Select Committee on Treasury Memoranda


Memorandum submitted by War on Want


  War on Want is a development charity that works with partners in a number of countries to eradicate poverty and injustice. We recognise that the actions of governments and businesses in the developed world have a profound effect on the lives of people in the developing world. We campaign to ensure that these responsibilities are recognised and respected.


  War on Want does not believe that the IMF is a qualified organisation to serve the interests of the world's poor. We believe they would be better served by an organisation that more fully represents them and that takes poverty eradication as its starting point. For the purposes of this submission we will look at the role the IMF has in setting the agenda for much-needed new financial architecture, with particular reference to currency speculation, volatility and currency crises.


  The liberalisation of financial markets means that up to $1.5 trillion a day in foreign exchange is traded globally. It has been estimated that as much as 95 per cent of these transactions are "speculative" and thus do not contribute to the real economy. With such massive speculative flows the economies of whole countries can be undermined. Instability in these markets is a function of the current in-built bias towards short-term speculative flows rather than long-term investment. This tendency is potentially threatening to the system as a whole, and in particular to emerging markets. Least equipped of all to deal with it are poor countries and poor people.


  Evidence of this tendency was seen in the South East Asian financial crisis and in the crises in Mexico, Brazil and Russia, when governments did not have enough resources to defend their own currencies. In these circumstances it is the poor who are most badly affected. When investors withdraw as the result of a currency crisis, the poor lose their jobs. When prices rise, due to currency movements, the poor cannot afford to eat.


  By way of example, when investors began to sell the baht, in July 1997, speculators gambled on the likelihood of an imminent devaluation. Exchange rate depreciation gave rise to further outflows, as panic set in among international investors. The most severely affected currency was the rupiah, which suffered a decline in value between January 1997 and July 1998 of 80 per cent. Banks and businesses were heavily exposed to unhedged foreign loans, and therefore heavily damaged by the increased debt repayment burden caused by currency devaluation. There was a high level of domestic bank lending to the private sector.

  The devaluation of currencies pushed up inflation and increased the price of imported goods. These developments caused a sharp fall in output, consumption and incomes, and led to a massive rise in the number of unemployed, and in the incidence of poverty. Businesses closed, laid off workers, or reduced costs by cutting wages, benefits and working hours.


  The IMF does have a role in facilitating global economic stability and there has been progress in terms of the way it carries out that role. The IMF has adopted some proposals that make stability more likely. In particular, they have accepted that capital controls may be useful in some situations. However, we believe that these proposals do not go far enough. The overriding aim of the IMF is still Capital Account Liberalisation. The IMF also aggravates instability through bailout packages. Such measures are usually too late for the country concerned and often add further indebtedness, thus sowing the seeds of future instability. Furthermore, many of the adjustment packages exacerbate the problem by cutting the social safety nets that the poor rely on. We believe that the Treasury Select Committee should look carefully at these issues.


  Since the 1970s there has been a proposal in existence that would calm financial markets, reassert the right of the government to govern its own economy, and generate a phenomenal amount of money for international development. Named after US economist James Tobin, a "Tobin tax" or Currency Transaction Tax (CTT) on all international currency transactions would stop most speculation, but would not inhibit genuine movements of the market. The Canadian Parliament supports such a tax, as do the Brazilian and Finnish governments. We believe that the TSC should look carefully at the introduction of a CTT.


  The CTT could be used in one of two ways: (a) as a sophisticated form of capital control used by specific countries to reduce speculative attack on their currency, (b) as an international mechanism to lengthen the horizons of financial markets in relation to currency trading. The latter would have the effect of reducing, but not stopping, global currency flows. This would diminish the likelihood of volatility in financial markets in general, by decreasing short-termism, and by reducing the volume of trading and number of traders.


  The "Spahn Mechanism", basically a two-tier CTT with a minimal tax rate on all transactions (basic rate), and a higher rate (surcharge) which is only activated in times of exchange rate turbulence, would help to prevent most crises. The surcharge would only come into action when the level of currency trading passes a certain threshold or safety margin. Once trading enters or passes this margin, traders will be taxed heavily, thus dissuading trading and dampening excessive currency movements. Once the danger has passed, the rate will fall back to the standard level.


  At present, 84 per cent of all foreign exchange transactions occur in just nine countries. Introduction of the CTT in these and a few other countries may initially provide a workable tax regime. We recommend that the tax be instated through an international agreement, backed by national legislation. It should be applied where the transactions occur or where the deal is made, making collection of the tax the responsibility of the national central bank. The establishment of a global settlement bank, The Continuous Linking Settlement (CLS) Bank, will make identification and taxing of currency transactions much simpler. The CLS Bank will track settlements of all deals around the clock and thus facilitate the tax. Collecting the tax in this way would make evasion and avoidance of the tax very difficult. It would also make "CTT havens" in any given currency a virtual impossibility.


  What is the role of the IMF in reducing volatility and currency speculation in the global economy:

    —  Does the future potentially hold more speculation-led financial crises and, if so, what measures is the IMF taking to guard against them?

    —  Is the IMF exacerbating the likelihood of future crises by encouraging reckless capital account liberalisation?

    —  Could a CTT be part of the solution to prevent financial crises?

    —  Has the IMF considered the CTT proposal as part of its review of financial architecture?

    —  Could part of the funds from a CTT be used as a "Global Intervention Fund" to boost currencies under speculative attack? and

    —  How would the IMF react to the introduction of the two-tier CTT by one state to protect itself from speculative attack?

May 2002

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