A windfall for poor countries is within reach

High-income states can help by lending on their IMF special drawing rights

Martin Wolf 

© James Ferguson

The world is close to agreeing on the creation of up to $650bn in new special drawing rights within the IMF. 

The initial allocation of these sums would follow the normal principle in international affairs: to those who have it shall be given. 

But it is possible and desirable to reallocate a sizeable proportion of the benefits of this free money to global purposes, above all by helping fragile low-income countries restore their pandemic-battered prospects. 

This opportunity must be seized.

The idea of creating a large quantity of new SDRs was mooted early in the pandemic. 

Predictably, it was vetoed by the Trump administration. 

Under the Biden administration, this has changed. 

Since the US has a veto in the IMF, that is crucial. 

The planned allocation is also huge by historical standards, increasing the value of outstanding SDRs by 120 per cent (see charts).

The world created SDRs as a multicurrency reserve asset in the 1960s. 

There have been four allocations, the largest in response to the financial crisis, in 2009. 

The latest was proposed as a response to the pandemic. 

It is still relevant, not just because the emergency is not over, but because the recovery is divergent, with the poor lagging behind.

In itself, a new allocation of SDRs would not do much about this, since the new reserve asset would initially go to countries in proportion to their quotas in the IMF. 

As a result, the US would get 17 per cent, the Group of Seven high-income countries 44 per cent, all high-income countries 58 per cent, China 6 per cent, other middle-income developing countries 33 per cent and 70 low-income countries, with a total population of 1.2bn (the same as all the high-income countries), just 3.2 per cent.

Even that would be $21bn in permanent liquid assets for low-income countries. 

This is far from nothing, for them. 

More important, it is possible for high-income recipients of these new assets, which they do not need, to lend them out on highly concessional terms. 

That could make a huge difference. 

Why should high-income countries not lend all of their unneeded SDR windfall? 

That would be $380bn.

A recent IMF blog and report on prospects in low-income countries explains why this would be important. 

According to this sobering analysis, low-income countries have lost significant economic ground relative to high-income countries since Covid-19 hit. 

This is partly because they are so vulnerable to what happens in the world economy. 

It is partly because they have so little room for fiscal manoeuvre. 

It is partly because, despite their young populations, their health systems have little capacity to respond and their ability to obtain vaccines is so small. 

Moreover, according to the fund, 55 per cent of these countries are now either in debt distress or at high risk of that condition.

At the same time, there are real opportunities for recovery. 

The IMF’s baseline forecast is that the low-income countries suffer a permanent hit from the pandemic. 

But, with $200bn in Covid-related funding and $250bn-$350bn in additional spending over five years, these countries could return to their pre-pandemic convergence path.

Achieving this will require a mix of grants, concessional lending and debt relief. 

It will also require reforms that stimulate private domestic and foreign investment. 

As always, official assistance must ultimately be catalytic. 

But the grant and also the loans of SDRs could be a huge help.

The fund’s plan is to divide the available money into three buckets. 

The first would expand the Poverty Reduction and Growth Trust, which provides highly concessional loans to low-income countries. 

But there are limits to the sums the IMF can lend via this vehicle, for several reasons, among them that it is always the senior creditor and so cannot risk becoming the dominant one.

Thus, the greater the value of the SDRs to be lent out, the bigger the proportion that needs to be lent by the initial recipients at their own risk, via a new trust fund. 

The fund’s idea is that some of such lending might go to other developing countries and for specific purposes, such as climate, digital transformation or health. 

Finally, some of the money might go via a trust that supports lending by multilateral development banks such as the World Bank.

How such money is delivered and for what purpose is always political. 

My view is that bringing the pandemic under control is a global public good, which must be delivered by grants from rich countries. 

It is a crime and a blunder that this has not been understood and done already.

Low-income countries should not be asked to borrow, even on concessional terms, for this purpose, thereby diverting resources from their longer-term development goals. 

I am also doubtful about telling them to make investments in the high-income countries’ priorities du jour. 

Spending on renewable power, digital transformation and health should be parts of development programmes owned and executed by countries themselves, albeit developed in collaboration with the relevant international institutions.

In sum, whatever the precise modalities, the aim should be to use as much of this windfall as possible to support governments that have credible plans to recover lost development ground. 

But do not try to buy reforms via conditionality. 

This almost never works. 

It is probable that money would then not go to every vulnerable country.

The SDR windfall, properly used, could help the poorest, most vulnerable and hardest-hit countries in the world. 

Agreeing to this would be a global blessing. 

It is time to do so. 

Not Dead Yet 

Jared Dillian

Last week, the inflation trade took a digger as the Federal Reserve thought out loud about maybe hiking interest rates a bit sooner. 

That’s it. That’s all that happened. 

There are a few lessons here. 

1. We have inflation, and the Fed’s statements are a tacit admission that the inflation is not transitory. If it were truly transitory, then it would not be necessary to accelerate rate hikes. 

2. It will take a lot more than words to derail this inflationary impulse. It will take actions. Words have power, but the Fed actually needs to do something to lower inflation, such as hiking rates or tapering asset purchases, and this is still very far off in the future. 

3. I wasn’t surprised that the Fed changed its stance on monetary policy. If you paid attention to the speeches and statements in the last month, it was clear that inflation was at the front of the Fed’s mind. 

What surprised me was the market reaction, which was violent relative to the miniscule shift in expectations. There is a lot of leverage in the system, and a lot of crowded positions. You can see that from this chart of the yield curve, expressed as the difference between five-year and 30-year rates. 


Inflation isn’t dead, just because the Fed says so. 

It is alive and well, and the Fed is going to have to work very hard to kill it. 

In the meantime, you can milk it for profits—that is what we’re doing at Street Freak  .

My Trip to Greece 

I just returned from vacation in Greece, and I have a few insights on macroeconomics. 

The dollar is very strong. 

Granted, it’s Greece, and things are cheaper there, but I was having dinner for two on Milos for 30EUR—about $36. 

With enough food that we were taking leftovers back to the hotel in bags. 

It was even cheap in Athens, and Santorini, which is notoriously expensive, wasn’t all that bad. 

Even after the big move this year and last, the dollar is not especially weak. 

On a purchasing power parity basis, it has room to weaken more. 

There is also the question of the wisdom of fighting trends. 

I wouldn’t characterize the weak dollar trend as relentless, but it’s been a steady feature of markets for the last year or so. 

Betting on a stronger dollar is the equivalent of going into battle against a very strong trend. 

You first. 

The price action on Monday indicates that the inflation trade and the weaker dollar trend are going to be very difficult to kill. 

It also made me think about the European Central Bank—which has no intention of moving off of negative rates at the moment. 

If it ever does, the move in EURUSD could be quite extreme. 

There are a lot of trades to put on if you think that rates will rise in Europe. 

Most of them are pretty obvious. 

Without getting into a great deal of detail (and political opinions), I returned home on Sunday very bullish on Europe. 

The US is the world’s center of innovation, but we do not have a monopoly on thrift, hard work, and savings. 

It exists elsewhere in the world. 

In fact, you could make the argument that the values that contributed to exceptional markets (and asset prices) in the US are deteriorating—and improving elsewhere. We should all have a higher allocation to foreign equities. 

Victory Laps 

Have you ever noticed that everything in finance is also political? 

Conservatives like gold; liberals like paper. 

Conservatives like value stocks; liberals like growth stocks. 

Conservatives bet on inflation; liberals bet on deflation. 

These are largely political arguments, not financial arguments. 

People believe whatever confirms their priors. 

After the FOMC meeting, when the inflation trade got hammered, the liberals who had been fighting the inflation trade for the last seven months saw the trade move in their favor for one day—and took a victory lap. 

I also returned from Greece rather disenchanted with Twitter —even the money debates are about politics. 

I am a man of the right (economically speaking), so I believe in gold, value stocks, and inflation. 

This is how finance (and politics) works: You get to win for a while then I get to win for a while. 

Left-leaning investors have had a monopoly on good ideas for the past 10 years. 

Now they’re experiencing a bit of cognitive dissonance over the fact that their psychological model is no longer working. 

I saw recently that the average value rotation lasts 64 months. 

We are currently in month number seven. 

This is going to last for a while and cause a lot of frustration for some. 

Richard Russell once said that a bull market is actually a bull—it tries to throw off as many riders as possible. 

I saw the inflation meltdown from my Bloomberg app on my phone in Greece. 

It didn’t ruin my day. 

Not too many bad days in Santorini. 

If you’re wrong for seven months about anything, it might be a good idea to do a little introspection. 

The Deeper Anxieties of the Inflation Hawks

Following an increase in consumer prices during the first quarter of the year, commentators who were already wringing their hands about inflation have now doubled down on their position. But the economic arguments used to justify such fears simply do not stand up to scrutiny.

James K. Galbraith

AUSTIN – In a recent commentary for The Washington Post, former US Secretary of the Treasury Lawrence H. Summers stated that “the consumer price index rose at a 7.5 percent annual rate” in the first quarter of 2021. 

I could not reproduce this number from the Bureau of Labor Statistics CPI-U website, which reports a year-on-year increase (April 2020-April 2021) of 4.2%, driven largely by a sharp 49.6% rebound in gasoline prices from their pandemic crash. 

When food and energy prices are excluded, the inflation rate over the past year comes to just 3%.

Odder still is Summers’s rationale for projecting future inflation risks:

“Inflationary pressures are mounting from the boost in demand created by the $2 trillion-plus in savings that Americans have accumulated during the pandemic; from large-scale Federal Reserve debt purchases, along with Fed forecasts of essentially zero interest rates into 2024; from roughly $3 trillion in fiscal stimulus passed by Congress; and from soaring stock and real estate prices.”

This is odd logic, beginning with the conjecture that savings cause inflation. 

John Maynard Keynes argued the reverse: excess savings are withheld from demand, causing unemployment. 

And Summers’s own neoclassical school normally holds that high savings are a good thing, because they sustain low interest rates and lead to more business investment. 

So far as I know, no economist has ever before suggested that savings, as such, cause inflation.

Likewise, while it’s true that when the Fed buys up unwanted private debts, mostly from banks, the sellers get cash, shielding them from losses they might otherwise have suffered, this protection has no direct connection to their lending habits. 

As the economist Hyman Minsky pointed out, banks make loans when they have creditworthy customers. 

They neither lend their reserves, nor do they need reserves in order to lend.

Next is the claim that the Fed’s forecasts of future low interest rates are inflationary. 

Actually, the Fed’s interest-rate forecast is contingent on its inflation forecast, and its current position is that it expects price pressures to be transitory, and will react by raising rates if that turns out to be wrong. 

If the Fed agreed with Summers about future inflation, it would have said so in its inflation forecast; the interest-rate forecast has no independent role.

Summers then points to the $3 trillion of fiscal stimulus already enacted. 

But some $2 trillion of this is stored in private savings for now, so this point is redundant with the first one. 

Finally, he mentions “soaring stock and real estate prices.” 

Yet we heard no such warnings from him in the late 1990s, when he was Treasury secretary during a massive stock boom. 

And rightly so: the boom did not cause an increase in inflation.

What is really at work here? 

Summers may simply be attempting to revive the old Phillips curve concept, which states that, as unemployment falls, wages – and therefore prices – rise. 

But if this pattern ever existed, it disappeared 50 years ago, and even the slowest-thinking economists largely abandoned the Phillips curve by the mid-1990s. 

Since then, almost all new US jobs have been created in the services sectors, where “tight” labor markets have little effect on wages and none on consumer prices.

Moreover, today’s US labor markets aren’t even close to tight. 

The ratio of employment to population is still at least four percentage points below where it was a year ago, and it seems to be flattening after a sharp rebound. 

That means there are still about five million people who were working in 2019 but are not working today. 

The reasons are unknown. Perhaps employers haven’t wanted them back, or the jobs on offer aren’t very good. 

Maybe they will return later – this year or beyond – when the buffer provided by all those savings runs low. 

What, then, is driving Summers’s inflation fear? 

When an economist of his stature makes such specious claims, one can only wonder if there isn’t something else on his mind.

To be sure, there are some actual price risks. 

A big one is financial speculation – in oil, metals, timber for home construction, and so forth. 

It is not uncommon for financial players to bid up prices by taking these goods off the market early in a boom. 

(The Chinese know this and are duly cracking down on the hoarding of copper and other metals.)

Another risk would emerge if the Fed took the advice of inflation hawks. 

For most businesses, interest is a cost like any other, and an increase in that cost would be passed through, in part, to consumer prices. 

It is interesting that Summers doesn’t mention either of these, which could be mitigated with tough financial-sector regulation – and, of course, by not raising interest rates.

But deeper worries may be lurking beneath the surface of Summers’s essay. 

One concerns that $2 trillion in savings. 

Through direct payments and expanded unemployment insurance, a fair amount of that sum went to working-class households – the first big chunk of change for many such families in decades. 

Having some cash could make them less likely to borrow – and thus less dependent on banks. 

Workers might even hold out for higher wages, creating the “labor shortage” of which Summers speaks (at least temporarily). 

More generally, when people have a bit of a financial cushion, they are harder to boss around.

A second source of anxiety may be spotted in Summers’s call for “clear statements that the United States desires a strong dollar.” 

This is the secret angst of the hard-money men, an insecure lot who fret that their position on the global totem pole might not be entirely secure. 

Perhaps they are right. Today’s dollar-centered world reflects the power alignments of the period between the end of World War II and the end of the Cold War in 1989. 

US power has since eroded, opening the possibility that the world’s monetary system could one day flip.

That may not happen anytime soon. But if and when the moment comes, it will follow from decades of decline, from better strategies pursued elsewhere, from the self-inflicted wounds of the Reagan, Clinton, and Bush eras, from the sacrifice of America’s industrial base in the 1980s, from the fragility of the global order that emerged in the 1990s, and from the military overreach of the 2000s. 

Against all that, a few “clear statements” won’t mean much.

James K. Galbraith is Professor of Government and Chair in Government/Business Relations at the Lyndon B. Johnson School of Public Affairs at the University of Texas at Austin. From 1993-97, he served as chief technical adviser for macroeconomic reform to China’s State Planning Commission. He is the author of Inequality: What Everyone Needs to Know and Welcome to the Poisoned Chalice: The Destruction of Greece and the Future of Europe.