FROM THE OFFICE OF PUBLIC AFFAIRS

Mr Chairman. I am pleased to have this opportunity to discuss reform of the International Monetary Fund, which I know to have been of considerable interest to this committee and other members of Congress.

Today I would like to discuss where we are in carrying forward the important reforms to the IMF contained in the legislation passed last fall. I will then reflect a little on the broader challenges we -- and the international community as a whole -- must face going forward in response to recent financial crises in emerging markets. First, however, let me just say a few words about the events of the past year and a half and the IMF's role in those events.

The IMF has appropriately been at the forefront of global attention during this period, as the core vehicle for international response to what has been called the most serious global financial crisis in fifty years. The financial disruptions that began in Thailand in the summer of 1997 have caused immense damage in the countries affected -- including large chunks of Asia, Russia and Brazil -- and major destabilizing shifts in trade flows and asset prices around the world.

Economists and other policy makers will rightly be debating the causes of these crises for a long time to come. And as the IMF moves forward from these experiences it will be important for it to reflect on its own actions and consider how best to improve its approaches going forward. If there is one message running through my entire testimony today it is this one, that the global economy has changed greatly in recent years, and the IMF has to change with it.

But, Mr Chairman, I have no doubt that without an IMF with the capacity to respond to these crises, the costs of these crises would have been even higher -- and the impact on our own economy and markets much more severe. While important domestic industries have been adversely affected by these events, the basic momentum of the recovery remains strong. And a significant part of the credit for this must go to the actions taken by the international community last fall to support growth and stability --- of which one of the most important was the passage of IMF funding legislation by Congress last October.

Let me now turn to the important reforms of the IMF that were mandated as part of that legislation and the progress we have made in implementing those reforms.

I. An Evolving IMF

Mr Chairman, when Congress passed the IMF authorization and appropriations legislation of 1998 it affirmed a commitment to a much reformed, much more effective IMF. Let me say this is a commitment that the Administration wholeheartedly shares and we are extremely focused on working to achieve.

As Secretary Rubin, Chairman Greenspan and I all underlined last year in testifying before this committee and others in Congress -- to say that the IMF is indispensable is not to say we should be entirely happy with the IMF we have today. Events in Asia and other emerging markets from mid-1997 onwards have underscored a need to instigate change in critical areas, all highlighted in last year's legislation:

• first, the IMF needs to be more transparent and open in its agreements with countries. beyond.

• second, the IMF needs to be more accountable to its members for its use of public resources and allow for external evaluation of its procedures and the results they bring.

• third, the IMF needs to work harder in designing the terms of financial support to make it more market-based and more "exceptional" to its recipients, so as to discourage countries from imprudent lending and borrowing at the international community's expense.

• fourth, and related, the IMF needs to work with others in the international community to ensure greater private sector burden sharing in the event of crises.

• fifth, the IMF in designing its programs needs to take better account of the broader structural and institutional environment within which they are to be implemented -- with a greater focus on reforms to reduce trade barriers and unproductive expenditures, promote core labor standards and mitigate the social costs of economic adjustments.

Mr Chairman, as we said at the time, one of the best reasons for the United States to play its role in ensuring adequate financing for the IMF last year was to maximize our capacity to bring about these and other key changes in the way the IMF and the international monetary system operates. And we were glad to see these shared objectives reflected in last fall's legislation.

Since the legislation was passed we have begun to build an international consensus on these changes. In direct compliance with the legislation, Secretary Rubin and Chairman Greenspan certified to Congress very soon after passage of the bill that the major IMF shareholders had formally endorsed certain core objectives, as expressed in a joint memorandum of the G7 Executive Directors of the IMF, released to the public on October 30 (see attachment).

It is early days yet. No one should doubt that we are only part way down the long road toward reforming the IMF. For our part we fully recognize that there is great deal for us to do. But I can tell you today that the United States has made real progress in furthering some key American values.

Today let me review the main changes under way in five areas highlighted in last year's legislation and then report on how we plan to continue this progress going forward.

1. Increased Transparency

The legislation recognized -- correctly -- that an institution wielding as much influence in the global economy as the IMF, and that is underwritten by the world's taxpayers, cannot and must not operate entirely behind closed doors. Thanks to recent United States-initiated reforms, the IMF has moved significantly toward openness and transparency.

The major IMF shareholders have collectively endorsed -- for the first time -- the proposition that, as a general principle, the IMF should adopt a presumption in favor of releasing a broad array of information on its policies, programs and objectives.

The concrete changes already achieved include:

• much broader publication of "Press Information Notices"outlining the Executive Board's assessment following the IMF staff's regular ("Article IV") consultations with national authorities. Just two years ago this was exceptional. Today, with 90 countries having published PINs, it is becoming the rule.

• as a condition for IMF support programs, there is now a de facto policy of the borrower's publishing the so-called "Letters of Intent" and "Policy Framework Papers" that detail the terms and conditions of those programs. We see this shift affirmed in the publication of "LOIs" and "PFPs" following major recent IMF programs in Brazil, Russia and East Asia.

• publication of much more comprehensive information on the Fund's financial position, including a liquidity table and summary of countries' accounts with the Fund and all outstanding loans.

Let me add that all of this information is now available on the IMF's website, which has been greatly expanded and improved.

Going forward we will seek to codify those practices that remain de facto and will press for further steps to increase the transparency of the IMF and its operations, including timely release on the Internet of written summaries of Board discussions of the economic policies of member countries and IMF support programs, and improved public access to IMF archives.

2. Greater Accountability

The IMF legislation highlighted that the IMF can and must be held more accountable to its members -- and the public at large -- for its policies and programs and for its use of international financial resources. And here, too, there have recently been some important progress as a result of our efforts.

Concrete steps to increase accountability include:

• public release of internal staff evaluations of past IMF programs, including, most recently, the publication of a comprehensive review of the Fund's recent programs in Asia and a summary of the Board's discussion of its conclusions.

• greater external evaluation of Fund programs -- the first of which, assessing use of the Fund's Enhanced Structural Adjustment Facility, was published last year. External reviews of the Fund's surveillance of its members' economies and of its research activities are now in progress.

• comprehensive reporting to Congress on a wide range of Fund-related issues, including a regular report by the Secretary of the Treasury to the appropriate committees on IMF arrangements supported by commitments from the Exchange Stabilization Fund; progress in promoting policies for which the United States' use of its influence in the IMF is mandated; and identification of IMF arrangements under which financing is provided at substantially higher interest rates and shorter maturities than standard terms provide.

Of course, as we go forward, we can and we must go further to enhance public and congressional scrutiny of the Fund's programs and use of IMF financing.

3. More Market-Based Loans

The IMF funding legislation shared the Administration's desire to ensure that exceptional amounts of IMF assistance should be just that -- a very temporary substitute for private finance in cases of exceptional need.

In the fall of 1997 the United States led an important innovation in this area with the creation of a new IMF facility -- the Supplemental Reserve Facility. This marked a fundamental change in the terms and conditions of IMF lending, with money provided only on shorter term basis, at premium rates of interest, to provide countries with maximum incentive to seek alternative, private sources of finance and repay loans as quickly as possible.

Following this innovation, a growing proportion of outstanding IMF credit is being provided with interest rates that are at least 3 percentage points above short-term market interest rates in the major industrial economies, with a maturity of 2.5 years or less. In 1998, about $18 billion of IMF financing was provided on such terms -- or more than 40 percent of all IMF lending.

Looking ahead, I can confirm today that any use of the new contingent credit line for combating financial market contagion -- whose creation was endorsed by the G7 last fall -- will also carry premium interest rates and shorter maturities.

4. Private Sector Burden-Sharing

Mr Chairman, our efforts to toughen the terms of IMF exceptional financial assistance and make it more market-based can be seen as part of a broader strategy for combating "moral hazard" -- something I know to have been a very real concern to members of this committee and to others on Congress.

We must always be mindful of the danger that the provision of international financial support to countries will encourage imprudent borrowing and lending, either by governments and by the private sector. This is an extremely complex and difficult issue to work through but let me say that it has been and continues to be a major focus within the Administration and in multilateral fora.

In a few moments I will discuss how this concern feeds into broader issues relating to the reform the international financial architecture and our ongoing efforts to reduce the risk of future crises. Here let me just mention some of the recent developments in IMF programs and policies that will reduce the scope for moral hazard in lending programs and encourage greater private sector burden sharing in the event of crises, both at the domestic and the international level:

First, the IMF is increasing its attention to the development and maintenance of effective domestic bankruptcy laws and procedures a core component of policy programs so as encourage private sector resolution of debt problems before crisis strikes. In accordance with the IMF legislation, we are working to build support for the broader incorporation into IMF programs of the provision of a legal basis for non-discriminatory treatment in insolvency proceedings between domestic and foreign creditors and for debtors and other concerned persons. For example, in Indonesia, the Fund has been actively involved in developing a national bankruptcy law and procedures to advance the process of bankruptcy, including training judges and creating a system for private sector ad hoc judges.

Second, to facilitate greater private sector burden-sharing at an international level, United States pressure has helped to extend the IMF's long-standing policy on lending to governments that are in arrears on external debt so that such "lending into arrears" can take place -- in very special circumstances and on a case-by-case basis -- when the arrears include debt to private lenders. Such a policy could be a useful signal to private creditors that encourages them to share the burden of economic adjustment. This policy was translated into action for the first time in the treatment of certain kinds of Ukrainian private foreign debt in the lead-up to last summer's Ukrainian lending program.

Third, following the ground-breaking voluntary involvement of private bank creditors in the December 1997 Korea program, the United States has sought to encourage recipient countries to reach voluntary agreements with major international private creditors and to support the objectives of the program. This has occurred most recently in Brazil, where the government met with major creditors to discuss the program and underline its importance.

5. Improved Policies

Mr. Chairman, the IMF legislation set out a number of important objectives for program design and required that the G7 endorse certain core elements. We were able to obtain such an endorsement as part of the G7 Executive Directors' October 30 memorandum.

Among other things, this statement means that the dominant shareholders of the IMF have for the first time explicitly endorsed the principle that conditions on the use of IMF resources should include requirements to liberalize trade and eliminate directed lending and other unfair or market-distorting subsidies.

As you know, the legislation covered a very wide range of issues that ought to play a larger part in the design and implementation of IMF lending programs. In addition to trade liberalization and eliminating directed lending, these include raising the transparency of government budgets in general and military budgets in particular, promoting core labor standards, strengthening social safety nets and the promotion of good governance.

Some of these ideas or approaches are not yet widely accepted within the IMF and will require much more internal lobbying by the United States as we go forward. But I am able to report that in a number of key instances in recent months we have been able to make a difference in areas of particular importance to the United States.

For example:

• as a condition for the Korean stand-by arrangement with the Fund the Korean authorities committed themselves to end directed lending and subsidies and eliminate the various special tax and incentive schemes for selected industries. During the most recent quarterly review of the program, IMF staff provided -- at the insistence of the US Executive Director, Karin Lissakers -- a note certifying that the Korean government had fulfilled this and other commitments. Staff will continue to monitor Korea's adherence to this commitment as part of the normal review process.

• at the same quarterly review of Korea's program the United States Executive Director was also instrumental in securing agreement from the Koreans to fully bind the commitments on liberalization of financial services that they made to enter the Organization for Economic Cooperation and Development under the auspices of the World Trade Organization -- as a prior condition for approving the quarterly disbursement of IMF funds.

• in the case of Brazil, the United States chair stressed to the Brazilian authorities and to the IMF Board and management that Brazil needed to meet international trade obligations and more informally, confirmed that there were no intentions to raise tariffs as part of the government's fiscal adjustment program. At our urging, the text of Brazil's agreement with the IMF also included a pledge to continue its policy of trade liberalization and integration.

• we have won the agreement of the major G7 shareholders to ask the IMF Executive Board to consider timely and systematic publication of the results of IMF surveillance of the degree to which each of its member countries meets internationally recognized codes and standards of transparency and disclosure in the form of a regular "transparency report".

• last June, following combined pressure by the IMF and the United States, Indonesia ratified ILO Convention 87 on Freedom of Association. It has also signaled its intention to ratify other key Conventions on the abolition of forced labor, employment discrimination and child labor this year.

• in addition, earlier this month, the United States abstained from supporting an IMF loan to Pakistan, and the United States Executive Director made a formal statement to the Board highlighting Pakistan's very poor record on child labor as an important element in the United States' decision to withhold support.

These are significant steps. We have raised and will continue to raise the issues and concerns highlighted in the legislation repeatedly with the Fund's staff on country after country -- both in informal contacts and in the deliberations of the IMF Board. But we still need to work to achieve change on a broader front. As we continue to work to advance our agenda, we should bear in mind that the IMF consists of 182 members and that the IMF operates best when it operates on the basis of consensus.

On many of the mandated issues, there are diverse views among the Fund's key members as to whether these fall within the Fund's core responsibilities. This means that the United States needs to work across many fronts to build support:

• through regular, more timely input on IMF policies from Treasury and other United States government agencies, including the Labor Department, USTR and the State Department.

• through earlier, more vigorous "working of the system" by the office of the United States Executive Director, Karin Lissakers, with US input provided to IMF staff well before program or surveillance document comes to the Executive Board for discussion. This helps improve the prospects that our views will be taken into consideration early in the process.

• through pressing the IMF to strengthen its collaboration with other organizations such as the World Bank, the MDBs, the WTO and the ILO.

• and by working hard to build consensus with our colleagues in the major industrial countries, as exemplified by the October 30 G-7 Executive Directors statement.

II. Broader Issues Relating to the IMF's Global Role

Mr Chairman, I think we all recognize that there are broader concerns coming out of recent events going well beyond those expressed in the recent legislation. The crises in Asia and elsewhere were predicted by no one and they have pointed up a great many very difficult issues for the international community -- problems for which no one today has lasting or comprehensive solutions.

As Chairman Greenspan has stressed in his recent appearances before this Chamber and the House, these crises come in against the backdrop of a international financial system that is today profoundly different from ten, even five years ago. Almost every feature of the market -- be it the suppliers of services, the nature of the products traded, the technology underlying those trades or their geographical reach -- is barely recognizable relative to the recent past.

These changes have brought enormous benefits to consumers and producers here in the United States and around the world -- from the narrowing of the gap between American mortgage rates and Treasuries to the provision of new finance to build schools and bridges in the developing world. But the same innovations and reforms that open up new opportunities also open up new risks to financial stability and new kinds of financial crises of a scale and ferocity quite unlike any the world has ever seen.

The world has changed. And it is fair to say that governments in the developing and developed world, international financial institutions, and even many of the private sector actors in these markets, have not kept of with the pace of these changes or properly mastered the implications. This is the challenge we all face today as we reflect on recent experiences and work to adapt the system to reduce the risk of similar crises being repeated.

I wish it were possible to say here today that we can build an international financial system in which no crises will come -- or, when they come, in which their effects will always be perfectly contained. This no one can promise.

However, it is appropriate and necessary that the IMF and the international community focus on the issues highlighted by recent events and evolve new ways to approach them forward. No doubt it will take time for the world to build consensus on the core elements of an international financial architecture better-attuned to modern market realities. But the past year and a half have brought some important places to start.

Better attuning IMF prescriptions to the needs of emerging market economies:

In retrospect it is clear that in too many cases the immense new flows of private capital available to emerging economies in recent years far out-paced these economies' structural and institutional capacity to absorb it productively. This points to a broader lesson -- that in the new global economy sound macroeconomic policies are important, but they are far from sufficient.

The upshot is that it will be increasingly critical for the IMF to consider its advice and prescriptions for countries against a broader canvas: to consider not just the level of public spending but its quality and the distortions it creates, and not just the level of tax rate but the overall structure of the tax system and the institutions that enforce it. It matters whether there is an effective rule of law that allows property rights to be enforced and contractual disputes to be resolved. And, something that must be a particular focus for the international community going forward, whether there is strong and transparent domestic financial infrastructure.

These core ingredients of a stable market economy took many decades to develop here in the United States and will not be developed overnight in any country. Yet in the light of recent events, the IMF and other parts of the international community will clearly need to focus on giving countries stronger incentives for countries to undertake such reforms, be it through new kinds forms of international financial surveillance, or through the leverage provided by market access to major financial centers.

The IMF can and must play a critical role in encouraging and giving technical support to many of these changes in its regular dialogue with countries and in the design of lending programs. But it will also be critical for it to collaborate -- perhaps more closely than has been true in the past -- with the World Bank and other sources of international financial regulatory and supervisory expertise. This has been an explicit focus of recent G7 discussions and will no doubt continue to be so in the future.

Matching IMF macroeconomic policies to the realities of global capital markets

As I have noted, several of the crises of the past eighteen months or so have differed in important respects from the more kind of crises -- involving as they have not the standard kind of trade account problem but problems in the capital account. And it may be that the kinds of policies necessary to bring about adjustments in traditional balance of payments crises are different to those required in these newer cases.

There have always been a variety of circumstances leading countries into crises -- whether it be unsustainable public borrowing, as in Russia, or more private sector excesses, as was the case in the Asian crisis countries. What is novel in the recent crises has been the capacity for very large and rapid outflows of global capital to greatly exacerbate the crisis in an atmosphere of panic. In these circumstances the IMF faces a more difficult challenge in designing the appropriate conditions for programs than in the case of the more standard balance of payments of the past.

This brings clear implications for the IMF and its design of programs, as we saw, for example, in the IMF's support for considerable fiscal expansion in the wake of the financial crises in Thailand, Indonesia and Korea. And it will certainly be important explore further ways to adapt the IMF's approaches to modern realities. But we must take care not to throw the good advice out with the bad. Modern kinds of crisis can still be caused by old-fashioned problems of government excess. If these are at the root of a crisis, then it is these problems that a solution will need to address.

Realistic exchange rate regimes in a world of free flowing capital

Recent experience will no doubt also provide fresh impetus to longstanding debates about the merits of different kinds of exchange rate regimes. Even economists that can agree almost every aspect of economic theory and practice are often divided on this issue. Some are with Milton Friedman in treating exchange rates as a price -- and a price that should be flexible for the same reasons that others are. For others, money and its exchange is a promise -- one that should be fixed and that should not be broken or devalued.

The choice between these two poses enormous difficulties. But we can all agree that where it is a promise, the promise should be maintained, and that treating it as a promise, then breaking it, is probably the worst of all options. There is no single answer, but in light of recent experience what it perhaps becoming increasingly clear -- and will probably be increasingly reflected in the advice that the international community offers -- is that in a world of freely flowing capital there is shrinking scope for countries to occupy the middle ground of fixed but adjustable pegs.

As we go forward from the events of the past eighteen months, I expect that countries will be increasingly wary about committing themselves to fixed exchange rates, whatever the temptations these may offer in the short run, unless they are also prepared to dedicate policy wholeheartedly to their support and establish extra-ordinary domestic safeguards to keep them in place.

Modern tools for crisis response

In this new global economy the international community needs mechanisms for responding to crises that are a match for the scale and complexity of the system as a whole. In this context several have argued that the system now needs a much larger capacity to offer emergency financial assistance, which could function more like a domestic lender of last resort in lending much more freely into crises at penalty rates.

There are critical limits to the analogy with domestic lenders of last resort. Notably, in the United States and other developed economies an entire regulatory and supervisory system has developed around this capacity to guard against the moral hazard inherent to the promise of such support. It is difficult to believe that any similar system would be feasible or desirable at an international level in the foreseeable future.

On the other hand, there is clearly a dimension of these crises that resembles a domestic bank run -- where the fear that even basically sound institutions might fail becomes a self-fulfilling prophecy. It is in response to this aspect of modern crises that we helped to create the Supplementary Reserve Facility to provide for exceptional amount of very short-term lending at premium rates.

A similar motivation underpinned our support for the development of a new Contingent Reserve Facility to provide support for countries facing market contagion. But in using and further perfecting these new tools, important balances will need to be struck -- between dousing panic, on the one hand, and stoking excess market exuberance on the other.

Involving the private sector in managing adjustments

The inherent limitations on the volume of official assistance relative to the scale of modern markets, coupled with the moral hazard that such assistance can create, provide the two strongest arguments for the international community to devise more effective ways to involve the private sector more directly in the resolution of crises.

As I mentioned earlier, this is a challenge that we have been and will remain extremely focused following the involvement of private sector creditors in the Korean program, and the new agreement to allow for the IMF to lend into arrears. But here, too, difficult issues will need to be overcome. Notably, the international community cannot afford to foster an impression that we are prepared to license opportunistic default, nor must we put in place mechanisms that will induce crises because creditors will flee at the first sign of trouble or take steps which generate substantial contagion.

Both of these dangers highlight the potential disadvantages of the proposal heard in some quarters, that the international community should adopt some form of explicit international bankruptcy regime for sovereign debtors. This proposal would also run into severe problems of national sovereignty. However, there are a number of other tools available that may well be fruitful to explore on a more flexible, case-by-case basis. For example:

• a decision not to provide official finance for countries except in the context of constructive engagement with private creditors to ensure adequate financing for the program;

• and an insistence that where official debt is to be rescheduled there be strict comparability of treatment with commercial creditors.

As we are learning, there are enormous problems involved in reaching these kinds of solutions in a world where there is such a broad diversity of creditors, and the share of commercial bank lending in the total is so much smaller than it was in the past. But we have been and remain vigorously committed to exploring new approaches in cooperation with the international financial institutions and others in the international community.

III. Concluding Remarks

Mr Chairman. These are critically important issues and it matters how and when we decide to address them. But we must always remember that more important than any steps that the international community takes collectively will be the actions of individual governments.

Recent events have reaffirmed an age-old lesson: that while the external environment is important and international support can make a difference, countries shape their own economic destiny. The international community can offer vital support to committed efforts in the countries concerns to undertake reform and adjustment -- but it cannot substitute for them. As we saw in Russia, and as we saw in the first months of the crisis in Indonesia, where governments are not themselves committed and able to follow through on their commitments the IMF cannot force these changes and IMF adjustment programs will not succeed.

In a world of sovereign nations our goal cannot to be to prevent governments from making mistakes. What our goal must be, as we move forward from the events of the past eighteen months, is to provide the best possible system for encouraging sound policies -- and for minimizing the broader costs to the international system as a whole when crises strike.

With the major reforms that have occurred in the past year and, especially, as a result of the legislation last fall, we made some important steps to improve the system and more changes are in the process of being implemented. But none of us can doubt that we are far, far from the finishing line. I look forward to working with you, Mr Chairman, with others in this committee and others in Congress as we work to progress further in the months to come. Thank you. I would now welcome any questions.