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Necessary dismantling

George Osborne dismantles Brown's 'legacy' of debt. At the center of Osborne's budget 'was the argument that private sector activity will drive recovery and that an over-large state will crowd it out'. At last, reality begins to trump fantasy.

We await Mr Osborne's tackling of the haemorrhage of money and the straitjacket of private sector activity that results from our membership in the EU. That is the reason Brits will be paying more tax under Mr Osborne's budget.

Below the fold, Anthony Scholefield tells us why Osborne had to act and why, contrary to the usual political guff, the IMF cannot bail out Britain.

THE IMF CANNOT BAIL-OUT BRITAIN - WE ARE ON OUR OWN by Anthony Scholefield of FUTURUS

Before the election Ken Clarke said that a hung parliament would guarantee an International Monetary Fund [IMF] bail-out of Britain’s economy.

‘If the British don’t decide to put in a government with a working majority, and the markets think that we can’t tackle our debt and deficit problems, then the IMF will have to do it for us.’

Indeed, the default position of fiscal pessimists is that if an incoming government does not impose quick and large public sector spending cuts, Britain will have to call in the IMF, and that the IMF can solve the UK deficit problem with loans.

Niall Ferguson said in The Spectator, 6th May 2010, ‘At the same time, he [Cameron] needs to initiate talks with the IMF in case external support proves to be necessary’. Others have called for the IMF to be brought in for auditing the national debt and for moral support although Mr. Lipsky, Deputy Managing Director of the IMF, said in his press conference of May 10th, ‘We are not auditors, we are not accountants’.

But this raises the question, can the IMF bailout Britain?

The IMF is not designed to bail-out a large developed country and simply does not have the financial capacity to bail-out an economy the size of the UK with an annual public budget deficit of over £150 billion (US $240 billion).

PREVIOUS BAIL-OUTS

The largest IMF bail-out in the years up to 1997 was a US $21 billion loan to Korea in 1997. The bail-out to the UK in 1976 was US $2.3 billion. In the present crisis, the IMF has made standby arrangements to Turkey of US $10.8 billion, US $16.4 billion to the Ukraine and a promised US $49 billion to Mexico.

The details of the current bail-out to Greece is standby arrangements of about US $15 billion each year over three years, totalling US $45 billion.

The IMF criterion for ‘standby arrangements’ is, ‘a member can borrow 200 per cent of its quota (its shareholding) annually and up to 600 per cent cumulatively. However, access may be higher in certain circumstances.’

The Greek quota is 823.0, denominated in Special Drawing Rights (SDR’s), [on May 5th 2010 one SDR = 1.45 US$], which is approximately US $1.25 billion, so plainly the IMF share of the bail-out of Greece at US $45 billion is well above the normal standby arrangements (in total it is 3200 per cent of the Greek quota, according to the IMF).

Repayments of standby arrangements are supposed to commence within 1-2 years and to be repaid within 3-5 years. Once again, there is special provision for repayments to be extended up to ten years.

It is worth noting that the 250 billion increase in SDR’s in August 2009 prompted by the G20 will, according to the IMF ‘not increase the Fund’s resources for lending’. This is because an increase in SDR’s does not increase loanable funds at the IMF’s disposal but simply writes up both its assets and capital on its balance sheet.

THE IMF’S CAPACITY TO LEND

The total of quotas held by all countries is 217 billion (US $325 billion) [listed on 26/4/10]. This is, in effect, the total theoretical loanable capacity of the IMF (much of it is unusable), although it can borrow extra sums from its members – called the Flexible Credit Line, the Arrangement to Borrow, etc.

As indicated above, there have been several IMF commitments already in the latest crisis. In addition to the large loans mentioned above, there have been numerous small loans in Eastern Europe, the Caribbean, etc.

The terms of the IMF loan to Greece are yet to be fully disclosed but the US $45 billion is to be released in three yearly tranches with the two later tranches dependent on good behaviour.

So what is the present lending capacity of the IMF?

The IMF states that:

“The amount the IMF has readily available for new (non-concessional) lending is indicated by its one-year forward commitment capacity. This is determined by its usable resources, plus projected loan repayments over the subsequent twelve months, less the resources that have already been committed under existing lending arrangements, less a prudential balance.”

At the end of February 2010, the forward commitment capacity stated by the IMF was US$ 238.6 billion (including some US$ 135 billion special borrowings mainly from Japan).

At the G20 meeting in April 2009, and later, it was agreed to expand the special borrowings from member countries to US$ 600 billion (the US$ 135 billion mentioned above is part of that).

Additionally to the US $100 billion from Japan the other main commitments were US$ 100 billion each from the EU and USA with the balance being partly met by other countries. It should be noted that the full US$ 600 billion has still not been committed. It should also be noted that the EU total, increased from US$100 billion to US$ 178 billion, is not actually met by individual EU country pledges, which are only about US $50 billion. For the IMF and EU to list this US $178 billion is deeply misleading.

BRITAIN

When facing the prospect of bailing out a country with an economy the size of the UK, the IMF would face a situation of a completely different order of magnitude to bailing-out Greece.

The UK’s quota is 10,738 SDR’s – 4.94 per cent of the world total or approximately US $16 billion - compared with Greece’s 823 SDR’s and Britain’s GDP in 2007 was US $2.67 trillion while Greece’s was US $356 billion.

As seen above, Britain could draw 200 per cent of its quota annually with a cumulative total of 600 per cent, that is, US $32 billion per year and a cumulative total of US $96 billion but it could be more ‘in certain circumstances’. Greece is to be bailed out by 32 times its quota. For the UK this would be 32 x US $16 billion, or US $512 billion (more than the IMF’s loan capacity) – certainly a very large sum but the UK government deficit is running at US $240 billion per annum so it is barely more than funding a deficit for two years.

WHAT WILL HAPPEN?

My calculation, therefore, is that the IMF capacity to lend at 28/2/10 is as follows:

US $ billion

One Year Capacity (IMF definition above) 238.6
Undrawn Lending Arrangements:
USA 100.0
EU, including UK 50.0
Rest of World 100.0
488.6

Note that:
1) the figures for the EU and the Rest of the World are imprecise because the commitments are, themselves, imprecise;
2) the EU pledges contain pledges from Spain and Portugal;
3) the US has a veto on any loans through the 85 per cent rule and the Senate has passed a resolution forbidding loans to any country with debts greater than its GDP.

There is no way that the IMF is going to use more than a reasonable proportion of its loanable capacity to bail out a single country. At best, it might possibly lend 20-25 per cent of its loanable capacity or US $90-120 billion to one country – that would be a stretch.

Any IMF loan will be made in tranches such as to Greece. It insists on good fiscal behaviour and a transparent repayment programme. It does not make ad hoc loans. So it is unlikely that any first tranche will be more than one third of the total loan – in the case of the UK this would be about US $30-40 billion. For this amount, the IMF will take over the British financial government and will make all major financial decisions.

The IMF does not work as a Central Bank in a fractional reserve banking system but as a simple savings and loan institution. It cannot manufacture loans (although it did manufacture an increase in SDRs in 2009 as a kind of writing up of shareholders’ capital but, as its press release indicated, this did not increase its loanable capacity), but relies on recycling contributions from its members. Their willingness to contribute further extra money so that a country the size of Britain can be bailed out can be estimated as nil.

CONCLUSION

The IMF does not have the capacity to bail-out Britain. In an extreme case, it might provide standby arrangements of US $30-40 billion a year for three years. Such amounts are small in relation to British fiscal deficits of US $240 billion per annum. Of course, it will be argued that, even in the case of an IMF bail-out, there will be no need for the IMF to totally fund UK borrowing. It is argued that once the IMF commits money and insists on a proper deficit and debt reduction programme, private international investors will fund the bulk of the necessary UK borrowing. That may, or may not, happen. It is a matter of confidence.

Without prospect of significant financing from the IMF, the politicians cannot avoid immediate and severe reductions in public spending. There is no risk of a British default on existing debt but, if these reductions do not happen, access to further funding may evaporate forcing an overnight reduction in spending so that it is covered by revenue.

Anthony Scholefield
19 June 2010

Anthony Scholefield is the Director of Futurus, a think tank specializing in EU and immigration matters and is also a member of the Global Vision Academic Council. His latest booklet, published by the Social Affairs Unit in 2008, is 'Warning: Immigration Can Seriously Damage Your Wealth'.

FUTURUS
Suite 604 Linen Hall . 162 Regent Street . London W1B 5TG
Telephone/Fax: 020 7287 7277
Mobile: 07984 620187
email: anthony.scholefield@ntlworld.com

Comments (1)

jlh:

Was I dreaming, or did the UK, Canada and Germany just step up at the G-20 and say it's time to start cutting? What a revolutionary concept!

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