In response to the Covid-19 pandemic, mainstream economic institutions such as the International Monetary Fund (IMF) have been claiming that austerity is dead and that countries should continue to spend money. However, in order to cope with the crisis, most countries in the global south have had to take on new IMF loans subject to commitments to fast fiscal consolidation. This year, the IMF could finally close the gap between its rhetoric and practice by no longer recommending austerity measures in long-term loan programmes and agreeing to a new issuance of Special Drawing Rights (SDRs) that meet the financing needs of developing countries.

Austerity is dead, long live austerity

Back in October 2020, during the IMF and World Bank (WB) Annual Meetings, the Financial Times claimed that the global economy was witnessing “the funeral of austerity”, because the World Bank was recommending that countries should borrow heavily during the pandemic and the IMF was encouraging countries to continue to spend.

For IMF-watchers, the institution’s strong support for the use of expansionary fiscal policies in response to Covid-19 did not come as a surprise. The October 2017 Fiscal Monitor had already recommended more public spending in health and education and wealth taxation to tackle extreme inequality. Since the pandemic began, the IMF’s rhetoric has become even more progressive, with analysis showing how the pandemic will increase inequality and affect women the most. Speeches by its Managing Director Kristalina Georgieva have recommended avoiding premature policy withdrawal and the recent 2021 Fiscal Monitor Update called for fiscal support to vulnerable households that have borne the brunt of the crisis. However, the much-lamented gap between the IMF’s rhetoric and practice grew larger than ever in 2020: while the rhetoric has become more progressive, the practice has mostly stayed the same.

As warned by 500 civil society organisations (CSOs) in October 2020, however, austerity measures are in fact alive and well in most of the IMF’s Covid-19 lending agreements. Eurodad scrutinised loans implemented between March and September 2020 for 80 countries and found that, for the majority of these countries, the IMF suggested the adoption of austerity measures in the aftermath of the crisis. In particular, 72 countries are projected to begin a process of fiscal consolidation as early as 2021.

Ecuador is a case in point: in September 2020, the country agreed to a new long-term loan programme with the IMF, which requires the country to start cutting public expenditure, including the public sector wage bill, by a total of 5.8 per cent of Gross Domestic Product (GDP) over the next three years. This figure is eight times the resources the country was able to mobilise to protect the lives of its citizens in 2020.

Growth optimism and debt crisis: two sides of the same coin

Recommendations of rapid fiscal consolidation are often justified in IMF loan programmes by a tendency to growth optimism, as recognised by the Fund itself and by its Evaluation Office. This tendency has persisted during the Covid-19 pandemic.

Forecast growth errors are harmful because they underestimate the negative impact of fiscal adjustment on growth and lead to incorrect assumptions about the sustainability of debt. In the context of a global crisis, growth optimism fosters complacency and justifies a less generous response by the international community.

More broadly, growth optimism projects economic growth as the ultimate solution to existing economic imbalances. In the meantime, structural solutions to developing countries’ chronic lack of fiscal and policy space are avoided or systematically postponed. As noted by Eurodad, the Common Framework for Debt Treatments beyond the Debt Service Suspension initiative recently adopted by the G20 only offers a partial solution to the problem of unsustainable debt. It is unlikely to succeed, largely depending on private creditors’ willingness to take their fair share of the burden of debt relief.

Special Drawing Rights: the no-brainer source of additional liquidity for the global south

The reality faced by most developing countries contrasts strongly with the message sent by mainstream economic institutions (most recently by the Organisation for Economic Co-operation and Development – OECD) and media that ‘austerity’ is over and that countries should use expansionary fiscal policies to recover from the Covid-19 crisis. These claims rest on the assumption of persistent low interest rates that reduce the harmful impact of large public debt, a condition that is relevant for advanced economies but not for most emerging economies and developing countries. For these countries, liquidity constraints can only be alleviated through expensive and volatile commercial lending or through IMF loans conditioned on austerity measures.

Despite this, the IMF has still not deployed the mightiest weapon in its liquidity firepower: a new general allocation of Special Drawing Rights (SDRs). These are an international reserve asset created by the IMF and distributed to its members in proportion to their quotas. The last general allocation of SDRs happened in 2009, in the wake of the global financial crisis, for a total of SDR 161.2 billion (approximately US$ 250 billion).

Given the current IMF quota distribution, the majority of a new SDR issuance would be allocated to developed economies. However, if the issuance was large enough, a significant number would reach developing countries, increasing their liquidity free of cost and conditionalities. For instance, an issuance of around US$ 650 billion worth of SDRs would distribute about US$ 21 billion to low-income countries, while an issuance of US $1 trillion in SDRs would provide low-income countries and emerging economies overall with an additional US$ 300 billion. This is still short of the UN Conference on Trade and Development (UNCTAD)’s estimate of US$ 2.5 trillion needed by developing countries to face the multiple crises prompted by the pandemic. Therefore developed countries should also commit to some form of reallocation schemes (including donation of SDRs to poor countries) after the new allocation.

CSOs have been calling for a new issuance of SDRs since the pandemic began. Widespread support has been expressed at the highest level, from the Secretary General of the United Nations to African Heads of State and the Financial Times Editorial Board.

Throughout 2020, opposition from the US Trump administration has prevented the IMF Board (on which the US holds a de facto veto power) from agreeing on a new general allocation. However, the Biden administration has expressed a favourable position on SDRs. The G20 Italian presidency has also suggested it will be a priority of its agenda and the G7 has signalled it is open to supporting the measure. As political constraints are being lifted, the IMF will be compelled to make the new general allocation of SDRs happen, and to use its weight and influence to make it large enough to meet the liquidity needs of developing countries.

Closing the gap?

This year, as countries face the difficult challenge of recovering from the Covid-19 pandemic, the IMF is facing a critical opportunity to finally close the gap between rhetoric and practice.

• As countries turn to the IMF for support, the IMF should stop recommending austerity measures in its loan programmes, and instead pro-actively help countries to create fiscal space and give governments the time, flexibility and support to achieve a sustainable, inclusive and just recovery, also promoting policy frameworks that allow an increase in social spending and progressive taxation.
• As a minimum, new loans should adhere to the ‘do no harm’ principle and should include impact assessments of recommended reforms on poverty, inequality, climate and gender.
• As liquidity needs continue to grow, and the debt crisis continues to unfold, it must support the financial health of countries through grants and other highly concessional financing; supporting debt cancellation and restructuring; and issuing a new allocation of SDRs large enough to enable developing countries to recover from the Covid-19 crisis, while getting back on track to achieve the Sustainable Development Goals and the Paris Agreement commitments.

If you would like to add your signature to the civil society call for quick Special Drawing Rights allocation, please complete this form.