The Chastening

by Paul Blustein

  Anyone inclined to view the IMF through the prism of conspiracy theories would find it difficult to square their suspicions with the personality of Stanley Fischer, the Fund’s first deputy managing director from 1994 to 2001, whose pleasant, unpretentious manner and impish smile was as disarming as his intellect was formidable. A former professor at the Massachusetts Institute of Technology, Fischer commanded a reputation as one of the leading lights of modern-day economics, with a graciousness that set him apart from most of the temperamental prima donnas in the top rungs of the profession. “He’s a very controlled person, and doesn’t ever raise his voice,” said Catherine Mann, a former student of Fischer’s at MIT who recalled that he was in huge demand as a thesis adviser. “The power of his arguments Just bore into you.” Such was the admiration in which he was held that even the IMF’s harshest critics, when blasting the Fund for one fault or another, often invoked the fact that Fischer had been struggling to correct it.

  Although he occupied the number two spot at the IMF, Fischer became its most influential figure after Joining it in 1994. This was partly because of the close ties he enJoyed with top officials at the U.S. Treasury, but it was also because the IMF staff almost universally viewed him as a superior economic mind to Managing Director Michel Camdessus, who wisely delegated to Fischer much of the authority that top management holds to render decisions and arbitrate differences among the staff.

  A slender man with silver hair and oval glasses, Fischer was born in 1943 and grew up in Mazabuka, a small, isolated farming village in what is now Zambia but was then the British colony of Northern Rhodesia. His father, who had emigrated from Latvia in 1926 at the age of nineteen, owned a general store, and his mother, whose parents had immigrated to South Africa from Lithuania, did the accounting. At the time of his birth, the family lived behind the store in a house with no running water or electricity; later, they moved to a house that had a flush toilet and a small gasoline-powered generator that could power lights but not appliances. For most of Fischer’s boyhood, his was the only Jewish family in the area, which was generally described as having 400 inhabitants—meaning 400 whites, since racism was taken for granted in a colony where 2 million blacks were kept subservient to a white population numbering onefortieth as many. Although whites didn’t socialize with blacks, Fischer would later conclude that his boyhood gave him a much greater understanding of the developing world than if he had grown up in a rich country.

  Fischer’s horizons began expanding in 1956 when his father sold his business in Mazabuka and moved the family 500 miles away to the larger town of Bulawayo, in what is now Zimbabwe, where Fischer met Rhoda Keet, his future wife. After finishing high school, he spent six months on an Israeli kibbutz to learn Hebrew. From there he went to England, obtaining bachelor’s and master’s degrees from the London School of Economics, and then to the United States, where, after earning his Ph.D. from MIT, he Joined the MIT faculty in 1973 and became an American citizen in 1976.

  His abiding interest in Israel lured Fischer from academic life to the world of public policy. The Israeli economy was suffering from runaway inflation and budget deficits in the early 1980s, and Fischer was asked by Secretary of State George Shultz to Join economist Herb Stein in advising the Israeli government on what action to take.

  The advice Fischer and Stein gave the Israelis worked—the Jewish state stabilized its economy in 1985—and when the World Bank offered Fischer the post of chief economist in 1988, Fischer Jumped at it, having derived much satisfaction from the economy-fixing in Israel. “My first experience was highly successful, so I could easily get the wrong impression,” he said wryly. He returned to MIT in the early 1990s but Jumped again in 1994 at the Clinton administration’s request that he assume the IMF’s deputy managing directorship.

  Michel Camdessus, the balding Frenchman to whom Fischer reported, also knew how to turn on the charm, which he occasionally punctuated with giggly bursts of Gallic exuberance. The father of six children, Camdessus had a penchant for optimistic pronouncements that agitated the U.S. Treasury, whose top policymakers feared that the managing director was eroding the IMF’s credibility with his sunny rhetoric about troubled countries “turning the corner.” Even Michael Mussa, the IMF’s chief economist, once teased his boss at an Executive Board meeting about his tendency to adopt a cheerful outlook. “Michel not only sees the glass half full instead of half-empty,” Mussa cracked, “he sees a half-full glass even when there isn’t any glass!”

  The IMF staff held Fischer in higher regard as an economist, but they knew Camdessus deserved his reputation as a consummate politician. It was not for lack of diplomatic skill, after all, that he was appointed an unprecedented three times—in 1987, 1991, and 1996—as managing director, a Job that requires constant Juggling of demands from the G-7 and other member countries. (As Fischer Joked when Camdessus retired from the IMF in 2000, Camdessus managed to irritate “every bloc of the Fund’s membership” but “never all at once.”) A glad-hander who bestowed compliments and thank-you notes liberally, Camdessus was nonetheless extremely formal and often brusque toward the IMF staff. Besides Mussa, virtually no one on the staff called him by his first name; he was “Mr. Managing Director.”

  Camdessus, whose father was a Journalist, Joined the French Finance Ministry in 1960. He was a quintessential product of his country’s elite civil service, having graduated from the prestigious Ecole Nationale d’Administration, with a taste for interventionist policies but a readiness to put practical politics above ideology. As a youth he belonged to the Catholic wing of the Socialist Party, and his career flourished after Socialist President François Mitterrand’s 1981 election victory, which was followed in 1982 by Camdessus’s promotion to the directorship of the Treasury, a post at the very pinnacle of the civil service. He helped design Mitterrand’s ambitious program of heavy government spending, nationalization of industries, and increased benefits for workers. But when Mitterrand’s policies engendered embarrassing devaluations of the franc, along with rising inflation and unemployment, Camdessus demonstrated the ideological dexterity for which he would later become noted among the IMF staff, helping to orchestrate the Socialist government’s “great U-turn” in 1983 toward financially orthodox spending cuts, tax reductions, and deregulation. He left the ministry in late 1984 to become governor of France’s central bank, where he presided over a tough anti-inflation stance and a loosening of controls over the financial markets. During his tenure at the IMF, his Socialist background was a source of derision among Republicans in the U.S. Congress, but Camdessus deflected the criticism goodhumoredly, once telling reporters in Washington, “Your humble servant of course here is a French Socialist; while in France . . . I am an ultra neoliberal Anglo-Saxon.”

  But the role of the IMF staff and top management, important as they are, is only part of the story. As an international organization, after all, the IMF has political masters.

  On the twelfth floor of the IMF’s headquarters is its sanctum sanctorum, an oval-shaped room sixty feet long and two stories high with plush blue carpeting and suede-and-wood paneling, decorated only by six large portraits of past managing directors. In the center stands a horseshoe-shaped table with thirty gray swivel chairs around the periphery and microphones at each seat.

  This is the meeting room for the IMF’s twenty-four executive directors, who must pass Judgment on every maJor Fund decision and, to do so, convene as often as three times a week, with the managing director or a deputy managing director chairing the session. Each executive director represents a country or a group of countries, with voting power apportioned according to how much each country has contributed to the Fund. The voting power is adJusted periodically, but in 2002 the U.S. executive director held 17.10 percent of the votes. Japan’s director was second with 6.14 percent, followed by Germany’s with 6.00 percent. A director from Nigeria representing twenty-one African countries held 3.22 percent of the votes; another director, from Egypt, represented thirteen
Arab countries and held 2.95 percent of the votes; still another, from Brazil, represented nine Latin American countries and held 2.46 percent of the votes; and so on. Many of the directors are well-trained international economists or high-level bureaucrats from their countries’ finance ministries who engage in sharp repartee over fine points of economics. Others lack sufficient background to make much of a contribution to the debate.

  Contested votes at the board are rare; most of the decisions are approved by consensus following informal negotiations. As a result, the Fund’s critics often deride the board as a rubber stamp for the staff. But on the most critical issues, real power lies with the top economic policymakers of the G-7 countries, which control nearly half the votes. One select group, in particular, might be described without too much exaggeration as puppetmasters pulling strings behind a screen—the G-7 deputies, or G-7D for short.

  The G-7D exercise extraordinary control over international economic policy while attracting little attention in the media. Some of the deputies are well known—Larry Summers, the U.S. representative to the group during his six years as deputy secretary and undersecretary of the Treasury, was a high-profile G-7 deputy, as was Eisuke Sakakibara, the former vice minister for international affairs at Japan’s Finance Ministry who was dubbed “Mr. Yen.” But the group’s activities and discussions are kept out of the public spotlight as much as possible. The deputies hold unheralded gatherings, sometimes getting together in airport VIP lounges to ensure that the press stays in the dark. Although aides may accompany them to the meetings, they wait outside the meeting rooms while the deputies meet alone. The group remains in frequent contact by telephone conference call, even though at least some of them (almost always the Japanese) must stay up late at night to participate because of time-zone differences.

  The spotlight instead shines on others: The deputies’ immediate bosses, the finance ministers (in the U.S. case, the Treasury secretary), are the ones whose meetings every few months produce pronouncements and communiqués on currencies and other international monetary matters that draw scrutiny from hordes of financial reporters and analysts. Their ultimate bosses, the G-7 heads of state, are the ones whose annual summits attract worldwide attention in the mass media. But the deputies assume responsibility for reaching agreement on most economic issues—both in advance of their bosses’ meetings and at other times as well.

  Of course, the deputies are accountable to their superiors and may be overruled by them. But there are important practical reasons for their influence. “During crisis periods, there may be three or four conference calls a day. Ministers Just can’t do that,” said Klaus Regling, who was Germany’s representative to the G-7D in 1998. “Also, deputies can communicate in English; not all the ministers can. In any case, it’s inappropriate for ministers to do technical work. They need their top bureaucrats to do that. These are pretty highcaliber people; many of them have been doing it for years, so they know each other, and they know they can rely on each other.”

  Arguments often rage within the G-7D, but countries on the losing side usually abide by the consensus and keep their criticisms as quiet as possible, to avoid roiling financial markets. The members “know they have to come to an agreement; otherwise there could really be a crisis in the world economy,” Regling said. On occasion they are truly split, which forces ministers to get involved; in cases involving IMF issues, an unresolved rift within the group allows Fund management to decide the policy.

  Given the superpower status of the United States, of course, the G-7 is hardly a democratic organization, and the U.S. position usually prevails. Although Washington cannot dictate to the others and is obliged to try reaching consensus with them, it enJoys a unique ability to generate support, so the others tend to be content to play the role of checking and balancing. U.S. influence is particularly great in matters involving the IMF and dates to the days of the institution’s founding.

  On December 14, 1941, one week after the attack on Pearl Harbor, Secretary of the Treasury Henry Morgenthau Jr. directed his assistant for international affairs, Harry Dexter White, to prepare a memorandum on the establishment of a fund for the Allied powers that “should provide the basis for postwar international monetary arrangements.” That memo began a process in which White would Join with Britain’s John Maynard Keynes, the twentieth century’s most influential economist, to draft the plan for the creation of the IMF and the World Bank that was approved at a 1944 conference in Bretton Woods, New Hampshire. Although they shared a similar vision, White and Keynes would differ on some key points, and White’s views would prevail, thanks to his country’s preeminence in the global order.

  Like most mainstream economists at the time, White abhorred the nationalistic economic policies adopted in the 1930s—in particular, the widespread practice of trade protectionism—that had led the world into depression and war. During that period, many countries erected high tariffs and imposed import quotas to protect struggling industries from foreign competition, and they deliberately devalued their currencies to reduce imports and provide their firms with competitive advantages. This endless cycle of beggar-thy-neighbor behavior provided some nations with short-term benefits, but it proved mutually destructive because it stifled international commerce and accelerated the downward spiral in the global economy.

  Accordingly, White favored a system in which currency values would be fixed, with an international fund aimed at maintaining those exchange rates. For one thing, this would help foster a climate of international stability. For another, a system of fixed rates would help enable countries to reach mutually beneficial agreements to lower trade barriers. Each country would feel more assured that it could benefit from such accords if it didn’t have to worry about other nations indulging in an orgy of currency devaluations.

  White also favored controls on international capital, restricting investors and bankers from moving money across borders. Freely flowing capital, he believed, offered few benefits and threatened to reignite the monetary chaos that had preceded the war.

  As he developed his plan, White began corresponding with Keynes, then an adviser to the British chancellor of the Exchequer, who drafted a proposal of his own. Keynes agreed with White’s main points, but he favored the creation of an “International Clearing Union,” a sort of global central bank, that would maintain control over the worldwide supply of credit. White opposed the idea as too ambitious—in part because he feared Congress would refuse to approve the large U.S. contribution that would be required, and in part because he wanted a system based on the primacy of the U.S. dollar.

  Negotiations were stormy at times, but White and Keynes were able to find common ground, and their efforts culminated at Bretton Woods, in a nineteenth-century resort hotel nestled amid New Hampshire’s White Mountains. There, three weeks after the invasion of Normandy, representatives of forty-five nations convened to draft and sign the articles of agreement of the IMF and World Bank. The design of the Fund and the new global monetary order was more in line with the White plan than the Keynes plan, for the “Bretton Woods system” had as its anchor the U.S. dollar, whose value was pegged to gold. The U.S. Treasury promised to exchange one ounce of gold for $35, and all other members of the IMF were required to set the values of their currency either in terms of gold or the dollar. If a country wanted to change its foreign exchange rate by more than 1 percent, it had to obtain the IMF’s consent, and if it needed hard currency, it could draw from the Fund. Movement of private capital across national borders was highly restricted.

  The system lasted for a little over a quarter century. Occasional crises flared, a prominent example being the turmoil that led to the devaluation of the British pound from $2.80 to $2.40 in 1967. But the fixed-rate regime worked more or less as envisioned until the early 1970s, when the United States fell victim to inflation, making the $35 gold price a bargain, which in turn put overwhelming demands on the Treasury’s gold stocks and destroyed the dollar’s anchoring role. After 1
973, when the world’s maJor currencies began moving freely against each other according to market forces, the IMF changed its rules to allow each member to determine whether to float or fix its currency or use some in-between method involving gradual adJustments, such as “adjustable pegs” or “bands” within which their currencies could fluctuate.

  Still, the IMF retained its essential structure as a credit union for countries. Upon Joining, each member deposited money, called a “quota,” into the Fund, and 25 percent of this had to come in the form of gold or hard currency. A country that ran into a payments problem could immediately withdraw its 25 percent hard-currency deposit, and if it needed more, it could borrow up to three times its quota, provided it implemented an economic reform program approved by the Fund. In a real emergency, the Fund could approve loans exceeding that limit.

  In a sense, the IMF lost its raison d’être with the death of the fixed-rate system. But it soon found new roles. During the oil shocks of the 1970s, it helped in “recycling” revenues from petroleum-producing countries to developing countries, and during the 1980s, it became heavily involved in resolving the Latin American debt crisis. In response to howls that it had become a self-perpetuating bureaucracy without a legitimate mandate for existence, the Fund cited its articles of agreement, in particular Article I (v), which declared that one of its purposes was “to give confidence to members by making the general resources of the Fund temporarily available to them under adequate safeguards, thus providing them with the opportunity to correct maladjustments in their balance of payments without resorting to measures destructive of national or international prosperity.”

  That was the Justification for the IMF’s involvement when trouble began looming in Asia in the mid-1990s. But by that time, the world financial system had undergone changes that far surpassed the end of the $35-an-ounce gold price.