This past week the G20 took the first step toward both restoring and reforming the
global financial system and gave substantial power to the IMF. The key
agreements that came out of the G20 meeting were the expansion of the IMF
resources and the establishment of the financial stability board.
With this action, the world leaders have continued the work of John Maynard
Keynes and Harry Dexter White and created a global central bank. After WWII, the
United States was the only country financially stable enough to rebuild the
world economy. Because of this strength the United States and the Federal
Reserve became the lender of last resort and the de facto global central bank.
That leadership ended last week.
The US global political and economic influence will certainly not disappear
overnight, but the role as financial savior has. The IMF has now become the
lender of last resort and has been charged with the task of global risk manager.
While the G20 set in motion the transition of the IMF into the global central
bank, there are three tests the IMF must pass before it becomes the institution
Keynes and Dexter envisioned.
Test 1 – Stabilize the Financial System
The first step toward stabilizing the financial system is to provide loans to
countries that have been hurt by the drop in global trade. In the past, an IMF
loan has not only come with a scarlet letter, but also with so many strings
attached that it hampered a country's ability to compete in a global
In March, the IMF gave its lending system a much needed face lift. The
creation of the Flexible Credit Line (FCL) was a major change that will allow
well run countries to access credit in a pre-emptive manner. In this way, the
IMF has created a loan that will be a first line of defense against capital
This first test was successfully passed with Mexico's request and acceptance
of an IMF loan. Heretofore, a loan from the IMF would be met with massive
currency devaluation and a flight of capital. However, when the loan to Mexico
was announced the Mexican Peso actually increased in value vs. the US Dollar.
This will encourage other countries to come forward and seek IMF help.
Test 2 – Prevent Protectionism
Step two is to ensure that global trade does not suffer from protectionist
policies or unstable financial practices. The G20 is committed to fighting
protectionism, but the task may be more difficult than in the past.
Protectionism is now more nuanced. The G20 recognizes that currency devaluation
is a form of protectionism and specifically mentioned their distaste for