For the world’s monetary system the year 1968 was easily the most testing and dangerous since the Second World War.
It is a remarkable tribute to its resilience and flexibility that it avoided a major disaster and that the rate of world trade expansion remained so high.
This point alone justified the sanguine tone of the report which Schweitzer, the then Managing Director of the IMP, presented in Washington in September, 1968.
The one point which does seem to have substantiated by the economic events of 1968 is that the existing monetary system cannot hope to go on doing its economic job without major reform. This is what underlines the importance of the scheme for creating Special Drawing Rights on the IMF-the “Paper Gold” of future international liquidity.
These were approved at the Rio meeting of the Fund in 1967 and agreed in detail at Stockholm (1968). The events of 1968 did much to secure the eventual acceptance of S.D.R.s to dispel most of the remaining doubts that exist about their usefulness.
Salient Features of the Scheme:
In the absence of international action, there is not likely to be much increase in the stock of international reserves. While there may be some disagreement as to the seriousness of this for the short run, it would be hard to imagine that a rapidly expanding world economy would be possible in the long run on the basis of reserves that did not also expand. The gradual recognition of a possible inadequacy of reserves led to the long process of international discussion and negotiation that ended up in the agreement on the outline for a special facility.
1. Special Drawing Rights (SDRs) a form of paper gold, would supplement gold itself and the two existing reserve currencies the dollar and sterling. The simplest way to envisage the scheme is to think of the rights as pieces of papers which other countries will accept in payment of debt that is, paper gold. The basic obligation of a member is to provide his own currency when requested to the Fund, up to a total of three times his own allocations of SDRs. There is some obligation for drawing countries to “reconstitute” their own position that is repay drawings, but it is very liberal. The participants can obtain SDRs from the Fund when they need them for reconstitution by paying gold and/or foreign exchange (gold convertible). As such the new reserve asset termed as SDRs is not a liability of the Fund.
2. The scheme confers on the members of the IMP new Special Drawing Rights (SDRs) in proportion to their quotas. These rights are designed to meet the need as and when it arises for a supplement to existing reserve asset. These reserves are for the settlement of international balances by the Central Monetary Authorities of the world and would not be available for use to commercial community or banks.
Their use is confined to those countries which are suffering from balance of payments difficulties obviating the danger of dissipation of the reserves under it if countries with strong balance of payments were also permitted to use it for acquiring other currencies or for converting them into gold. These reserves will be used only to obtain currencies of other countries for international payments.
3. There will be no compulsion to repay earlier borrowings from the IMF while drawing on SDKs. This once again goes to confirm the unconditional character of the facility. It would continue to exist along with gold, dollar and sterling as a solid currency for paying international debts.
4. The scheme is general, universal and non-discriminatory in character because it confers same benefits on all. Repayments or reconstitution of reserves (SDKs) which have been used will be necessary only in the case of the use beyond 70% of the average allocation over the preceding five years. In other words, it would indirectly peg the right to use to 70% over a five year period without the obligation to repay, that is, if a nation could have a deposit of 30% of its SDKs intact at the end of five years, it could have spent 70% with no question being asked. To that extent, that is at least up to 70% of it represents a permanent new currency. Thus, the deliberate creation of the new asset in this way within the existing framework of IMF is a “revolutionary step”.
5. The special drawing rights will be issued for a basic period of five years in regulated amount each year. These will be allocated (or wholly or partly cancelled) at five year intervals termed as the basic period. The “basic period” may also be an “empty period” no allocation occurring in that interval. The “basic period” is to run consecutively. The reconstitution rule enforces the “calculability” of SDFs.
The total amount to be issued in any year has not yet been specified but the figure of one or two billion dollars per year has been mentioned in the talks. The cardinal feature of the new plan is the principle for the conscious creation of man-made reserves to supplement gold. According to Schweitzer Managing Director of the IMF, the proposed new credit facilities in the form of SDKs will have all the qualities of gold as an international reserve asset.
6. SDKs do not accrue to the Fund in the first instance. They are deliberately created by the Fund on behalf of the participants and in the first instance accrue wholly to participants. SDKs are simply entries in the books of accounts of the participant countries in the special drawing account of the IMF. riot all members of IMF need be participants; there is, however, liberal for opting in or opting out, members can opt in during the operation of a basic period and yet receive allocation.
The fund holds the SDKs in the general account, and will pay interest in the form of SDKs to the excess holders of SDKs (excess over net cumulative allocations) and receive charges in the form of SDKs (deficit below net cumulative allocations).
7. All the decisions regarding the creation of SDRs will require an 85% majority of voting power of the participants.
8. The participants are free to exchange SDRs for each other’s currency and vice versa. They can hold as large or as small an amount of SDRs in excess of their net cumulative allocations as they like, subject to their obligations to satisfy the requirements.
Merits of the SDR scheme:
(i) The SDR scheme is simple and flexible. The scheme is intended to provide systematic and regular additions to international liquidity (Being purely fiduciary in nature) the supply of SDRs can be easily increased.
(ii) The SDKs have done away with the use of monetary gold and have at the same time placed internationally convertible currencies at the command of member countries to tide over temporary deficits in their balance of payments.
(iii) The use of SDKs does not require repayment according to a fixed schedule as is the case with the fund’s lending. The repayment procedure under the SDK scheme is more flexible.
(iv) The introduction of SDKs leads to a permanent addition to the amount of international liquidity.
Limitations of the Scheme:
(i) Though SDKs are paper gold and constitute a useful and flexible instrument of international liquidity, it cannot be used to finance persistent payments deficits without leading to international inflation.
(ii) The SDKs are purely fiduciary in nature. Consequently there is likelihood of distrust developing against the new reserve assets.
(iii) The scheme does not provide any cure for a basic international monetary problem. This basic problem is the international movements of funds from one country to another. The scheme cannot help prevention of switches from currencies to gold.
(iv) The distribution of SDKs on the basis of IMF quotas appears to go against the principle of equality, as a major portion of the SDKs allocation goes to rich countries having enough liquidity.
(v) New SDKs can be created only by an 85 percent vote of the shareholders of the fund. This gives both the U.S. and the common market countries (if they vote together) a veto over new issues.
Thus, the developed nations retain substantial control over the allocations of the fund’s resources.