What Are the World Bank and the International Monetary Fund?
Learn more about the two institutions that undergird global development and the international monetary system.
World War II laid waste to Europe. It destroyed entire cities, created dire food and fuel shortages, and left the financial systems of countries like Germany in such disarray that citizens resorted to using cigarettes as money.
Western leaders feared this extreme poverty could open the door to communism and a resurgence of violence. So as the war drew to a close, representatives from forty-four nations met in Bretton Woods, New Hampshire, in 1944 to discuss ways to promote economic recovery and build a global monetary system designed to ensure stability and prevent future wars. Most notably, two historic institutions emerged from this conference: the World Bank and the International Monetary Fund (IMF).
For decades, these two organizations—traditionally led by a U.S. citizen and European respectively—have promoted trade, development, and economic stability around the world. But their policies have also proved to be imperfect—and at times even harmful.
This lesson breaks down the successes and failures of the World Bank and the IMF and explores the roles of these institutions in a global financial landscape that looks markedly different than it did more than seventy-five years ago.
What is the World Bank?
The World Bank was founded to provide loans for rebuilding postwar Europe, thereby supporting the continent’s long-term development. Today, its mission has expanded to ending extreme poverty and promoting shared prosperity around the world.
To achieve this goal, the World Bank issues loans and grants to low- and middle-income countries that it classifies as developing countries. For example, if a government wants to build a multibillion-dollar dam or hundreds of new schools, the World Bank can assist with funding and technical support. Over the years, the World Bank has lent hundreds of billions of dollars to developing countries, including now over $30 billion annually to the world’s poorest countries, at concessional (below market) interest rates. It also provides approximately $8 billion annually in grant financing to the world’s poorest countries.
The World Bank’s projects are wide ranging, and many have been quite successful. In India—a country with the world’s largest number of people living in extreme poverty—the World Bank has contributed to the country’s development, improving roads in rural areas and ensuring almost every child attends elementary school. Elsewhere, the World Bank has devoted billions of dollars toward the global AIDS response, supplied countries with cutting-edge development research, and supported vital reconstruction work in Bosnia, Colombia, and El Salvador following those countries’ civil wars.
World Bank Project Case Studies
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However, the World Bank is not without its flaws. Projects have at times ignored the opinions of local communities, displaced indigenous groups, and struggled to fight widespread corruption.
At a more fundamental level, experts question whether the World Bank fully understands what policies best reduce poverty, as it has lurched from one magic bullet to another. It has financed large-scale infrastructure, supported free trade and other reforms to reduce the government’s role in the economy, and focused on social welfare and efforts to improve domestic governance (often code for reducing corruption).
Additionally, many leaders criticize the World Bank’s classification of developing countries, arguing that the term is too broad and fails to recognize the many differences between the economic states of countries within the designation. For example, China is currently categorized as a developing country—and has continued access to billions of dollars in loans—even though it is the world’s second-largest economy and is lending hundreds of billions of dollars to other countries to finance infrastructure projects as part of its Belt and Road Initiative. That criticism is part of a broader debate about whether the World Bank should continue to lend to middle-income countries or prioritize giving grants and preferential loans to the world’s poorest countries, which may struggle to find financing elsewhere.
Despite the challenges it faces, the World Bank plays an important role in global development, as over six hundred million people live in extreme poverty. And as COVID-19 threatens to thrust an additional one hundred million people into extreme poverty, the World Bank is arguably more important than ever before. In response to the global pandemic, the World Bank is working to deploy over $160 billion over fifteen months to help countries respond to the health crisis. That funding is going toward emergency projects, including bolstering disease surveillance in India, improving pandemic awareness programs in Egypt and Ivory Coast, and providing medical equipment in fragile countries like Afghanistan, the Democratic Republic of Congo, Haiti, and Yemen.
What is the IMF?
The IMF serves as the world’s “financial firefighter.” When a country’s economic problems threaten to undermine global financial stability, the IMF is called upon to douse the flames by providing loans to alleviate the country’s economic stress. All member countries contribute funds to the IMF, which pools those funds to lend to countries in trouble.
How does the IMF know when there is trouble? Countries agree to allow the institution to monitor their economic and financial policies. The IMF uses this information to issue every country a regular (usually annual) report card. This is known as an Article IV consultation.
The IMF judges a country’s financial state by looking at its fiscal position—the size of the government’s budget deficit and the amount of debt it has outstanding—as well as its balance of payments—essentially, how much money is flowing in and out of a country. If a country is running out of foreign exchange reserves or otherwise needs help, the IMF typically offers a loan as well as advice on how to structure economic policies, such as taxation and government budgets. The United States has a unique say on major IMF issues. With certain votes requiring 85 percent approval and the United States controlling 16.5 percent of the organization’s total voting power, the United States effectively has veto power over critical policy decisions.
One of the IMF’s most influential interventions followed the 2008 global financial crisis, which left Europe’s economies reeling. Greece in particular was unable to raise money in the private market because of its exceedingly high debt. This created a problem for not just Greece but all members of the eurozone, as no process had been established at the time for bailing out a country in financial distress in the eurozone. European financial experts were concerned that a messy default would trigger trouble in Europe’s already weak banks and potentially lead to Greece and perhaps others leaving the common currency. Faced with this crisis, the IMF joined the eurozone countries in developing a program to help keep Greece in the eurozone. The IMF provided 30 billion euros, and eurozone countries initially put up 80 billion euros, raising that amount steadily over time. Total lending ultimately reached 289 billion euros. But in the process the IMF also joined the European Central Bank and the European Commission in forcing Greece to implement reforms that led to a large and sustained decline in the country’s economy and to enormous unemployment.
As the Greece example illustrates, IMF loans can be controversial. They often stipulate austerity measures—policies that mandate decreased government spending, increased taxation, or a combination of the two. These policies are intended to boost government revenue, cut down on debt, and allow the country to regain access to funds from the global financial market, but a decrease in spending often means cuts to government services and welfare programs, harming some of society’s poorest members. Greek citizens protested after austerity measures led to pension cuts and tax increases amid a period of record unemployment. And some critics claim that austerity measures are counterproductive to economic recovery. While the IMF can use its funding to have poor countries make economic reforms, the institution has significantly less leverage in encouraging rich countries to adjust their financial and economic behaviors.
The future of the international financial system
The IMF was intended to be at the center of the world’s system for managing financial crises, but its position is now being challenged. Rather than turning to the IMF, some governments are instead finding support from other countries that have significant reserves. In 2013, Ukraine placed a bond with Russia rather than securing IMF financing, though it eventually did turn to the IMF after a change in government. Pakistan turned to China and Arabian Gulf countries for loans before ultimately going to the IMF. And Turkey has turned to Qatar for support in bolstering its depleted central bank reserves.
Additionally, the World Bank’s position as the leading development lender is under even more threat as, in the years preceding the COVID-19 pandemic, China’s policy banks—the China Development Bank and the Export-Import Bank of China—have been bigger sources of development finance globally than the World Bank.
Why would a country turn to another government as opposed to the World Bank or the IMF? China typically does not mandate policy changes like austerity measures or condition loans on improvements in human rights. Additionally, such loans are often not made public, allowing countries like Kyrgyzstan and Niger to keep their financial activities secret. But countries like China also have their own motivations for lending—whether for profit or political gain.
Although other countries and institutions have been presented as alternatives to the World Bank and the IMF, they are not necessarily better than the existing systems. The COVID-19 pandemic has shown that, even with their flaws, the World Bank and the IMF remain important. The IMF has made around $100 billion in financing available to more than eighty countries affected by the crisis. The World Bank has committed to mobilize over $160 billion. Without these two institutions and their strong balance sheets and staff of professionals, countries struggling to manage the pandemic would have had difficulty mobilizing a comparable global response.