US GAO Report on IMF’s ability to Anticipate, Prevent, and Resolve Financial Crises.

Dear Colleagues,

Last week, our Corporate Secretariat sent us a document dated June 26, 2003, titled U. S. General Accounting Office: International Financial Crisis … Challenges Remain in IMF’s ability to Anticipate, Prevent, and Resolve Financial Crises.

It is an extraordinary document, as within the context of “According to World Bank estimates, the financial costs to countries that experienced crisis in the 1980s and 1990s exceeded $1 trillion—greater than the total amount of all donors’ assistance to developing countries,” it puts forward statements such as:

“During the 1991–2001 forecast periods, 134 recessions occurred in all 87 emerging market countries. We found that the WEO (World Economic Outlook) correctly forecasted only 15, or 11 percent, of those recessions, while predicting an increase in GDP in the other 119 actual recessions.”

“Our analysis for the 87 emerging countries shows that, for more than 75 percent of the countries, the WEO current account forecasts were less accurate than if the Fund had simply assumed that the next year’s current account would be the same as this year’s. The results are even more dramatic for G7 countries: a forecast of no change was a better predictor than the WEO forecast for six of the seven countries. This demonstrates that, even in stable economies with excellent data, the WEO has done a poor job of forecasting this key crisis anticipation variable.”

“Internal assessment of the Fund’s EWS (Early Warning System) models shows that they are weak predictors of actual crisis. The models’ most significant limitation is that they have high false-alarm rates. In about 80 percent of the cases where a crisis was predicted over the next 24 months, no crisis occurred. Furthermore, in about 9 percent of the cases where no crisis was predicted, there was a crisis.”

I find that the document, presented not by any unknown NGO but by an important official entity of the United States, raises some very serious questions that we cannot, and should not, ignore.

In any normal private environment, unless the forecasters were sons of the founders, they would have been fired. In institutions such as the IMF that predicate accountability, has this ever occurred?

With such an amazingly lousy track record, would the Bank be better served by assuming a contrarian strategy in terms of getting in when IMF announces crisis?

Does IMF’s lackluster performance suggest the need for reviewing the risks of delegating so much authority in today’s financial markets to perhaps equally fallible credit-rating agencies?

Yesterday, we had a Steering Committee and, to my surprise, I did not see even a small informal session planned for the discussion of this document. I can perfectly understand the need of solidarity with institutions such as IMF, but it has to have its boundaries especially as our solidarity with the countries and the poor has to be in the forefront.

The world will take this document in its hand and, once it really comprehends that it is reading what it is reading, suddenly very serious questions could be asked.

Finally, the report includes on its cover the legend: “This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank Group authorization.” As its whole contents, and much more, can easily be found on the GAO’s Web page, I wonder whether we are not better served by including the confidentiality clause only when it is truly confidential, at least in these times of transparency.

Per

Extracted from "Voice and Noise" 2006 

An Unsustainable Sustainability

The latest fashion in the academic world of international finance is to calculate what is known as the Sustainable Debt Level (SDL). As you may have guessed, it has to do with the level of public debt a country can sustain without entering into a crisis. Normally the SDL is calculated based on the size of the economy (GNP) or on a country’s exports.

Whatever scientific approach is given to the SDL issue, it sure seems somewhat obscene to the citizenry of countries where it is evident that public debt engenders low or even no productivity.

If a credit is granted properly, the credit is repaid and then debt levels never become a problem. It is only the bad or mediocre loans that accumulate—those that do not generate their own repayment. So it could be said that what is really being calculated with the SDL is the level of bad debt that a country can get saddled with. Quite frankly, a developing country with real needs cannot afford the luxury of canceling even one cent in interest on a debt level arising from a series of credits that are nonproductive on the average.

From this perspective and since what we really mean is sustaining something that is unsustainable, this question remains: wouldn’t it be better to skip calculating this debt level and try to free ourselves once and for all from these mortgages, instead of condemning future generations to live forever under the weight of an SDL that has been perfectly calculated? How much torture can the torture victim take before passing out?

And who encouraged these countries to go into debt? Ask those who are well-acquainted with the temptation that credits pose to politicians. In China, they say that you wish for your enemies to live in interesting times. In Argentina, because of the suffering provoked by excessive debt, it would seem that what their enemies could have wished upon them was the trust and confidence of international markets.

On the day that our country Venezuela firmly and irrevocably sets upon the path of totally canceling its debt, on this day an enormous opportunity will open for all those private and collective initiatives that need financial oxygen. Unfortunately it will not be easy, since our politicians, while condemning past debts, have mastered the magic of simultaneously preaching the benefits of new credits.

From El Universal, Caracas, June 5, 2003
As translated in my "Voice and Noise" of 2006

And this article lead me here:

The financial handicap

In horse racing, to try to equalize the chances of victory among the competitors, the handicap system is frequently used, which implies putting a greater weight on the horses, which have shown a greater ability to win. The world of finance is not so benevolent, there more weight is imposed on those who, according to the market, have fewer prospects... present greater risk.

Every morning when a Venezuelan goes out to build his future and that of his Homeland, whether he is a public or private servant, he carries on his shoulders the weight of the country risk (CR) that the financial markets have set that day. That CR, which in principle is calculated based on how much more interest the market requires for Venezuela's external public debt, compared to a similar one in the United States, is currently located at 11% - 14%.

CR affects not only the public sector, but permeates the entire economy. Effectively, we see, for example, a private person who wishes to contract external debt and if he does not have external guarantees to offer, he must pay his normal interest rate, plus the CR. In terms of public service rates, the models indicate the need to reward the investor with a normal profit margin, plus the CR.

A high CR is economic contamination, which covers everything and prevents breathing normally. If Venezuela wants to recover from this economic emphysema, there is no better way than to reduce the CR fast and considerably.

Obviously, CR has many causes and many origins, but the main one is generally related to the ability to service the country's public debt.

In this sense, I guarantee you that if we only manage to spread the amortization of our public debt over a much longer term and guarantee to the market that this is not done to increase it later, due to its relatively modest size, we could quickly achieve that our debt was classified as investment grade, which would reduce the CR considerably.

All it takes is a little will and drive. If the discordant parties insist on preferring to fight suffocated and short of breath, then so be it. However, I am convinced that the oxygen that reducing the CR would produce would benefit both the Government and the opposition, not to mention the rest of our country, which needs and deserves it so much.

Translated from El Universal