The West Must Allow a Power Shift in International Organizations, Part 2

Jakob Vestergaard and Robert H. Wade, Guest Bloggers

Part 2 of a two-part series.

The IMF’s existing quota formula allocates shares to member countries on the basis of four variables (with their weights in the formula given in parentheses):

• Size of a member’s economy, as measured by GDP (50%);
• Member’s integration into the world economy, or “openness” (30 %);
• Member’s potential need for Fund resources, measured in terms of “variability” of current receipts and net capital flows (15%); and
• Member’s financial strength and ability to contribute to the Fund’s finances, as measured by its foreign exchange reserves (5%).

Instead of announcing a new formula in January 2013, as planned, the Executive Board of Directors (EBD) reported to the Board of Governors on the outcome of the Quota Formula Review (IMF 2013). The main conclusions were:

(a) “it was agreed that GDP should remain the most important variable, with the largest weight in the formula and scope to further increase its weight”;  and

(b) there was “considerable support for dropping variability from the formula” (IMF 2013: 2-3).

Beyond these, the Executive Directors could agree on little.

Then, in October 2013, following the IMF’s annual meetings, the council of ministers which steers the IMF (International Monetary and Finance Committee) declared in its communiqué : “we urge the Executive Board to agree on a new quota formula … [and] reaffirm that any realignment in quota shares is expected to result in increased shares for dynamic economies in line with their relative positions in the world economy.”

But again, in the subsequent period from October to December 2013 the Executive Board has made no progress, and will almost certainly postpone the latest deadline to sometime well beyond January 2014.  The whole negotiation process has been put on hold until U.S. Congress approves the 2010 reforms.

Voting power imbalances remain massive

Most member states agree that voting share should be closely linked to GDP share, as the simplest, least unambiguous measure of economic weight. Table 2 shows voting power-to-GDP ratios, both as of today and if and when the changes agreed in 2010 are put into effect. If voting power were aligned with GDP share, we should expect all countries to cluster close to 1.As can be seen, the voting power-to-GDP ratios show a wide dispersion. They vary five-fold, from 0.45 in the case of China to 2.15 for Belgium. Not just China but also India (0.60) and Brazil (0.73) are underrepresented, while the larger European countries are over-represented by this criterion.

On average, a dollar of GDP in the EU4 countries—Germany, France, UK and Italy—is worth more than twice as much as a dollar of GDP in one of the BRIC countries, in terms of voting power in the Fund. This means that the aggregate voting power of the EU4 is higher (15.6 %) than the aggregate voting power of the BRICs (13.5 %), despite the fact that the GDP of the BRICs, as a share of world GDP, is almost twice as large (24.5 %) as the GDP of the EU4 (13.4 %).

Table 2 Voting power-to-GDP ratios, selected large economies

Understanding the quota formula stalemate

The problems are not just that the shifts in voting power agreed upon in 2010 have not been implemented, and that even if and when they are implemented they will leave massive voting power imbalances. On top of these is the problem of revising the quota formula that has guided allocations of shares in the IMF for decades.  Successive deadlines have come and gone, with next to no agreement, the next one looming in January 2014.

At the core of the stalemate is the notion of relative country economic weight. The default position for most countries remains “share of world GDP,” simply because of its simplicity. But the Europeans insist that economic weight is not just GDP but also “openness”; integration with the world economy. Not coincidentally, Europe’s weight is then boosted by intra-Europe trade, while the weights of the United States, China, India, Brazil, et al. are not boosted by their internal trade. With this and related arguments Europeans insist that European countries are in fact underrepresented, not overrepresented—an assertion which provokes much scowling and scoffing from other participants, including the BRICS.

Many countries are prepared to accept that “openness” should have some weight in the new quota formula, but say that the current measure of openness is “seriously flawed reflecting both conceptual and methodological issues” and must be replaced by a measure that avoids the positive bias for intra-Europe trade (IMF 2013: 3).And they go on to say that if “openness” is included, so should other factors. The BRICS demand a weight for “contribution to global economic growth.”  In response to such galloping complexity, many participants fall back on share of GDP as the only viable criterion—only to encounter outraged European objections.

Multilateralism at risk

Many representatives from EMDCs, including the BRICS, are getting increasingly fed up with Western determination to cling to power not just in the IMF but also in the World Bank and other important international economic governance organizations. They are plotting how to induce Western states to agree to real reductions in the Western “voice.” One way is for them to move towards the exit.  So they have been signaling that they—especially the BRICS—will “be more careful and selective before agreeing” to activate the New Arrangements to Borrow (NAB), in the words of a participant. And the BRICS are well along in the negotiation of a BRICS Development Bank and a BRICS Contingent [Foreign Exchange] Reserve Arrangement (for currency swaps or pooling), scheduled to be signed at the next BRICS summit in 2014.

It is difficult to escape a sense that Western governments are allowing their drive to cling to power to obscure the bigger issues at stake. Western governments must go beyond their rhetorical commitment to shift voting power towards EMDCs, and actually do it—for the sake of boosting the effectiveness of multilateral economic governance and checking the present drive towards “coalitions of the willing” in plurilateral arrangements, a drive which raises the prospect of a return to the “competing power blocs” of 18^th to 20^th century Europe and the chronic instability they generated.

Policy recommendations

• The IMF should realign quota shares to address long-standing voting power imbalances, notably the overrepresentation of European countries and underrepresentation of emerging market economies.
• The IMF should agree to a new quota formula that establishes a much closer link (than does the current formula) between relative economic weight in the world economy and voting power in the IMF.
• To preserve the voting power of the poorest developing countries, the share of basic votes in total votes should be doubled (from 5.5 % to at least 10%), so as to restore them to the same level as when the IMF was founded.
• The responsibility for taking these steps rests primarily with the Western states, which have benefited from the beginning of the IMF by a series of high hurdles against loss of voice in Fund governance.

Further readings

IMF (2010). IMF Quota and Governance – Elements of an Agreement. Report of the Executive Board to the Board of Governors. Washington, DC: International Monetary Fund.

IMF (2013). Report of the Executive Board of Governors on the Outcome of the Quota Formula Review. Washington, DC: International Monetary Fund.

Lesage, D., Debaerre, P., Dierckx, S. and Vermeiren, M. et al (2013). “IMF reform after the crisis.” International Politics, 50 (4): 553-578.

Vestergaard, J. and Wade, R. (2013). “Protecting power: How Western states retained their dominant voice in the World Bank’s governance reforms.”World Development, 46: 153-164.