold, when a member wants to purchase another member’s currency, charges.

or to repurchase

its own currency

or to pay

Provision should also be made in the Articles for the Fund to be able ‘to require any member to sell its currency to the Fund for either gold or IRUs’ when that currency is in legitimate demand by other members. (Amendment of Article VII, Section 2, which now provides for replenishment of the Fund’s holdings of scarce currencies, for gold). 13.5. Un.der the amendments proposed above, although all countries will have the option to pay in gold, no country will be obliged to give gold in exchange for its own or any other currency. Thus, the monetary continue

OF GOLD,

CURRENCIES

countries already holding it. 13.4. Under the scheme proposed here all currencies will be convertible into IRUs. To this end the relevant I.M.F. Articles will have to be amended accordingly. For example, Article VIII, Section 4, should be amended to the effect that, subject to the conditions

Also,

European Economic of imports, tend to

trade and their monetary cooperation. On the above considerations and assumptions,

inelastic supply of gold and the role of speculators, it is very likely that the free-market price of gold will always tend to exceed its official price for monetary purposes, and that very little new gold, if any, will flow into the coffers of the monetary authorities in future. In view of this tendency, gold cannot and should not continue to be the primary reserve asset, although it will most probably continue for long to form part, and indeed the residual of the reserves of the

system will be untied to use gold as a reserve

from gold, but it will component.

13.6. World consensus now appears to support the view that the role of the dollar and the pound sterling as reserve national long

currencies currencies

as they

were,

should played

be phased

their

or they

out.

reserveasset

pretended

These role so

to be,

con-

vertible into gold. Following the collapse of the gold exchange standard, however, they cannot continue playing

that

system

were

47. In order flows.

role,

unless

the international

to be converted

into

monetary

an inconvertible

to simplify my description

I ignore capital

48. Between 1965 and 1968 the GNP (at current prices) of all O.E.C.D. countries grew at the rate of 8.3 per cent (O.E.C.D. National Accounts, 1950-68, pp. 11-13); and during 1969. and 1970, due to price inflation, the rate of growth of GNP of most countries was higher than 8 per cent Unternntional Financial Statistics, January 1972). 49. Even if the expected reflux of ‘hot money’ does not materialize, the arrangement suggested therefor in paragraph 13.9 will reduce global reserves. 50. See I.M.F. Annual Report,

1971. p. 146.

. 61

dollar standard, which monopolistic power countries.

would give the United States a unacceptable to the other

A rough be made liabilities

estimate

of this short-term

capital

could

by comparing the increase of U.S. official with the U.S. ‘basic’ balance-of-payments

13.7. Already Great Britain, during its negotiations for entering the E.E.C., has made the following declaration about the future of sterling balances: ‘We are prepared to envisage an orderly and gradual rundown of official sterling balances after our acceswe shall manage our sion . . In the meantime,

deficit was only $8.8; this means that the net shortterm capital outflow from the U.S. during that period

policies with a view to stabilising balances, in a way which would these longer-term objectives.‘5 1

was about $17 billion.52 On the basis of these figures it may be assumed that the official dollar balances due to be funded will

This declaration is assumption that Great

the official sterling be consistent with

apparently based on the Britain should eventually

redeem the sterling balances, amounting on 30 September 1971 to $6.8 billion, by its own meanswhich would undoubtedly require a very long time. On the

same

balances,

which

assumption,

the redemption

of dollar

on the same date amounted

to $45.7

billion, would certainly need an even longer timealthough such redemption is bound to provoke serious international economic saw in paragraph 9.8 above. 13.8.

The

world,

however,

repercussions, cannot

wait

as we

until

the

U.S.A. and the U.K. are able to redeem these balances by their own means-let alone risk the disastrous repercussions of such redemption. Obviously, this problem

should

be tackled

simultaneously

with

the

inauguration of a new monetary system. If the system propounded here were to be adopted, a consistent solution would be to exchange these balances for IRUs to be issued by the I.M.F. against ‘undated’ bonds bearing interest at 3% per cent per annum signed and due by the U.K. and the U.S. respectively, to the I.M.F. This arrangement regarding the dollar balances could be considered as a sort of repayment to tbe United States for the generous reconstruction and development aid they have given to the whole since the end of the Second World War. With regard

to the sterling

balances,

world

their funding

against IRUs should also be considered as a gesture of goodwill in view of the fact that these balances are actually an aftermath of Britain’s Second World War expenditure, incurred for the Allied cause. 13.9. When this funding operation is to be implemented the question will arise whether all the official dollar and sterling balances outstanding on the D-day should be so funded.

deficit since 30 June 1970. Such a comparison shows months liabilities

in the

fifteen

be roughly $28 billion, less the ‘working balances’, plus the U.S.‘s net basic deficits from 30 September 1971

to the D-day.

On the other hand, the official sterling balances due to be funded will be about $7 billion, less ‘working balances’. 13 .lO. If the scheme of IRUs as described above is to be adopted provision should also be made for the gradual replacement of the present-day SDRs by IRUs. This should meet with no difficulty as the I.M.F. Articles (Schedule I) lay down the procedure to be followed in the event of a liquidation of the Special Drawing Account: eventual balances shall be discharged ‘in ten half-yearly installments or in such longer period as the Fund may decide is needed in currency convertible in fact’-we would add-into IRUs. 13.11.

Eventually,

the system

will have two main reserve besides the I.M.F. facilities.

put forward

herewith

media, gold and IRUs, Of these, gold, being a

commodity with ever increasing comparative scarcity, will tend to be officially undervalued and to flow out of the monetary system into the private market for industrial, artistic and hoarding purposes. International Reserve Units will be the primary reserve medium to be quantities commensurate

continually with the

international 13.12. Of

central

community. course, thg

increasing needs of

banks’

in the

monetary

reserves will always contain certain amounts of the main national currencies, as working balances; these, however, will not create any problem, provided that: (a) they are freely convertible into IR Us; and (b) measures will be adopted for the control of the movement of ‘hot money’ which should not be allowed to derange the new monetary system. At long last, the world should heed the warning

First, the dollars and pounds sterling needed by their official holders as ‘working balances’ should obviously be excluded from the funding operation.

given by Keynes

Second, the speculative short-term capital that has swollen the official dollar holdings, especially since 30 June 1970, should presumably also be excluded. The funding of this volatile capital does not appear to be justified, especially since it is likely under favourable conditions to flow back to the U.S.; but even if by the D-day it does not, an arrangement other than its exchange for IRUs should be made for its withdrawal from the international reserve system.

still fresh in his mind:

62

that

up to 30 September 1971 U.S. official increased by $26.2 billion, whereas its basic

Clearing havoc

Union’

caused

in his ‘Proposals twenty-nine

by the

‘hot

for an International

years

money’

ago,

when

the

in the

1930s

was

51. Qwration from the official declaration by Mr. G. Rippon in Luxembourg (Financial Timrs, 24 January 1972, p. 6.). 52. U.S. liabiliks: 30 June 1970 - $t9.5 billion; 30 f~inancial September 1971 - $45.7 billion (Intemational Statistics. January 1972). ‘Balance on current account and long-term capital account’ from 30 June 1970 to September 19il - $8.8 billion (U.S. Survey of Current Business, Jamdary 1972, S-3). World

Development

‘There is no country which can, in future, safely allow the flight of funds for political reasons or to wade domestic taxation [we should now add, or for speculative purposes] . . . Equally, there is no country that can safely receive fugitive funds, which constitute an unwanted import of capital, yet cannot safely be used for fiied investment. ‘For these reasons it is widely held that cotztml of cqital movements, both inward and outward, should be a permanent feature of the post-war system. ‘53

14.

ODA will not change much in the next few years, though slow upward movement is possible’56 14.4.

STRATEGY

OF THE U.N. DEVELOPMENT

AND RESERVE

Nobody

denies

CRJJATJON-TWO

industrial

the

countries

(LDCs).

to narrow

countries Such

for to

the

the gap between

aid

less developed in order

the rich and poor nations,

which is one of the most serious predicaments of mankind today. The U.N. General Assembly, by a unanimous vote on 24 October 1970, adopted the ‘International Development Strategy for the Second U.N. Develop ment Decade’ beginning on 1 January 1971. In this International Strategy all countries have accepted the objective that ‘each economically advanced country should

endeavour

veloping minimum

to

provide.

. . annually

countries financial resource net amount of 1 per cent

do

to

de

by 1972 but in any assis-

by the sixteen Development (D.A.C.) countries amounted

to only 0.34 per cent of their aggregate GNP ($2,000 billion), i.e., half-way to the target, with the following breakdown: 55

Official bilateral loans Less- Amortization of outstanding

% of GNP

2.819 433

loans

Net official bilateral loans Official bilateral grants and grant-like flows Official contributions to multilateral institutions Total ODA

is so, then

the

5 billion

2,386 3.298 1.124

0.12 0.16 0.06

6,808 -_

Fz

1 Nos. 3 & 4

loans

be

$14

% of GNP

9.6 3.3 1.1 14.0 -

Total ODA

0.48 0.16 0.06 z -

14.6. It would appear, therefore, that, by a strange coincidence, the annual amount of additional official loans from the D.A.C. countries

is needed

reserve

to reach

is equal creation

to

the target

the

which

we

target

development assistance-appear and can both be resolved

volume

estimated

by

running

of the IRU scheme

problems creation

in and

the industrial by the 1.M.F.

of the U.N. Interand the efficient

proposed

H.M.S.O., London,

of annual

in paragraph

to be complementary one and the same

catalyst-$7 billion funded loans from countries to the LDCs to be discounted against the issue of IRUs. 14.7. For the implementation national Development Strategy

to the LDCs

set by the V.N.

12.8 above, at U.S. $ 7 billion.57 the two world In other words, question-the urgent needs for reserve

p. 9, and the Development

Strategy. ‘The outlook’, it writes, ‘for substantial increases in official development assistance in the immediate future or in the percentage of GNP transferred as official development assistance is anything but favourable. Given the fact that the 1970 level was slightly less than one-half of 0.7 per cent of GNP . . . there is no evidence just at present of the reversal of priorities required in several major countries to bring about the increases in disbursements that would be needed to Vol.

solves

10.0 0.4

Net official bilateral loans Official bilatcrai grants and grant-like flows Official contributions to multilateral institutions

of reaching

U.N.

which

the said U.N. Development

Official bilateral Loans Less: Amoniution of outstanding

53. Cmd. 6437,

set in the

and

of 0.7 per cent of GNP for ODA

14.3. The Development Assistance 1971 Review of the O.E.C.D. is very pessimistic about the prospects the targets

IRU system,

way to achieve

Strategy

S million

financial-budgetary

issued-so that the total of ODA would billion, with the following breakdown :

bilateral

tance (ODA) given Assistance Committee

for

transfers of a of its GNP at

development

their

were to have been reached in 1970, another $7.2 billion official bilateral loans should have been advanced, in addition to the $2.8 billion already

that

case not later than 1975. 54 14.2. During 1970, the official

mainly

Strategy target. 14.5. If that target

targets

if possible,

so

practical

market prices’, of which 70 per cent should be in the form of grants and long-term loans from official sources and the balance from private sources-such to be reached,

why the

to increase

rather than creates such problems, should prove acceptable to the developed countries as the best

development

aid is indispensable

that the reasons

are reluctant

official development assistance to reach the abovementioned target is mainly political. I believe that, on the contrary, developed countries would, for political reasons, be willing to increase their aid, but they do

If that

PROBLEMS RESOLVABLE

the need

believed

countries

balance-of-payments-reasons.

BY ONE CATALYST 14.1.

It is widely

developed

not IMJ’JEMENTATJON

COMPLEMENTARY

by

meet the target by 1975. Thus, taken as a whole, the probability is that the percentage of GNP devoted to

here,

however,

April 1943, p. 16.

54. See the international Review,

O.E.C.D.,

55. D.A.C.

Review,

Development Strategy. U.N.. 1970. Assistance Committee 1971 December 1971, p. 47.

op. cit., pp. 34, 37n.

56. ibid., p. 50. 57. The coincidence is due to the fact that the estimated GNP of D.A.C. countries is 20 times the estimated value of global reserves ($2000:$100 billion) and that the shortfall of the target of ODA as a percentage of GNP was 20 times smaller than the estimated rate of target growth of reserves (0.35:7.0 per cent). 63

it will be necessary to set up an International Development Strategy Headquarters (I.D.S. H.Q.), which will plan and coordinate all bilateral and multilateral development assistance and advise the I.M.F. on the ‘eligibility’ of the bonds presented for discount against IRUs-as per paragraph 7.2 (a)-as well as on other relevant matters, such as interest remission or reduction At the same Co-ordinating

. in all LDCs

(as per paragraph time, Local

10.4), etc. Development

Agencies (L.D.C.A.s) should be set up receiving aid, which will co-ordinate aid on the spot and report to I.D.S.

development H.Q. Such co-ordination

both

on the global

and on the

local levels would be facilitated if each country would set up its own development

developed authority

like the American Agency for International ment (A.I.D.), the British Ministry of Development

Agency

for

Development Assistance. Both in the I.D.S. H.Q. and in the L.D.C.A.s,

the

developing

and

the

countries

representation. 14.8. On reporting

German

should

Federal

Develop Overseas

also have an effective

on the ‘eligibility’

of the bonds

to

be discounted, the L.D.C.A.s and I.D.S. H.Q. should consult with the respective creditor and debtor countries and should see to it that: (a) such bonds are related to currently advanced bona fide loans directly or indirectly promoting the development of developing countries; (b) all developing countries should get a fair share of the global development assistance both in the form of official grants and in the form of official loans;58 (c) such loans are additional to non-discounted development loans at concessional terms of a volume at least equal to the 1971-2 level, and that they are ’ not made at the expense of the creditor country’s usual official grants and grant-like flows and grants and contributions to multilateral institutions; (d) in case the demand for IRUs is greater

than

the target ceiling set by the I.M.F., all developed countries should be given a fair share of the new IRUs to be issued within such a target, on the basis of each one’s need for liquidity. In such a case, however, the IMF should consider the review of its target ceiling upwards, since the existence of demand in excess of the target, by countries that are ready to exchange goods and services for IRUs, is prima facie evidence that the said target

was set rather

10w.~~

their volume

would

tend

to reach the target accepted

by the developed countries themselves. (b) At the same time, there is a consensus world informed opinion that there should be annual though

creation its volume

of a fiduciary is a controversial is intended scheme

of an

reserve medium, issue. to facilitate the

(c) My developed countries in increasing their development assistance by financing such assistance with IRUs, up to the limit to be set by the I.M.F. for reserve creation. Suppose, for the sake of argument, that that limit is set at only $1 billion: then the increase of development assistance will be facilitated up to that amount only; yet, little facility is better than none and therefore the link will in any case increase rather than prejudice development assistance. (See also paragraph 14.8 (c).) (d) At the other extreme, suppose that the I.M.F. estimates that there is a need for an annual reserve creation of $10 billion, and sets the target ceiling at that figure. If such a need is real, it will certainly be felt by most developed countries which will experience the impact of inadequate international liquidity. Such being the case, the remedy will in the instance lie with the sufferers themselves, since reserve-creating authority is ex bypothesi ready discount their development loan bonds up to billion. If the developed countries, however, do not like exchanging say, $5 billion,

feel

resources for IRUs for more than, this means that the realistically right

and proper level of reserve

creation in that year is $5

billion rather than $10 billion, as estimated by the I.M.F. In the circumstances, reserve creation than $5 billion, of two things:

first the to $10

by another method, would

ex ante of more mean one

(i) If such higher liquidity were to be issued to the LDCs, this would mean that LDCs would be given internationallyaccepted purchasing power for more resources than the developed countries are ready to exchange. (ii) If, on the other hand, such higher liquidity were to be gifted to developed countries, this would mean that the latter would be granted international money that will either be kept by them sterile (as we saw in paragraph 6.7 above) or will be used in payment of a reverse flow of resources from the poor to the rich countries, which is economically, politically and morally unacceptable.

14.9. The link between the issue of IRUs and development finance, as envisaged here, is not likely to prejudice either development assistance or reserve creation, for the following reasons: (a) Practically all developed countries have already undertaken to give LDCs official development assistance up to 0.7 per cent of their GN‘P. Yet, mainly

The inference is that the link of the issue of IRUs to development finance, as proposed here, is not likely to impair the creation of a ‘realistically right and proper’ (in the sense of sub-paragraph (d) above) volume of reserves.

because of balance-of-payments and other difficulties, their assistance so far is about $7 billion short of that target. There is, therefore, a presumption that if the transfer of resources from developed to

58. The I.D.% H.Q. should lay down criteria for a fair distribution of development assistance through the IRU scheme, first among continents and regions and second among the individual LDCs.

less developed

59. See Section 16.

64

countries

were

facilitated

financially

World Development

14.10.

In both

IRU scheme, socialist ment

the

Development

it would

countries

Strategy

to participate

may become

15. CAUSAL

15.1.

It appears

that

the

the

Previous

the

Trade Balames

so that the Develop

really international.

THERAPY

SYMPTOMATIC

and

to invite

Strategy

be commendable

RATHER

New Trade Balances

A.

+

B.

+ 0.8

+

i.778

+ 2.578

C.

-

0.8

+ 1.722

+ 0.922

D.

-

1.6

+ 1.694

+ 0.094

0.0

+ 7.000

+ 7.000

Total

THAN

New Exports

1.6

+ 1.806

+ 3.406

TREATMENT

idea is gaining

ground

in

15.4. The above example leads to the conclusion that a ‘deficit country’ in a ‘zero-sum’ trading contest, can

I.M.F. forums that the world monetary problem can be solved by laying down and enforcing an international code of conduct that will aim at prompt and

be turned into a ‘surplus country’ without changing irs exchange parity, by the creation of new reserves

frequent

through

adjustments

that this imbalances.

will

do

of exchange away

with

rates, in the hope foreign

payments

Under this code of conduct ‘deficit countries’ will have to devalue and ‘surplus countries’ to upvalue their currencies promptly so that international competition may be conducted on a basis of ‘fair play’. It seems to me ‘that this line of approach may be likened to an attempt to treat the symptoms rather than cure the causes of the disease. 15.2. As I argued in Section 3, since international trade

is now

carried

on practically

as a zero-sum

game, some countries are bound to have balance-ofpayments deficits. The realignment of currencies is a kind of symptomatic treatment which may change the relative positions of the contestants but cannot do away with deficits. The causal therapy in this case would lie in turning the international trade contest from a zero-sum to a positive-sum one. The following simplified example will make my point clearer. 15.3. Suppose that the trading world is made up of four developed countries whose relative competitive strengths

are in the ratios

respectively.

If the trade

contest

is like a zero-sum

Imports

Trade Balances

A.

25.8

24.2

+

B.

25.4

24.6

+ 0.8

C. D.

24.6 24.2

25.4 25.8

-

100.0

100.0

Total

1.6 0.8 1.6 0.0

Now, suppose that the I.M.F. issues to the Third World SDRs amounting to 7 per cent of the above exports, on condition that they should be used for buying goods from these four developed countries. Other things being equal, the $7m new exports will be shared by the four exporters in proportion to each one’s competitive strength, with the result that all four countries will become surplus countries: Vol.

1 Nos. 3 & 4

and

international trading

trade,

contest

thus

into

transforming

one with

the

a positive

This kind of therapy is not only more fundamental effective but avoids the risk of competitive

currency devaluations to if the policy

which the world would be led of curing foreign payments

imbalances by ‘prompt and frequent exchange rates’ were to be adopted.

readjustment

of

Furthermore, the Iatter attempt is a negative rather than a constructive way of dealing with the dynamic urge of all countries and especially the developed countries to realize balance-ofpayments surpluses. Instead of suppressing that urge-which will most probably prove futile-the constructive way would be to take advantage of it and use the goods and services made thereby spare for the purposes of world development.

16. HOW TO ALLOCATE WHEN THEIR AGGREGATE

NEW IRUs DEMAND

EXCEEDS THEIR SUPPLY

of 258, 254, 246 and 242

game, the result will be that the first two countries will have trade surpluses and the last two, trade deficits, as follows (in million $):

Exports

zero-sum sum.

16.1. In paragraph 14.8 (d), we envisaged the where the demand for IRUs was higher than target ceiling set by the I.M.F.; in such a case, said, ‘all developed countries should be given a

case the we fair

share in the new IR Us to be issued within such target, on the basis of each one’s needs for liquidity’. Although we added that in such a situation there would be prima facie evidence that the target should be revised upwards, until that was done there still be a problem of estimating each country’s for liquidity ‘.

would ‘needs

16.2. A similar problem faced by the I.M.F., when it had to allocate the new issues of SDRs, was solved by the adoption of the respective quotas in the I.M.F. as the measure of each country’s ‘needs for !iquidity’. This solution, backs pointed

however, apart from its other drawout above, ignored the actual volume

o,f resewes each country held at the time of allocation, which should of course have been deducted from its ‘total requirements’ in order to find its actual ‘needs’. 16.3. Our attempt to estimate each country’s ‘total reserve requirement’ will be based on: 65

(a) the I.M.F. Staff’s findings mentioned in paragraph 12.1 above, to the effect that the ‘ideal trend’ of all countries in the world, except the U.S.A., for the years 1954-68, was an almost constant reserves-imports ratio of about 40per cent;

Bonds

(bj the findings in paragraphs 4.4 and tables l-5 that there is a close correlation between the reserves on the one band and the imports and GNP on the other of the 0. E. C. D. countries; (cj in the absence of a more

estimate

which

is approximately

the same one (6.6 per

cent) we found in table 3 for the O.E.C.D. countries in the years 1959-61 when their reserves-imports ratio was 43.3 per cent (table 1). 16.4. In order to exemplify our tentative method of allocating the new IRUs when their aggregate demand exceeds their supply, let us suppose that there are only four creditor countries A, B, C, D, offering to the I.M.F. eligible bonds for discount valued at $500m,

$400m,

$700m

and $400m,

respectively,

2,000

16.7. In case a country’s total ‘reserve requirement’ as calculated above is found to be smaller than its actual reserves that country will not be allocated any IRUs. 16.8. If, on the other hand, a country’s allocation is found to be greater than the amount of the eligible bonds offered by it, the excess will be reallocated to the remaining creditor their first allocations.

17.

R eserces 4

(a) the provoked

increase inflationary

B. c.

15 20

120 130

5 7

economies and if

of the

D.

14 61 -

110

6 22 -

of

6.5Per

(in $ million):

CCRf of

AChd

GNP

Meon

ReSCWPS

Sh0rtfd

of

Reserves

A.

J.800

6.500

5.650

4,000

1,650

B.

6,000

7.800

6.900

5,000

1.900

C.

8.000

8.450

8.225

7,000

1,225

5,600

24,400 -

-

7,150

29,900 -

-

6,375

27.150 -

-

6.000

22,000 -

in

could world pressures

countries

provoke

world

monetary in the

increasing

I believe proposed

their

infla-

reserves domestic reserves;

(bj the demand for goods and services created by the development loans financed by the issue of IRUs

Total ‘Reserve Reqritcmmt ImpOTtS

to

OF

such a link would lead to world inflation. that with the IRUs issued in the way hereby this danger is rather remote.

100

per cent

proportion

17.1. One of the arguments against linking the issue of deliberately created reserves to development is that

12

picture

in

.

WITH THE ISSUE OF IRIJs?

A.

460

countries

IS THERE A DANGER

INFLATION

GNP

the following

-

375

5,150

16.6. On the basis of the above figures I would suggest that a fair method of allocating the $1 billion of new IRUs among the candidates who demanded $2 billion IRIJs, would be to do so in proportion to each one’s ‘sbortjkll’ of reserves. Considering that the $1 billion IRUs represent a proportion of 19.4 per cent of the total shortfalls (%5,15Omj, each country’s allocation would then be 19.4 per cent of its own shortfall as follows (in $ million): 66

1,000

17.2. The issue of IRUs tion only if:

16.5. If we assume that each country’s ‘total requirement’ for reserves is the mean between 40 per cent of its imports and 6.5 per cent of its GNP we will have

-

500 400 700 400

Imports

Total

D.

369 238 73

C. D.

in a

year in which the I.M.F. target for reserve creation was only $l,OOOm. We will further suppose that the imports and GNP of these countries during the previous year and their current volume of reserves were as follows (in $ billion) :

Total

320

B.

of

the ‘ideal trend’ of the reserves-GNP ratio for the whole world, we will make use of the ratio of 6.5 per cent,

A.

Total accurate

Total of Eligible

‘Fair’

.4llocations

rose beyond the supply potential of the industrial countries. 17.3. The danger of domestic inflationary pressures being provoked by increased reserves, is minimized: (a) by limiting the global increment to a percentage commensurate with the expected growth in world trade and GNP, as has already been proposed here; and the increased reserves-a (bj by neutralizing technique

sucessfully

authorities. Such successful

practised neutralization

by the monetary authorities ing 1970 and 1971 the monetary reserves increased

by several

monetary

was recently

done

of West Germany. DurDeutsche Bundesbank’s by 86 per cent and 20

per cent respectively (from DM 27,793m at end-1969 to DM 51,830m at end-1970, and to DM 62,219m at end-1971); yet, the German domestic economy was so well insulated from such a flood of external assets that the money stock (Ml) increased by only 9 and 12 per cent respectively (from DM 99,429m at end1969 to DM 108,219m at end-1970, and to DM 121,522m end-1971j.60 60. .Monthiy Rrport 1972. pp. 4. 74.

of‘ the Deutschr

Bundesbank,

February

World Development

17.4.

The risk of world

excessive

demand

inflation

for goods

being

provoked

by the

than 2 million eliminated’.65

defense-orientated

through

17.6.

The preceding

paragraphs

initiative

for

point

that

and services

issue of IRLJs is rather remote because: (a) in my scheme of IRUs, the

putting resources at the disposal of LDCs will come from the side of the suppliers of such resources, who will, presumably, see to it that the bilateral loans issued by them will be within their own supply potential; and (b) the industrial countries at present have such a large unutilized, underutilized and misutilized productive capacity, especially in the capital and durable consumer goods industries, that the supply of additional goods and services equal to only 0.35 per cent of their GNP is very far from provoking excessdemand inflation. 17.5. The following

facts

and

figures

confirm

argument of the preceeding sub-paragraph: (a) The indices of capital utilization facturing industries in the main industrial during the fourth

quarter

in manucountries

of 1970 were as follows:61

U.S.A. U.K. Germany France Belgium

83 per cent 95 94 96 94 95 87

Netherlands Ital) Unemployment

the

in these

” ” ” ” ” ”

prove,

were

I believe,

my

in the way proposed,

is

not likely to provoke inflation in the developed countries. It may, however, be retorted: How about the inflation already prevailing in nearly all developed countries? Will it not be aggravated by the increase of exports to LDCs? 17.7. My reply is that the prevailing inj?ation is not a ‘demand inflation’, i.e., injlation due to excess effective demand over the supply potential of the economies

concerned,

Since,

as indicated

economies potential,

to which above,

I was referring.

all developed

countries’

are actually working below their ‘demand inflation’ is by definition

supply ruled

out. 17.8. Presumably, the prevailing inflation wage-cost-price vicious spiral, the prime

is due to a mover of

which, I venture to submit, is the perennial Sisypbean attempt by the workers and employees in all economies to increase their secular!y almost constant share in the real GNP of their countries. Apparently, this attempt has recently been intensified due to ‘rising expectations’ among all peoples, evoked by the vast development of communications and the

“ ” ” “ ‘I ”

countries

the issue of IRUs,

jobs

amazing achievements recent years. has increased

of science

and technology,

in

17.9. In these circumstances, the developed countries are facing the dilemma: Either to follow the negative

since 1970, which means that their capacity utilization is now lower than the above. (b) The steel industry in all countries is now working well below capacity. For instance, Japanese crude steel production in 1971 was 26 per cent below capacity (85 out of 115 million tons)62 and the operating rate of estimated capacity of American

ment and economic stagnation curb the wage demands and break the wage-cost-price vicious spiral; or to follow up the welfare policy of giving priority

steel industry cent.(j3

structive ways wage-cost-price

(c) elasticity countries planned durables (d) period

It

in September

is a well-known

1972 was only fact

that

the

70 per income-

of demand for durable goods in developed is falling in favour of services, and that obsolescence and reduced durability of are extensively It is an open

used to boost secret

that

demand.

during

the post-war

industrial production in the developed countries has been increasingly boosted by military expenditure, by the recurrent obsolescence of weapons

and

and costlier programme.

their

continual

replacement

by newer

versions, as well as by the space-research The total military expenditures by the

developed countries during 1970 was estimated to be $177 billion, i.e., about 9 per cent of their GNP.64 realization of hoped-for world dis(e) The armament would be facilitated if the further spare productive capacity to be thereby created could be employed for some useful alternative purpose, such as the development of LDCs. Otherwise, there will be the danger of increased unemployment, as happened in the U.S. following a comparatively small cut in their military expenditures in fiscal year 1971, when, as President Nixon stated on 24 October 1971, ‘more Vol.

1 Nos. 3 & 4

and socially

unacceptable

to full employment to

devise

other

policy

of letting

and economic more

socially

and means inflation.

unemploy-

growth

and to try

acceptable

and con-

of solving

the problem

of

17.10. It is in the context of the second alternative, just mentioned, that I believe that the IRUs, issued in the way proposed, the two monetary

will not

only

be the catalyst

for

complementary major problems-the and the development-facing mankind

today, but will also be instrumental in procuring to the industralized countries what they now zqently need: export-led growth; and in averting the real danger facing mankind today and in the coming years: world-wide stagnation. 61. Wharton indices quoted in the I.M.F. Annual Report, 1971, p. 58. 62.

See report in the Financial Times, 19 January 1972, p. 9.

63.

See Wall Street Journal,

10 October 1972, p. 10.

64. Estimated by the U.S. Arms Control and Disarmament Agency in their fifth report, quoted in the Survey of International Developmen& May 1971. 65. Radio Address by President Nixon on Veterans’ Day. 24 October 1971 (U.S. Information Service). According to the Monthly ‘Economic Letter of the First National City Bank, January 1972, ‘U.S. Defense spending declined to $76 billion in fiscal year 1971, nearly $3 billion below fiscal year 1969, the peak of Vietnam spending, but is likely to flatzen out in the 1972 fiscal year’. 67

Table 1. Calculation of the Coefficient of Correlation: end-1958~6Ulmports 1959-61 for Average Reserves O.E.C. D. Countries (excluding the U.S.A., the U.K.. and Switzerland) (U.S. $ billion) x Awerage reserves end-1958-61 1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. 12. 13. 14. 1s. 16. 17. 18. 19.

1.35 3.88 1.76 6.02 9.85 4.44 4.52 1.47 2.75 6.20 4.63 1.02 0.66 0.09 0.65 0.56 0.87 0.48 0.81

22.52

& = 52.01

Japan

Finland Greece lceland Ireland Portugal Spain Turkey Yugoslavia SC= Qy

XxX = 66.81

= 266.85

(19 x 126.55) r

= ~“((19

I

=

l’ore.

x 66.81)

- (22.52

- (22.52

x 22.52))

&y

1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. 12. 13. 14. 1s. 16. 17. 18. 19.

rario = 43 3%

gable 2. Calculafion of tbe Coefficient of Cowelation: end- 196 7- 70Hmports 1968- 70 for Average Resewes O.E. C.D. Countries (excluding the U.S.A., the U.K., and Switzerland) (U.S. $ billion)

1.57 2.51 0.48 5.00 9.7 1 5.30 2.71 0.7 3 0.78 3.39 3.36 0.34 0.31 0.04 0.60 1.38 1.34 0.23 0.15

Austria Belgium/Lux. Denmark France Germany Italy Netherlands Norway Sweden Canada

Japan Finland Greece Iceland Ireland Portugal Spain Turkey Yugoslavia

XX = 39.93 syy =x’O.W, r = \/(I19 x 191.?9)

Finland Greece Iceland Ireland Ponugal Spain Turkey Y tigoslavia

&,’

=

r

= 0.853

,,‘((19

x 66.81)

- (22.52

s,

=

-i 14140.23

119 x 887.97)

r

- (22.52

x 22.52))

339.1

&y

= 887.97

x 339.10)

x ((19 x 14140.23)

Rcxtves:GNP

- (339.1

x 339 I))

rano = 6.6%

!” 93 x 39.93))

= 1822.60 -

Table 4. Calculation of the Coefficient of Correlation: Reserves end-l 965-68/GNP 1966-68 for Average 0. E.C. D. Countries (excluding the V.S..4., the U.K.. and Swikerhnd) (U.S. $ billion)

Y .4verage imports 1968-70

x

Average reserves end-l 967-70

X.%X= 191.99

Japan

6.2 12.0 6.0 61.4 70.8 35.5 11.3 4.6 13.1 36.9 44.1 4.9 3.6 0.3 1.9 2.5 10.4 5.3 8.3

Note. See paragraphs 4.4 and 4.5

See paragraphs 4.4 and 4.5

1. 2. 3. -h. 5. 6. 7. 8. 9. 10. 11. 12. 13. 14. 15. 16. 17. 18. 19.

0.74 1.55 0.28 2.11 6.22 3.09 1.70 0.29 0.57 2.09 1.53 0.32 0.23 0.02 0.33 0.77 0.43 0.21 0.04

Austria Belgium/Lux. Denmark France Germany Italy Netherlands Norway Sweden Canada

XXX = 66.81

x 52.01))

‘4 uerage GMP 1959-61

1

XX= 22.52

= 126.55

- (52.01

Y

Average resentes end- 1958-6

x 52.01)

x ((19 x 266.85)

Racrves:tmports

O.Yl9

x

Y Average imports 1959_~61

0.74 1.55 0.28 2.11 6.22 3.09 1.70 0.29 0.57 2.09 1.53 0.32 0.23 0.02 0.33 0.77 0.43 0.21 0.04

Austria Belgium/Lux. Denmark France Germany Italy Netherlands Norway Sweden Canada

Table 3. Calculation of the Coefficient of Correlation: Reserves end-1958-61/GNP 1959-61 for Average O.E.C.D. Countries (excluding the U.S.A., the U.K., and Switzerland) (U.S. $ billion)

2.96 9.89 3.82 16.85 24.89 12.57 11.22 3.12 6.02 13.76 15.65 2.09 1.65 0.14 1.41 1.35 4.14 0.8 1 2.27 &

= 134.61 &y

1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. 12. 13. 14. 15. 16. 17. 18. 19.

J

1.41 2.37 0.54 6.07 8.39 5.13 2.49 0.60 0.91 2.88 2.30 0.30 0.28 0.05 0.47 1.15 1.23 0.13 0.11

Austria Beigium/Lux. Denmark France Germany Italy Netherlands Norway Sweden Canada Japan Finland Greece Iceland Ireland Portugal Spain Turkey Yugoslavia &

= 570.48

(19 x 2756.22) - (134.61

x 134.61))

I’

,,‘(r19

x 165.68)

- (36.81

x 36.81))

r = 0.852

10.8 20.3 11.9 116.9 124.8 69.5 23.0 8.4 24.1 57.9 120.5 8.4 7.0 0.6 3.0 4.6 25.6 10.6 9.5

= 36.81

qy

z-ix = 165.68

139.93 x 134.61) x ((19 x 1822.60)

Y Average G.VP 1966-68

x

Average re*ewes end-l 965-68

&

= 54.802.32 - (36.8i

J

x 657.4)

x ((19 x 54802.32)

Rcrerves.GNP

= 657.4 _ ~;v_.Y= 2756.22

- (657.4

x 657.4))

rau” = 5.0%

“ore. See paragraphs 4.4 and 4.5

68

World

Development

Table 5. Calculation ofthe Coefficient of Comlation between thelncrements of the Average Reserves from end-195841 to end-1967-70 and the growth of Average Imports from 1959-61 to 1968- 70 for 0. E. C. D. Countries (excluding the U.S.A., the L’.K., and Switzerland) (U.S. $ billion) Y Imports increments

x

Reserves increments 1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. 12. 13. 14. 15. 16. 17. 18. 19.

Austria. BelgiumlLux.

0.83 0.96

1.61 6.01

Denmark France Germany Italy Netherlands Norway Sweden Canada

0.20 2.89 3.49 2.21 1.01 0.44 0.21 1.30 1.83 0.02 0.08 0.02 0.27 0.61 0.91 0.02 0.11

2.06 10.83 15.04 8.13 6.70 1.65 3.27 7.56 11.02 1.07 0.99 0.05 0.76 0.79 3.27 0.33 1.46

Japan Finland Greece Iceland Ireland Portugal Spain Turkey Yugoslavia xv=

&x

zyv

= 34.66

(19 x 151.38) ’

= ,&19

r

=

x 34.66)

x li.41))

- (17.41

x 82.60)

x ((19

x 705.71)

4.4 to 4.6

1 Nos. 3 & 4

Publishers M.S.I.

at Headington Hill Hall, Oxford, or from Fairview Park, Elmsford, New York,

Inc.,

N.Y. 10523. In order to avoid administrative costs, cash must accompany the order plus postage and handling charge of 25c.”

= 82.60

&J,

= 705.71

Growth of

0.939

Note. See paragraphs

Vol.

- (17.41

&

17.41

“This article has been reprinted as a monograph with an extensive preface by Paul Streeten and is available separately, price US $1.00 from the

- (82.60

= 151.38

x 82.60))

raerva~imports ratio = 21.1%

@ Chris. Economides,

1973

69

A Welcome to World Development A journal such as World Development ought to find a useful niche among the serious periodicals of our times. The multidisciplinary approach is greatly needed in a global community of every increasing complexity. There is need, too, to point out the disparities between the developed and the undeveloped and the striking failure of the communist countries to provide a better life for their peoples. Attention to international dialogues and detentes should not be allowed to obscure the truth about the authoritarians and their contributions to economic backwardness and international conflict. The prospectus you have set forth is one of liberalism. Let it be the true liberalism of honesty and letting the facts fall where they may without regard to preconceived prejudices. We expect World Development to be a journal of constructive advance, not one of retrogression into appeasement. C. K. Yen,

Vice-President, The Republic of China.

Thank you for affording me, on behalf of the Government of Dominica, an opportunity to offer warm congratulations on the occasion of the launching of your new multidisciplinary international journal-WORLD DEVELOPMENT-a venture, which, I have no doubt, will soon rank among the world’s prestigious, chaperoned as it is by such distinguished academics and practitioners from all major regions of the world, including the socialist countries. The Government of Dominica subscribe to the ideal to which the journal is committed, namely, the promotion and study of world development and will support all legitimate and reasonable efforts in that direction; particularly the attack on the world’s chief evils of malnutrition, disease, illiteracy, slums, unemployment and inequality. Indeed, I am of the firm conviction that reconciliation of the factors which now serve to maintain racial injustice will ensure the earlier resolutions of these evils. WORLD DEVELOPMENT should consistently and persistently bare to the world that we are all members of an interdependent community and every effort should be made to narrow the gap ” between rich and poor nations. , The Government and People of Dominica commend the initiative of the world’s leading economists and scientists in this new and bold exercise and express the sincere wish that WORLD DEVELOPMENT succeeds in securing international cooperation through the maintenance of international diaglogue against the existing barriers of conflicting disciplines and professions. The Hon. E. 0. LeBlanc, Cabinet Secretariat, Government Headquarters, Roseau, Dominica.

I have great pleasure in sending this brief message expressing my appreciation of the efforts made by this journal to bring home to its readers and through them the general mass of people outside the growing discrepancy between the developing and the developed countries. I do wish the journal

every success in this crusade. Dr. N. M. Perera, Minister of Finance. Sri Lanka.

70

World Development