How to spell relief

At last month’s International Monetary Fund meeting in Washington, Canada’s finance minister, Ralph Goodale, was one of the principal opponents of a plan floated by his British counterpart, Gordon Brown, to finance debt relief to poor countries through revaluation of the IMF’s gold holding.

The plan intended to provide more funds for the IMF’s trust fund for Heavily Indebted Poor Countries (HIPCs). That trust fund was previously financed from gold transactions the IMF made in 1999 and 2000, which essentially revalued existing gold reserves while making the realized profit available as cash.

Chancellor Brown is ready to see the IMF do that again, with an ultimate goal of forgiving 100% of HIPC debt. Goodale said Canada would want “absolute assurances” that the transaction should not harm the gold price. The IMF seems to hope it can have both.

Anyone listening to Gordon Brown at other times can be forgiven for thinking that he is one of those Old Labourites who never saw a commodity price he didn’t think was too high. Certainly that is the message of his public suggestion that “stability in oil markets around reasonable prices” was a legitimate goal of the IMF, though one supposes he might have occasion to be thankful for high oil prices at the time of the budget.

But higher gold prices aren’t quite so bad, especially when the balance sheet can show a windfall by bringing the book value up to market. (It is perhaps an illustration of Brown’s familiarity with open economies that he found it necessary to speak of the need to “increase transparency” in the oil market and for “continued dialogue between consumers and producers.” Last time we looked, there were spot and futures markets in crude oil, and transparency and dialogue are precisely what they do.)

Yet through that fog Brown has recognized that debt relief will need a funding source — that simply saying to lenders “there’s plenty more where that came from” is no solution. In this, he’s absolutely right, and even probably right about the search for funding always coming around to gold.

The reason the IMF’s gold assets always seem to come up as a means for financing the next round of debt relief is that they are the assets with the biggest gap between book and market value, thanks to gold’s run-up from US$35 per oz. in the 1970s. The most recent estimates from the Fund show US$42.2 billion in gold holdings, carried at only US$8.5 billion (and the gold holdings have made another US$1-billion paper gain since).

The IMF has consistently seen that difference as a source of balance-sheet strength, one that would be eliminated if there were a wholesale revaluation. It has also been an unapologetic gold hoarder, on the grounds that gold can meet unforeseen contingencies. Heavily indebted poor countries have been with us too long to be considered an “unforeseen contingency.” And a financially strong IMF can help poor debtor nations; a weak one can’t.

We see three questions that will need answering if IMF gold transactions are going to work. First, can they do enough? The debt burden of the “Hipsies” has been estimated at US$55 billion, with about half being provided by the IMF. The difference between book and market value of the IMF’s gold — assuming the market price is realizable — is more than US$33 billion, and the Fund would not need anything like that amount to back a debt-reduction program.

Second, are there transactions the IMF could do that don’t harm the gold price, and undercut the advantage of holding undervalued gold? That’s more debatable. After all, gold sales by central banks took much of the blame for the metal’s sad-sack days in the late 1990s.

The answer to that may be in the history of the IMF’s gold “sale” in 1999 and 2000, when Brazil and Mexico, which had obligations to the IMF coming due, bought 13 million oz. of gold at the market price and immediately returned it to the IMF in satisfaction of those payments. The essential ingredient, of course, was a pair of buyers with adequate cash to make that transaction.

At the time, former IMF deputy managing director Stanley Fischer argued that the sale arrangements didn’t significantly hurt the gold price. That was true, largely because they didn’t bring physical gold into the market. We’d bet any future gold transaction by the Fund would likely meet that same test; and it would meet a gold market whose psychology is vastly stronger than it was in 1999.

Third, does debt relief do what it should? The whole international system got us to where we are today, but the Hipsies themselves were the active borrowers and cannot evade their responsibility to treat refunding prudently. Most have: but gold-producing poor countries such as Ghana and Mali have been among the most prudent.

Fischer argued back in 1999 that debt relief would do more for Third World gold-producing countries than a higher gold price would do; but what if that comes at a cost to them that is not shared by the other Hipsies?

Even if gold-producing countries gain by debt relief, relief that comes with a surtax on one productive sector of the economy still penalizes them while rewarding others. The IMF has made a point of trying to be objective about the help it gives poor countries; it shouldn’t abandon that principle in a gold transaction.