An odd development today was that Christine Lagarde, the head of the IMF, put forward the idea of having members pony up $500 billion for rescue loans, since the agency said it foresees demand of $1 trillion over the next two years and it has only $387 billion uncommitted. It goes without saying that the most of the anticipated need is in Europe.
There are two puzzling aspects of this story. One is that the IMF got a serious and predictable smackdown from the US, since any funding would be a fiscal outlay, which requires Congressional approval, which is just not happening with Washington embracing the new religion of deficit reduction. Even though Eurobanks are really big lenders in the US (they are the providers of cheap corporate loans) and they did get really sick from eating toxic US mortgage instruments, the message from the Administration was tart. Per the Financial Times:
“The IMF cannot substitute for a robust euro area firewall,” the US Treasury said in a statement. “We have told our international partners that we have no intention to seek additional resources for the IMF.”
The UK wasn’t too keen either.
Since the objective was presumably to get some funds into Europe, that means the logical suspects are emerging economies. India and Brazil made positive noises, but advanced economies are cool on getting funding from China and the feeling is likely mutual. While some observers have suggested that China could simply recycle the annual amount it uses to maintain its currency-weighted peg (last estimate I saw was 70 billion euros, but growth and exchange rates have changed since then), the big stumbling block is that China wants concessions in return for its largesse. In addition, the Chinese want politically desirable but unrealistic assurances that its foreign currency holdings won’t depreciate. Since China has said it plans to liberalize its peg, it is guaranteed losses on the currencies it is buying to manipulate its currency level.
And that’s even assuming the Chinese would play ball. They turned down a direct appeal by Sarkozy to invest in the EFSF. Why would China go through an international organization where it is chafing at its level of votes it has when it has the option of dealing directly?
All of the elements of this equation were known in advance. None of these reactions is a surprise. So why did Lagarde announce a measure that was likely to land like a lead balloon?
Let’s consider the second puzzling part: Mr. Market is currently in a good mood because the ECB has been pretty aggressively lending to banks via its three year LTRO, and the banks can use the proceeds to buy government debt. So while the ECB can’t lend to eurozone states directly, it can launder the loans through banks. And at least some readers of this blog have taken to arguing (effectively) that the ECB will act just as the Fed did in the 2007-2008 crisis, it will do what it takes to save the system, in particular, monetize debt.
But if this were true, the IMF would NOT need to fund bailouts in the eurozone. The ECB has the capacity on its own. So Lagarde’s move would seem to say that the IMF does not think the ECB will go the distance, and the IMF will need to step up in a meaningful way. This is consistent with the take of some of my German-press-reading correspondents. Their interpretation of various official remarks is that while the ECB is clearly willing to do more than in the past, it is not willing to balloon its balance sheet to the degree the Fed did.
So Lagarde’s request may indeed be a tacit admission that the IMF knows that the ECB won’t go the distance, as well a precaution, not just on a practical level (to try to have as much firepower as possible) but on the political (to say she did what she could when the IMF is the target of blame-mongering, which is what will happen if/when a crisis breaks loose).