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Confession: IMF admits it failed to spot economic crisis

This is an organisation that tells countries how to avoid economic crises. But the International Monetary Fund itself missed all the red flags and failed to foresee the first economic crisis of this century. Yashwant Raj reports.

business Updated: Feb 10, 2011 21:33 IST
Yashwant Raj

This is an organisation that tells countries how to avoid economic crises. But the International Monetary Fund itself missed all the red flags and failed to foresee the first economic crisis of this century.

The Fund also got India wrong and continued to push it to further liberalise its financial markets and the capital account, when in fact its limited exposure to the western financial system was what saved the country from the contagion.

"The IMF provided few clear warnings about the risks and vulnerabilities associated with the impending crisis before its outbreak," said an in-house probe of the fund's failure to foresee the 2008 economic crisis.

This was blamed on a combination of factors - unwillingness to go beyond the group thinking, inability to see beyond what some of the big banks and members countries were saying and, unsurprisingly, "turf" issues.

The findings were released on Wednesday with statements from the IMF brass, including managing director Dominique Strauss-Kahn, endorsing the investigation's findings and recommendations.

The probe was conducted by the Independent Evaluation Office of the Fund tasked to look at the organisation's surveillance mechanism from 2004 to 2007 leading up the crisis in 2008. And it was found to have performed miserably.

"The banner message was one of continued optimism after more than a decade of benign economic conditions and low macroeconomic volatility," said the report of the IMF, which had sounded bullish and confident about the overall outlook.

It did not miss the signs completely though. Some of its reports had mentioned risks and dangers, but the organisation was not listening to itself - and its annual forecast the World Economic Outlook never took note of them.

In fact, the evaluation found that there was no dearth of red flags within the organisation.

Its own economic counsellor Raghuram Rajan had warned of it in a speech at a conference in 2005.

"Despite the importance of the economic counsellor's position, there was no follow up on Rajan's analysis and concerns.

His views did not influence the International Monetary Fund's work programme or even the flagship documents issued after … speech."

In a later chapter the report said that on the basis of interviews with the International Monetary Fund's staff and seniors, Rajan's analysis was ignored because of "turf" issues.

"The Fund is so closely aligned with the world's top banks that it was unable to see the crisis which was rooted in these banks," said Nayan Chanda, an expert on globalisation at Yale University.

That's probably why India never heeded the Fund's advice, forcefully and repeatedly delivered over 2006 and '07, and stuck to its chosen course on financial sector reforms.

"Some senior officials consider," said the evaluation report, "that India's success in weathering the crisis could be attributed in part to its more conservative banking sector and gradual approach to liberalising its capital account."

Other countries were less obstinate and found themselves overwhelmed.