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October 10, 2010

Finance Leaders Call for IMF Role in Averting Protectionist `Currency War’
By Sandrine Rastello and Paul Abelsky – Oct 9, 2010

Global governments called on the International Monetary Fund to calm the recent outbreak of tensions over currencies, which they warned risk triggering a protectionist backlash

Officials including U.S. Treasury Secretary Timothy F. Geithner and Brazilian Finance Minister Guido Mantega said the lender should help formulate initiatives on how countries can expand their economies without damaging those of other nations. The institution has called on most developed economies to boost exports while urging some emerging markets to step up domestic consumption and let their currencies appreciate.

“The IMF has an important role to play to help ensure that progress toward rebalancing strengthens and that the international adjustment process is permitted to work,” Geithner said in a speech at the IMF’s annual meeting today in Washington. “It is ultimately the responsibility of countries to act, but the IMF must speak out effectively about challenges and marshal support for action.”

Currency intervention by nations from China to Brazil and the prospect of easier monetary policy by the Federal Reserve have roiled foreign-exchange markets. China, the world’s fastest growing major economy, has limited gains in the yuan to about 2 percent against the dollar since June to the irritation of foreign officials who view it as undervalued and an attempt to boost the country’s exports.

The ‘Right Place’

IMF Managing Director Dominique Strauss-Kahn accepted the role and said the fund would publish reports highlighting linkages between economies as part of a “systemic stability initiative.” The IMF’s steering committee also said it should “deepen its work” on capital flows, exchange rate movements and the accumulation of reserves.

“The need to have this kind of spillover report has been discussed for months and now it’s part of our toolbox,” Strauss-Kahn said.

The IMF studies will focus on the U.S., China, the U.K., Japan and the euro area. They will show, for instance, how U.S. monetary policy affects capital flows to other countries, he said.

Canadian Finance Minister Jim Flaherty said there is broad support for Strauss-Kahn to serve as currency cop and warned the restraining of some currencies risks triggering a protectionist backlash.

‘Role to Play’

“There’s general agreement that the IMF has an important role to play,” Flaherty told reporters. “There have been discussions here with respect to developing rules of the road or guidelines with respect to how countries deal with their currencies.”

The IMF nevertheless has a weak record in recent years on pushing governments to change their policies toward trade and exchange rates. A 2006 effort to oversee the rebalancing of the world economy petered out and China has repeatedly rejected the fund’s analysis.

“For lack of a better alternative, the IMF has to play an active role in trying to mitigate currency competition,” said Eswar Prasad, a senior fellow at the Brookings Institution and a former IMF official. “But the IMF power is really limited to persuasion because it has few good instruments to promote cooperation among member countries who are unwilling to modify their policies.

Currencies Vulnerable

French Finance Minister Christine Lagarde cautioned yesterday that rather than new initiatives, she is “more concerned with what we do with the institutions we’ve developed over time.” A U.K. official today questioned the new approach, telling reporters it sounded like the IMF would now just carry out its regular reviews of economies at the same time.

Developing economies in the Group of 24 this week said industrial nations’ low interest rates have left them vulnerable to exchange rate appreciation and overheating. Brazil has stepped up intervention in the currency market in a bid to prevent its currency, the real, from rallying. Mantega said on Sept. 27 that the world was engaged in a “currency war.”

Further trade tensions may already be emerging. Ukraine is the latest emerging market to consider capital controls to prevent short-term investments from fueling volatility in its currency, the hryvnia, Deputy Premier Serhiy Tigipko said in an interview in Washington.

Chinese officials said they will stick to a gradual rise in the yuan’s value to avoid social turmoil. The currency traded at its highest level since 1993 at the end of last week, four months after the government pledged greater flexibility.

“China’s exchange-rate policy is based on the market supply and demand relation to move gradually to the equilibrium point,” China’s central bank Governor Zhou Xiaochuan told a panel discussion yesterday. “We do that in a gradual way, rather than a shock therapy.”

“It’s very unlikely that China will come on board because they already feel they’re unfairly singled out,” said Prasad, who used to head of the China division at the IMF.

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