Economics 4 This SDR Allocation Must Be Different Sep 10, 2021 Barry Eichengreen When the International Monetary Fund announced last month a new $650 billion allocation of special drawing rights, the hope was that high-income countries would transfer their SDRs to developing countries in need. 5. In the case of LICs, the SDR allocation should not be seen as a substitute for program-based concessional Fund financial support. For the purposes of this Note, on-lending is described as the central banks lending to government agencies the proceeds from the exchange of SDRs for freely usable currency, consistent with domestic legal and institutional frameworks. Economists at Morgan Stanley say there is a practical . While a majority of countries have adopted the BPM6 guidelines, accounting treatments may deviate for countries that have not yet moved to BPM6.15 Country teams should encourage the authorities to reflect immediately the acquired SDRs as a result of the allocation in reserve assets and in long-term liabilities in line with BPM6. The IMF confirms a debit to the SDR seller. The IMF has the authority under its Articles of Agreement to issue general allocations of SDRs to participants in its SDR Department (currently, all members of the IMF) in proportion to their quotas within the Fund. These best practices, however, do not specify in which of the members domestic institutions SDRs should be recorded. These pillars include, among others, financial reporting practices and external audit arrangements of the central bank, with international standards as the benchmarks that help assure transparency and consistency in reporting of transactions.43. Typically, the regional central bank of a centralized currency union maintains national offices in each member economy. Use defined narrowly is the drawdown of SDR holdings to obtain freely usable currency (either for spending or to change the composition of reserves), or to conduct authorized operations with participants and prescribed holders in the SDR Department. Such SDR-related lending would need to meet the following conditions: (i) be clearly identifiable as lending related to or facilitated by the SDR allocation; (ii) be disbursed to the budget within 12 months after SDRs are allocated and recorded in the central bank; (iii) be smaller or equal than the size of the SDR allocation; and (iv) contain a grant element of at least 35 percent and be sizable enough to have a material impact on the DSA. In response to the health and economic effects of the Coronavirus Disease 2019 (COVID-19) pandemic, the G-20 finance ministers in April 2021 announced . In line with the BPM6, the gross external debt position of member countries should also reflect the new SDR allocation. It will particularly help our most vulnerable countries struggling to cope with the impact of the COVID-19 crisis. This publication also provides extensive information on the functioning of the VTA market and includes details on the VTA operating modalities, capacity, trading by region and also covers aggregate transaction volumes. In particular, immediately the member would not be permitted to use any Fund resources (i.e., GRA or Trust resources), and measures would then be escalated as time passes.13 Participants should monitor movements in their SDR holdings using various resources provided by the Fund to ensure they have sufficient SDRs to meet upcoming financial obligations. 2For LIC-DSF, use of SDRs would also affect the present value of debt metric. A fuller analysis would need to allow for differences in currency composition and inflation. The procedure described in the following bullet applies when the central bank is part of the DSA perimeter. International Monetary Fund Copyright 2010-2021. Authorities should also consider the risksalbeit lowassociated with the possibility of a reconstitution requirement or a cancellation of SDRs. The impact on debt sustainability will depend on how SDRs are used and the effects on the members macroeconomic framework. International Monetary Fund (IMF), 2021a, Proposal for a General Allocation of Special Drawing Rights, IMF Policy Paper, Washington, DC. Therefore, official holders may freely transfer SDRs to other official holders to settle financial obligations such as repayments of loans or payments of interest. This can be done by running down either SDR holdings or other reserve assets. In the rare event that the SDRs are recorded in a government agency outside of the DSA perimeter and different from the central bank, SDR drawdowns by this agency should still be included in the DSA. It classifies reserve-related liabilities to nonresidents on a remaining maturity basis and by debt instrument as follows: (i) short-term reserve-related liabilities (memorandum items), and (ii) long-term reserve-related liabilities (supplementary items). Conversely, participants that hold more SDRs than their cumulative allocations will receive more interest on their holdings than the charges they will pay on their allocations. Staffs advice on the prudent use of the policy space provided by the allocation, as well as program modalities, should not depend on where members record the SDR allocation. As of end-July 2021, the Executive Board has determined that the currencies in the SDR Basket, including the British pound sterling, Chinese renminbi, the euro, the Japanese yen, and the U.S. dollar, are freely usable currencies. This section only applies to instances where the SDR allocations are held by a members central bank. These transactions can be facilitated by the Fund through the VTAs or arranged bilaterally between two parties: VTAs are arrangements between the Fund and a group of 31 SDR participants and one prescribed holder as of June 30, 2021 who have agreed to exchange SDRs for specific currencies within set limits.1, In bilateral agreements, SDR participants or prescribed holders agree among themselves to buy or sell SDRs bilaterally. This website tracks how countries are using their SDRs. In cases where SDR holdings have been used, staff reports should mention in broad terms to what extent the allocation may have helped loosen fiscal financing constraints and implement countercyclical macroeconomic policiesincluding for priority spending to fight the COVID-19 pandemic; reduce debt; support reserve management operations; and/or provide liquidity to the private sector. Since 1987, there has been no need to use this mechanism. Repayment of GRA borrowings and interest: Repayments of principal and payment of interest under New Arrangements to Borrow and Bilateral Borrowing Arrangements. The IMFs Fiscal Transparency Code (FTC) can help enhance transparency and accountability in the use of SDRs in public finances. If voluntary trading cannot be secured in a case where a member declares a balance of payments need, the Articles of Agreement provide for a designation mechanism so that members that need to use SDRs can exchange them for freely usable currencies (see Box 1 in Annex III). In GFS, if SDR allocations are held on the balance sheet of general government (e.g., by a government agency), the new allocation of SDRs will be classified as a debt liability to nonresidents, with a corresponding entry on the financial assets side (the SDR holdings). A participant in the SDR Department or prescribed holder may use SDRs freely, without the requirement of a balance of payments need, to obtain an equivalent amount of currency in a transaction by agreement with another participant or prescribed holder. If this treatment is followed, then the SDR allocation will not result in an increase in NIR. In monetary and financial statistics (MFS) as published in the IFS, the new SDR allocation will increase claims on nonresidents (foreign assets) and liabilities to nonresidents (foreign liabilities) for those countries where the SDR positions are included in the central banks balance sheet. Other areas are the legal structure, the internal audit mechanism, and the control framework. Other transactions in the Trusts include financial contribution s provided by participants to the Trusts and loan repayments from borrowers. In the LIC-DSF when the SDR is recorded on the Treasurys balance sheet, only the interest payments and their present value impact the debt sustainability assessment. The Annexes provide additional information and operational details on statistical considerations, the SDR reconstitution mechanism, the SDR Department, and useful SDR tools for Fund staff. If intersectoral consolidation is conducted, the reciprocal domestic positions between the two public entities will be excluded, and only the external debt liabilitythe SDR allocationreflected in the total public external debt. *The amounts in individual country lines are only indicative for the purposes of this sample report and are not based on any actual country information. Purchases and repurchases in the GRA: IMF financing is conducted via a purchase and repurchase mechanism. In doing so, the SDR allocation helps promote the attainment of the Funds purposes as spelled out in the Articles of Agreement.2. 2. While members should act flexibly to end the crisis, staff should stress the importance of sustainable policies. 36. Unlike debt subject to debt limits, SDR liabilities are not created under a contractual arrangement, they do not mature, and they generally have limited impact on members debt sustainability.56 This treatment is consistent with objectives of such limits to help address debt vulnerabilities by preventing an unsustainable build-up of external debt during the period of the Fund arrangement that may lead to debt-servicing problems in the medium term. Country teams will need to examine each case to understand which situation applies. Direct limits on the use of SDR holdings are inconsistent with their status as an unconditional reserve asset, but program targets may indirectly result in limits (see Box 1). Countries would need to hold or acquire SDRs (e.g., by exchanging other foreign exchange assets) to cover interest payments on SDR allocations. Interest rate risk exposure only arises on a net basis (i.e., a net open position), when there is a difference between SDR holdings and cumulative allocations. Fiscal Safeguards Reviews apply to cases where a member requests exceptional access to Fund resources and there is an expectation that a substantial portion of the resources will be directed toward budget financing. International Monetary Fund (IMF), 2013c, Staff Guidance Note on the Application of the Joint Bank-Fund Debt Sustainability Framework for Low-Income Countries, IMF Policy Paper. 63. percent of its August 2021 SDR allocation in exchange for dollars. So, not all long-term debt liabilities are reserve-related liabilities, and reserve-related liabilities also include short-term debt liabilities. 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