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International Monetary Fund (IMF) bailout

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March 29, 2023

Why in news?

Recently Sri Lanka secured a $3 billion bailout from the International Monetary Fund (IMF) amid the worst economic crisis.

What is IMF?

  • Establishment - The IMF was established in 1944 in the aftermath of the Great Depression of the 1930s.
  • Aim - To bring about international economic coordination to prevent competing currency devaluation by countries trying to promote their own exports.
  • Membership -IMF has 190 countries as its members.
  • Headquarters –Washington, D.C., United States.
  • Role - IMF is the last resort lender for countries facing severe economic crises.
  • The IMF fosters international financial stability by providing
    • Policy advice
    • Financial assistance
    • Capacity development
  • IMF provides financial support to countries hit by crises in order to restore economic stability and growth.
  • IMF does not lend for specific projects.
  • Resources of IMF - IMF funds come from three sources
    • Member quotas
    • Multilateral borrowing agreements
    • Bilateral borrowing agreements

What is the IMF bailout?

  • Bailout - Means extending support to an entity facing a threat of bankruptcy.
  • Lending - The IMF lends money countries the form of Special Drawing Rights (SDRs)
    • Special Drawing Rights (SDRs) is a basket of five currencies, US dollar, Euro, Chinese Yuan, Japanese Yen and British Pound
  • The bailout can be executed in the form of loans, cash, bonds, or stock purchases.
  • Reasons for bailout - Countries seek IMF bailouts for the following reasons
    • To resolve macroeconomic risks
    • To solve currency crises
    • To meet external debt obligations
    • To buy essential imports
    • To push the exchange value of their currencies
  • Conditions - The countries are expected to meet  following conditions for the IMF bailout
    • Structural reforms such as fiscal transparency, tax reforms.
    • Reforms in state-owned enterprises.
    • Reforms in macroeconomic variables like monetary and credit aggregates.
    • Reforms in international reserves.
    • Reforms in fiscal balances and external borrowing.

What about the crisis in Sri Lanka and Pakistan?

  • Sri Lankan economy crisis - Sri Lanka witnessed a sharp rise in domestic prices and the exchange value of their currencies plunged.
  • Currency crisis are usually the result of mismanagement of the currency by its central bank.
  • It is partly contributed to decline of foreign tourists during the Covid-19 pandemic.
  • Pakistan economy crisis – It is a part of 2022-2023 political unrest in Pakistan.
  • The crisis caused severe economic challenges for months due to which food, gas and oil prices have risen.
  • General factors that lead to economic crisis
  • Inappropriate fiscal and monetary policies
  • Large current account and fiscal deficits
  • High public debt levels
  • Exchange rate fixed at an inappropriate level
  • Weak financial system
  • Political instability and weak institutions

What are the pros and cons of IMF bailout?

Pros

Cons

  • Ensures the survival of a country amid economic turmoil
  • Ensures that the functioning of essential industries and economic systems
  • Provide technical expertise to the affected country on how to implement reforms to strengthen the economy and institutions
  • Can result in reduced government spending and higher taxes, measures
  • Can also create a sense of dependency on external funding
  • Affects  the investing environment in the country

 

 

Quick facts

India and the IMF

  • India is a founder member of the IMF.
  • India has not taken any financial assistance from the IMF since 1993.
  • Repayments of all the loans taken from International Monetary Fund have been completed on May 2000.
  • Finance Minister is the ex-officio Governor on the Board of Governors of the IMF.
  • RBI Governor is the Alternate Governor at the IMF.
  • India’s current quota in the IMF is SDR (Special Drawing Rights) 5,821.5 million making it the 13th largest quota holding country at IMF and giving it shareholdings of 2.44%.
  • India has invested SDR 750 million through nine note purchase agreements with the IMF.

Note purchase agreements is usually a temporary bilateral arrangement for an initial period of one year which may be extended by a period of up to two years and the principal of the notes is to be denominated in SDR

 

References

  1. The Indian Express │IMF Bailout
  2. Department Of Economic Affairs │IMF and India
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