IMF has allocated SDRs. Now, might they be redistributed?

Following IMF’s allocation of $650 billion worth of Special Drawing Rights last month, the question has now turned to how they can best be utilized, including proposals to reallocate reserves from higher-income countries to less wealthy nations.

SDRs are seen as a critical tool to help low- and middle-income countries, in particular access liquidity, so they can respond to the COVID-19 health and economic crisis. But one of the IMF allocation’s quirks is that the countries getting the most SDRs are the ones that need them the least. This is because the distribution of the SDRs — which are a type of asset and not actual cash — is based on each country’s quota at IMF, meaning more went to wealthier nations.

Only $21 billion is going to the dozens of countries classified as low-income by IMF, and while that can amount to as much as 6% of gross domestic product for some, it’s also far below the needs of nations struggling under heavy debt burdens and sharply slowed-down economies amid the pandemic.

Reallocation proposals include using existing IMF structures — such as the Poverty Reduction and Growth Trust, or PRGT — to funnel the assets to governments in need through heavily subsidized loans that can even be interest-free, or setting up instruments similar to Brady bonds — a type of sovereign debt security — to help countries restructure their debt burdens and climb out of fiscal holes.

Moreover, given the huge shortfall in climate financing — with donor nations yet to follow through on a $100 billion pledge to a climate fund for supporting lower-income nations — another longer-term proposal includes using the SDRs to plug the global gap by using the assets for green development.

One of the key challenges is that countries themselves ultimately decide if and how they want to reallocate any or all their assets. IMF as an institution cannot take this step, though its top officials have supported the idea of moving SDRs to where they are most needed, and the fund’s staff has been working on options.

Mark Plant, a former IMF official who is now a senior fellow at the Center for Global Development, points out that the reallocation is a “political process” requiring agreements between the world’s key economies.

“The question now is really one of how much help the wealthy world is willing to give,” he said.

The G-20 group of countries has so far seemed to indicate a willingness to move around at least $60 billion worth, Plant said, though the G-7 group has considered up to $100 billion in reallocations.

Plant noted that while the initial IMF allocation last month had no strings attached, the reallocation is different.

“Then it becomes unclear whether there will be conditions or not,” he said. Donors traditionally do not simply hand over assets without some stipulations.

In terms of combining what is politically most palatable with the most technically feasible, Plant said the proposal to use the PRGT seems the most likely to gain traction in the short term.

One reason is that for the time being, IMF’s top members want to preserve the SDRs’ status as a reserve asset, while the fund can also ensure repayment and handle interest expenses.

“The PRGT would be able to lend to poor countries,” Plant said, noting that the SDRs would then “still be a reserve asset, but cashable.”

A critical lifeline

For countries struggling with repaying debt or deploying fiscal firepower to help stoke their economies, bruised from the COVID-19 pandemic, the sudden appearance of reserve assets in their accounts can be a lifeline.

Governments can utilize the newly allocated SDRs to support their reserves, allowing them to use existing stockpiles of dollars, euros, and other currencies for whatever their countries need currently, from buying vaccines to making payments on loans.

SDRs are essentially unconditional money coming from IMF, giving nations fiscal breathing room.

“The SDRs become a cushion,” said Kevin Gallagher, a professor of global development policy at Boston University. Moreover, by having the extra reserves, credit ratings agencies may look more favorably at these countries and thereby help lower their cost of borrowing on capital markets, creating a virtuous cycle.

The SDRs can also be converted into hard currency through swap deals with other nations. However, if a country’s reserve of SDRs falls below its quota level at IMF, it must pay interest on the use of the assets.

The trick now is figuring out how to move the SDRs around the world so that they are put to good use helping countries tackle existing debt burdens, fight COVID-19, and, over the longer run, fund issues such as climate change mitigation.

“I’m optimistic about the direction,” Gallagher said, noting that within IMF and key advanced economies, discussions are taking place in earnest about how to shift the assets internationally.

“But we can’t sit around and talk about this stuff forever,” he stressed, saying a number of countries are in tight spots struggling to make payments right now.

IMF is currently exploring the creation of a new Resilience and Sustainability Trust, though this is likely a year or more away. If it does launch, some economists say it could be a vehicle for using SDRs for longer-term development and growth plans.

George Gray, the chief economist at the United Nations Development Programme’s Bureau for Policy and Programme Support, also pointed to the PRGT as a means to channel the SDRs but was quick to note the growing debt burden around the world. At least 82 countries are facing vulnerabilities because of existing loans, he said.

He said he likes the idea of Brady bonds — which were used to help Latin American nations in the 1980s, backed at the time by the U.S. Treasury. The new proposal aims to utilize IMF’s reserve asset.

“The old debt gets swapped for new debt, backed by the SDRs,” Gray said. One advantage of this system would be that it could help bring private creditors into talks on renegotiating debt.

Governments have largely agreed to suspend debt repayments during the pandemic, under the Debt Service Suspension Initiative from the World Bank and IMF. But the private sector has been less inclined to get involved.

“We need to think about getting the private creditors to the table,” Gray said.

UNDP is also advancing a proposal to leverage capital markets with unused SDRs for climate finance, effectively creating a special purpose vehicle.

“We see a great potential for this,” Gray said, noting that the United Nations Climate Change Conference is coming up in less than two months and that the financing issue is set to be a big part of the agenda at the event in Scotland.