WASHINGTON, DC: The Executive Board of the International Monetary Fund (IMF) concluded theReview of the Adequacy of the Fund’s Precautionary Balances. [1]
The Fund’s precautionary balances—which consist of general and special reserves, except for the portion attributed to gold sales profits—are a key element of the IMF’s multilayered framework for managing financial risks. Precautionary balances provide a buffer to protect the Fund against potential losses resulting from credit, income, and other financial risks. For this reason, they help protect the value of reserve assets represented by member countries’ positions in the Fund and underpin the exchange of assets through which the Fund provides financial assistance to countries with balance of payments needs.
This review of the adequacy of the Fund’s precautionary balances took place on the standard two-year cycle, after the December 2021 interim review. In conducting the review, the Executive Board applied the rules-based framework agreed in 2010. The framework uses an indicative range for precautionary balances, linked to a forward-looking measure of total IMF credit, to guide decisions on adjusting the target for precautionary balances over time. The framework also allows for judgement in setting the target, considering a broad range of factors that affect the adequacy of precautionary balances.
The Board also discussed the role of surcharges, which are primarily a component of the Fund’s risk management framework but also contribute to the accumulation of precautionary balances.
Executive Board Assessment[2]
Executive Directors welcomed the opportunity to review the adequacy of the Fund’s precautionary balances on the standard two-year cycle, after an interim review in December 2021. They emphasized the importance of maintaining an adequate level of precautionary balances to mitigate financial risks, safeguard the strength of the Fund’s balance sheet, and protect the value of members’ reserve positions in the Fund. Directors underscored the importance of adequate precautionary balances for the Fund’s ability to lend to its membership.
Directors agreed that the current rules-based framework adopted in 2010 for assessing the adequacy of precautionary balances remains broadly appropriate. They emphasized that judgment and Board discretion remain an important part of the framework. Against the background of the recently approved Enterprise Risk Management framework, Directors welcomed the discussion of enterprise risks in the staff report and encouraged staff to work with the Office of Risk Management to ensure that all relevant risks are adequately incorporated in the assessment of precautionary balances.
Directors noted that precautionary balances have risen further since the interim review and coverage ratios have strengthened. At the same time, credit and other financial risks have also increased. Credit outstanding is close to historical peaks, driven by lending to some of the Fund’s largest borrowers, and is estimated to remain on a higher trajectory than projected at the time of the 2021 interim review. Credit risk is heightened by a projected peak in repurchases in FY2023-25, mainly from the largest borrower and emergency financing. Near-term income risks have moderated but remain subject to concentration risks, while investment risks are elevated amid heightened volatility in financial markets.
Directors agreed that despite the higher trajectory of credit outstanding than projected at the interim review, the medium-term target for precautionary balances is expected to remain within the indicative range of the forward-looking credit measure and above its mid- point in the most plausible desk-based demand scenario. Moreover, commitments under precautionary arrangements have declined and the burden-sharing capacity has increased significantly since the interim review. Against this backdrop, Directors broadly agreed to retain the current medium-term target of SDR 25 billion. Some Directors argued for a higher target.
Directors agreed that the evolution of precautionary balances in relation to the target will need to be closely monitored amid the weakening global economic and financial outlook and heightened uncertainty, with risks unusually large and to the downside. Most Directors supported maintaining the regular two-year review cycle but would welcome an interim review should lending developments diverge significantly from the paper’s projections, or credit and other financial risks rise materially, including due to changes in Fund lending policies. A few Directors considered that currently elevated risks and uncertainties warranted an interim review in 2023.
Directors broadly supported maintaining the minimum floor for precautionary balances of SDR 15 billion for now. They emphasized that an adequate minimum level of reserves should be maintained to ensure sufficient income and protect against an unexpected rise or deterioration in credit risks. Directors underlined that under the framework, the minimum floor is expected to be changed only occasionally, as it is based on long-term credit and income considerations, and agreed to revisit the adequacy of the minimum floor at the next review. However, some Directors would have preferred raising the floor in the current review.
Directors noted that the pace of reserve accumulation is slightly faster than projected at the time of the interim review and that, overall, it remains adequate, with the precautionary balance target projected to reach the medium-term target in early FY2025 under the baseline scenario with existing Fund arrangements, and in late FY2024 if new lending under the desk survey scenario is factored in. Directors agreed that no additional steps are needed to reach the precautionary balance target. The pace of accumulation should continue to be monitored closely.
Directors welcomed the opportunity to discuss the role of surcharges and staff’s illustrative analysis of the financial implications of potential surcharge relief. Against the backdrop of a weakening global economy and financing pressures, most Directors were open to exploring possible options for providing temporary surcharge relief, with a few of these Directors supporting a change in policy. A number of other Directors, however, did not see merit in exploring such options at this stage. These Directors noted that the average cost of borrowing from the Fund remains significantly below market rates, while also stressing the critical role of surcharges in the Fund’s risk management framework.
Directors agreed that staff should continue to monitor the need for a successor SCA account. A number of Directors stressed the merits of this account to protect the Fund against provisioning for impairment losses and encouraged staff to explore funding options for the account.
[1]This press release summarizes the views of the Executive Board as expressed during the December 12, 2022 Executive Board discussion based on the paper entitled “Interim Review of the Adequacy of the Fund’s Precautionary Balances.”
[2]At the conclusion of the discussion, the Managing Director, as Chairman of the Board, summarizes the views of Executive Directors, and this summary is transmitted to the country’s authorities. An explanation of any qualifiers used in summings up can be found here:https://www.IMF.org/external/np/sec/misc/qualifiers.htm.