The IMF, the U.S. Subprime Crisis, and Global Financial Governance

Posted by Biagio Bossone on 3 February 2009

With few notable exceptions, economists worldwide have failed to predict the emergence and gravity of the financial crisis originated in the United States. Such dramatic failure of the economic profession has played out quite vividly in blogs and opinion posts, as well as in national parliamentary testimonies, working papers and conferences in major universities (Bennet 2008).


But as the governments of leading industrial and emerging economies stress the importance of setting up warning systems to anticipate critical events (see statement of the G20 Leaders), it is crucial to wonder how the failure to detect early signs of the crisis was possible at the IMF, the multilateral organization that is statutorily mandated to oversee international financial stability, and avails itself of unique authority and resources to do so.

Explaining the IMF’s défaillance

How to explain this major IMF défaillance: was it due to inadequate technical capacity or else? The question is relevant, not only because identifying causes and responsibilities of a failure is the first step to prevent its reoccurrence, but primarily because no entity purporting to govern global finance in the years ahead can afford to neglect the surveillance role of the IMF. Understanding how to strengthen this role is thus essential. 


Those who bear responsibility for the IMF failure are many. Reconstructing what happened, and why, will require careful evaluation–a task that, perhaps, the IMF’s Independent Evaluation Office might consider undertaking. Here I wish to raise a few issues and offer very preliminary answers, suggesting key areas for deeper digging.

Was it technical incapacity?

The IMF has made significant strives, especially in the wake of the Asian financial crisis of 1997, to strengthen its capacity for financial sector analysis, which now focuses on assessing the impact of global and domestic financial markets on economies and on disseminating best practices in financial sector supervision. Yet various recent independent evaluations have noticed the persistence of technical and organizational weaknesses that impair the IMF’s ability to integrate macroeconomic and financial sector analyses, and to draw credible risk indications from them (Bossone 2008a).


In 2005, the group led by William McDonough to review the Fund’s financial sector work found major shortcomings and advised the Fund to build skills to interact with domestic policymakers and market participants, calling for nothing less than “…a fundamental change of orientation and mindset for all involved” within the institution (McDonough 2005: 10). Notwithstanding follow-up action from the IMF, the opinion remains today widespread that the technical skills of its economists are inadequate to understand the financial markets, and to appreciate how they interact with the real economy. Still in the summer of 2007, the IMF staff indicated that in the United States “[c]ore commercial and investment banks are in a sound financial position, and systemic risks appear low” (IMF 2007a: 14)


Which analytics did the IMF economists miss out that caused them to overlook the vulnerabilities that were building up within the US financial sector, with risks of propagation to the rest of the economy and internationally? Any serious evaluation will have to look into this question. As well, it will have to assess the limitations to the IMF interaction with the Financial Stability Forum, where the major national financial regulatory authorities are represented. The synergies between the formidable capacities of the two organizations should have led them to a timely recognition of increasing systemic risks in the US economy: what didn’t work? 


Another important issue needs an answer:  


To what extent has the United States supported IMF surveillance?


From the Asian crisis onward, the United States (specially through the G7) has prompted the IMF to strengthen financial sector surveillance. A rich policy framework resulted that integrates a broad range of instruments including new international standards of best practice, codes of good policy conduct, powerful diagnostic tools and comprehensive assessment exercises, like the Financial Sector Assessment Program (FSAP), run by the IMF (and the World Bank) to identify domestic financial sector vulnerabilities.


In fact, the United States has never requested an IMF FSAP, claiming that the assessment would weigh too heavily on the scarce resources of the organization. Although unquestionably true, this should have induced IMF members to endow the institution with enough resources, rather than inhibit the assessment of the world’s most systemically relevant domestic financial system. More generally, since many years now, the United States prefers alternative forums to the IMF for debating surveillance issues (the G7, the G10, and possibly the G20 going forward), de facto weakening the IMF. One would wish that the new Obama administration opened an era of greater preparedness of the United States to subject itself to the same discipline it invokes for the rest of the world.


In conclusion, the IMF may have suffered from inadequate analytic capacity and incomplete implementation of surveillance. Yet both are areas over which the IMF Executive Board should have intervened vigorously, soliciting management and national authorities, but...

Where was the Executive Board?

The IMF board oversees the adequacy of the institution’s surveillance policy and its correct implementation across member countries. In fact, while the board devotes much of its time to discuss staff country (Article IV) reports and to issue recommendations (to which member countries do not attach particular importance), it fails to exploit its potential as a collegial body of corporate governance to ensure the highest quality of surveillance and to seek full cooperation from member countries (IEO 2007, Bossone 2008b). Is the IMF dialogue with national authorities–especially of the largest countries–sufficiently informative, frank and open? Is the staff under undue pressure from the authorities to present a less than candid opinion on the economy? Do countries take Fund advice seriously? These are issues over which the board should exercise close oversight. Regrettably, its lack of autonomy and limited authoritativeness reduce its efficacy and power of influence.


Swamped by a heavy routine, board members do not invest much time going beyond the information reported to them by the staff; nor do they systematically integrate the information available to their offices to inform board discussions or to control management conduct thoroughly. The board tends to fall prey of “tunnel visions” shaped around staff-management views, depriving the institution of the internal dialectics and checks and balances that a resident board in continuous session should be able to ensure. On financial sector surveillance policy, in particular, over recent years the board has been unable to provide adequate oversight and strategic direction (Bossone 2008a). As a result, surveillance policy reviews are weaker than what they might be under an effective board, and rarely do board recommendations to countries under surveillance add significantly to staff views. In concluding the 2007 Article IV consultation with the United States, much in unison with the staff, the board stated that “[t]he financial system has shown impressive resilience, including to recent difficulties in the subprime mortgage market” (IMF 2007b).

Could have it been different?

In the absence of the weaknesses just discussed, more could have been done before the situation grew unmanageable. Yet a major obstacle would have persisted: the lack of a multilateral political space where national governments, with the support of the IMF, would assess the international consistency of domestic financial policies, and agree on preventive or corrective actions, if necessary, through peer pressure: even good surveillance is not enough if countries do not follow up with good policies. The international community needs a legitimate and effective leading governing body that would be politically responsible to ensure international financial stability and coordinate international financial policy activities: the only hope for nation states to try to govern transnational financial phenomena. As I recently argued on this blog, a reformed International Monetary and Financial Committee of the IMF would be the appropriate entity to play this role (Bossone 2009). It should do so in the context of an IMF reform that would strengthen the board and make management accountable (an issue I plan to return to shortly on VoxEu).


Governing the global economy requires understanding the failure of not just the IMF, but of its governing bodies and the whole international community, which all have proved unable to achieve the needed level of cooperation.

Biagio Bossone

Former member of the Executive boards

of the IMF and the World Bank Group


Bennet, D., 2008. Blinsided by Crisis, Economists Rethink Profession along with Theories. International Herald Tribune. December 23


Bossone, B., 2008a. Integrating Macroeconomic and Financial Sector Analyses within IMF

Surveillance: A Case Study on IMF Governance. BP/08/11. Washington, DC: Independent Evaluation

Office of the IMF


Bossone, B., 2008b. IMF Corporate Governance and Surveillance: An Evaluation, BP/08/10. Washington, DC: Independent Evaluation Office of the IMF


Bossone, B., 2009. Global Finance Needs a Real New “Bretton Woods”. January 28.


IEO, 2007. An IEO Evaluation of IMF Exchange Rate Policy Advice, 1999–2005. Evaluation Report.

Washington DC: Independent Evaluation Office of the IMF


IMF, 2007a. United States: 2007 Article IV Consultation–Staff Report. IMF Country Report No.07/264. August. Washington DC: IMF


IMF, 2007b. IMF Executive Board Concludes 2007 Article IV Consultation with the United States.

Public Information Notice (PIN) No. 07/92. Washington DC: IMF. August 1


McDonough. W. J., 2005, Report of the Review Group on the Organization of Financial Sector and Capital Markets Work at the Fund. November