G8 Finance Ministers' Meetings

Strengthening the International Financial System and the Multilateral Development Banks

Report of G-7 Finance Ministers and Central Bank Governors
July 7, 2001, Rome, Italy

Table of Contents

A. Introduction
B. Private Sector Involvement in Crisis Prevention and Resolution
C. Surveillance and Implementation of Standards and Codes
D. Opening Access to Capital Markets
E. The Multilateral Development Banks (MDBs)

A. Introduction

1. The international financial system is central to the functioning of the global economy. It provides a framework that facilitates the exchange of goods, services and capital, and that sustains sound economic growth. A central objective for us, the Finance Ministers of G7 countries, is to foster the continuing development of the conditions necessary for financial and economic stability, which in turn are essential if the benefits of global economic integration are to be sustainable and broadly shared

2. The financial crises in emerging market countries over the past decade have underscored both the costs of financial instability and the speed with which problems in one country can spread to others. Finding ways to limit the occurrence of financial crises, and the severity of those that do occur, has been central to our work agenda in recent years.

3. We identified, at the time of the Cologne Summit, in June 1999, a number of proposals aimed at promoting stability of the international financial system and improving its capacity to withstand the challenges of future crises, including reforming the Bretton Woods institutions, and adopting the appropriate policies to reduce systemic risks.

4. Last year in Fukuoka, we reviewed the major steps taken to further the principles and recommendations outlined in Cologne, in particular efforts by many developing countries to promote financial stability, including the adoption of appropriate foreign exchange regimes and of internationally agreed standards and codes, and the strengthening of domestic financial sectors. We also discussed improvements of the governance and efficacy of activities of the International Financial Institutions (IFIs) including the progress by the International Monetary Fund (IMF) in the assessment of standards and codes, the involvement of the private sector in the prevention and resolution of financial crises, and the enhancement of transparency and accountability in all areas of IFIs operation.

5. In Fukuoka we agreed to continue our efforts to strengthen the international financial architecture by focusing on the reform of the IMF and of the Multilateral Development Banks (MDBs), on responses to the challenges posed by Highly Leveraged Institutions (HLIs), Offshore Financial Centers (OFCs) and cross-border capital movements, and on regional cooperation.

6. Since last year, substantial progress has been achieved in a number of key areas:

7. Against this background, we reaffirm our commitment to step up our efforts to reduce volatility and improve the functioning of the international financial system. In this respect, we will continue to foster international consensus and action on: strengthening transparency in both the public and private sector; improving prudential regulation and supervision and fighting against abuses of the international financial system; implementing the strategy laid down last year by the International Monetary and Financial Committee (IMFC) for preventing and managing financial crises, including through private sector involvement.

8. Strong and effective crisis prevention and resolution remains a top priority in our agenda and substantial work remains to be done to further strengthen the international financial system. In this respect, this report focuses on private sector involvement, on the implementation of internationally agreed standards and codes, and on the process of opening access to international capital markets.

9. The report also addresses the reform of the MDBs to make their activities more selective and focused on poverty eradication, an issue which was raised last year in Fukuoka.

10. We will work in cooperation with the other members of the international community to ensure the implementation of these measures.

B. Private Sector Involvement in Crisis Prevention and Resolution

11. Private sector involvement in the prevention and resolution of financial crises is an integral part of our efforts to strengthen the international financial architecture. While the IMF has an essential role to play, official resources are limited in relation to private financial flows. The engagement of private investors is thus essential for the resolution of payments imbalances in crises and for the restoration of medium-term sustainability. To strengthen market discipline and promote a stable flow of finance to emerging markets, the official sector needs to avoid creating expectations that private creditors and investors will be protected from losses. At the same time we reaffirm that our aim in crisis management is not to encourage default, but rather to promote agreement between debtors and creditors on cooperative, voluntary steps to help the debtor overcome its payments difficulties.

12. We welcome the progress that has been made recently to involve the private sector in the resolution of financial crises and underscore the need for further progress. We agree on the need for further efforts to implement a range of measures, in particular:

13. We welcome the agreement by the IMF to take forward further work on the framework for private sector involvement with a view to achieving greater clarity, taking into account the need for operational flexibility. In particular, further efforts are needed to:

14. We will review progress on this issue early next year.

C. Surveillance and Implementation of Standards and Codes

15. We reaffirm our commitment to promote the implementation and surveillance of internationally agreed codes and standards, in particular the 12 key standards identified by the Financial Stability Forum (FSF). Their implementation is in the economic interest of all countries, and ownership is an important element in this process. We welcome the contributions of the many different actors, including the IMF, the WB and the FSF, in making it possible for countries to implement codes and standards and in assessing their compliance. These efforts should be continued and coordination among the relevant institutions (IFIs and standard-setting bodies) strengthened to ensure that all inputs are effectively integrated.

16. We underscore the importance of continuing to identify market and official incentives to encourage compliance with international codes and standards as well as the need to continue raising market awareness of the significance of codes and standards and their relevance to private sector pricing and allocation decisions. In this respect, we welcome the ongoing work of the FSF working group on incentives and call on the IMF to continue analyzing the benefits associated with implementing codes and standards.

17. Technical assistance and support is crucial to ensure that no country is left behind in the global effort to raise standards. We welcome the important contribution of the IMF, the WB and national authorities toward addressing resource constraints to implementing standards by providing advice and assistance. The IFIs should catalogue and assess these technical assistance resources and demands to ensure that support is channelled effectively. We agree to make every effort, working together with the IFIs, the FSF and the international regulatory and supervisory bodies, to consider ways to supplement the amount of human, technical and financial resources available to assist countries to implement codes and standards. In this respect, we welcome the commitments that have been made so far. We also welcome the work of the G20 in promoting dialogue on the importance of codes and standards, the appropriate pace of implementation, as well as technical assistance.

18. Significant progress has been made in producing assessments of countries' observance of international codes and standards. IMF-led ROSCs and the joint IMF-WB FSAPs should continue to be the principal and permanent tools for providing independent, authoritative and consistent assessments of individual countries' compliance with codes and standards. We welcome the fact that 133 ROSC modules have now been prepared for 47 countries and that around 52 countries have now completed or committed to undertake an FSAP. Given the importance of enhanced disclosure and transparency in international surveillance, we are encouraged by the fact that 93 ROSC modules have now been published and urge all countries that complete ROSC modules to consider publishing them.

19. We look forward to further participation in ROSC and FSAP initiatives by a range of industrial and developing countries, including G7 countries. In this respect we welcome the commitments made by the Finance Ministers and Central Bank Governors of the G20 to undertake the completion of ROSCs and FSAPs and to promote wider public articulation of commitments to adopt key standards and action plans for compliance.

20. Authoritative information on observance of codes and standards should be fully integrated into enhanced IMF surveillance under Article IV, increasing its effectiveness as a tool for crisis prevention. This is a critical step, and the IMF should work expeditiously to implement it. The work being taken forward in the Fund on the modalities for using codes and standards information to guide and inform surveillance is an important step in this direction and we encourage its early completion.

21. Work to assess compliance with, and to implement, codes and standards needs to take full account of each country's unique development and reform priorities and institutional characteristics. We agree that countries and the Fund should continue to work, together with standard-setters as appropriate, to set priorities and establish action plans for compliance, within the framework of individual economic reform programs. The existing process for assessing compliance, which allows for progressive implementation of key codes and standards according to country-specific economic circumstances, provides an appropriate mechanism for facilitating prioritization.

22. Since combating money laundering is central to protecting the stability and integrity of the international financial system, we welcome the decision of the IMF and WB to recognize the Financial Action Task Force (FATF) 40 Recommendations as the appropriate international standard for anti money laundering and call on the IFIs, working in collaboration with the FATF, to incorporate the relevant FATF 40 Recommendations into a ROSC module on money laundering as soon as possible.

D. Opening access to capital markets

23. In the Report on Strengthening the International Financial Architecture submitted to the Cologne Summit in 1999, we encouraged the IMF to continue its work on the appropriate pace and sequencing of capital account liberalization. In Fukuoka we re-stated the importance of well-sequenced capital account liberalization, and the need for countries to adopt appropriate macroeconomic, structural and domestic prudential and financial policies. This year, in our report to the Genoa Summit, we propose concrete measures to progress in this direction.

24. Mobilizing capital, both domestic and international, is essential for growth. Foreign direct investment (FDI) and productive use of equity flows and borrowed resources are hallmarks of countries that have successfully integrated into the world economy. Capital account liberalization offers the prospect of considerable benefits to emerging market economies, but also poses policy challenges. Countries that wish to pursue the opportunities offered by international capital markets should be encouraged to do so, and should also upgrade their capacity to manage the risks associated with a more open capital account, including the potential volatility of short-term capital flows.

25. Capital account liberalization is an important component of the broader process of financial liberalization. In this context, capital account liberalization should be undertaken as part of an integrated strategy comprising a stable macroeconomic environment (including a sustainable exchange rate policy), a strong prudential framework in the financial sector (including the adoption of relevant standards and codes), appropriate monitoring of statistical data, sound risk and liquidity management practices both in the public and private sectors, and complementary structural (including social sector) reforms, to ensure that liberalization does not create new areas of vulnerability.

26. Opening access to capital market is a complex process that cannot be addressed by a standardized, one-size-fits-all approach. The goal of the international community should be to help countries adopt the appropriate policies towards gaining sustained access to global capital markets, while the final responsibility for adopting those policies rests with individual countries.

27. We call on the Bretton Woods institutions to provide support and expertise to countries seeking access to international capital markets. In order to address effectively these issues, the IFIs may rely on a broad range of tools, including:

28. We emphasize the contribution of FDI to economic growth and recognize that it is intrinsically more stable than portfolio and lending flows. We agree that the lack of a proper investment environment, due in particular to weak governance as well as to political and economic uncertainty, is one of the deterrents to foreign capital accumulation and needs to be addressed. The sequencing of reform and liberalization should thus give priority to creating a transparent and solid framework for attracting FDI and harnessing its developmental advantages. In this respect, the credibility of host countries' commitment to liberalization could greatly benefit from the development and implementation of policies promoting non-discriminatory practices, transparency and investor protection. At the multilateral level, a stable and non-discriminatory investment regime could be brought about and maintained through the establishment of a high-standards framework of investment rules. To this end we encourage further work in relevant international institutions, on ways to enhance the predictability and stability of investment regimes in support of liberalization and sustainable development.

29. Competitive and healthy financial markets are essential to build confidence and induce long-term investment. In this respect, financial services liberalization relying on sound prudential regulation is of prime importance in strengthening financial sector efficiency and soundness. We recognize the value of binding commitment to financial services liberalization within the multilateral framework of the GATS. We encourage WTO members to move ahead with progressive financial services liberalization in future negotiations.

30. Concerns for excessive capital flow volatility experienced in the 1990s have revived public interest in restrictions of international capital flows, e.g. in the form of a Tobin tax on international currency transactions. Support for such types of transaction tax generally rests on the belief that it can promote greater financial stability. Several difficulties prevent such a proposal from being a workable tool:

31. The pursuit of further trade liberalization in the context of a broad-based new WTO round of trade negotiations can also contribute to strengthen markets and improve growth prospects, particularly in the developing world. Protectionist and trade-distorting policies must be resisted as they would only accentuate economic and financial uncertainties. We welcome the opportunity of the meeting in Qatar next November to launch a new WTO round, and we emphasize the importance of multilateral trade liberalization for sustainable development of the world economy.

E. The Multilateral Development Banks (MDBs)1

32. The Multilateral Development Banks are an essential component of the development architecture and have an important role to play in ensuring that the benefits of increasing global prosperity are shared by all countries. In our report for the Okinawa Summit (Fukuoka Report, July 2000), we underscored the importance of strengthening the Multilateral Development Banks to best adapt them to the new challenges. We are committed to moving ahead with this agenda. We stressed that "accelerating poverty reduction in developing countries must be the core role of the Multilateral Development Banks (MDBs). An increased focus on poverty reduction should underpin all aspects of the MDBs' work, including in programs of policy reform, investment projects and capacity building". We also underscored that "economic growth is the primary determinant of a country's ability to raise incomes and reduce poverty and inequality".

33. The MDBs must continue to play a crucial role in combating poverty and supporting equitable and sustainable economic development. Their operations should concentrate on core social and human investment (in particular health and education), enhancing productivity growth and raising income per capita. It is therefore paramount to ensure that the MDBs are fully equipped to effectively fulfil their institutional mandate in a continuously changing international environment. Hence, we have a strong interest in further strengthening MDBs' development impact and their capacity to effectively meet new challenges. Selectivity, accountability and a focus on results are key principles. Important progress has been made by the MDBs over the last few years in sharpening their focus on poverty reduction, improving their effectiveness in supporting development and achieving results, and making their internal governance more accountable and transparent. Work is underway in all these areas at each MDB. We are committed to work with these institutions and the other shareholders to build on these efforts.

34. In order to maximize their development impact it is crucial that the MDBs concentrate on the basic development priorities that they can best achieve, and work collaboratively among themselves and with other donors to ensure a development framework that is consistent and efficient. This is essential to avoid waste or dilute the impact of scarce development funds. A more selective approach needs to be adopted by the MDBs on the basis of their respective comparative advantages and by better developing synergies and complementarities. They have recently taken important steps in this direction, especially at the country level, in the context of the Comprehensive Development Framework (CDF) and in the context of country-owned development strategies, such as Poverty Reduction Strategy Papers (PRSPs). More could be achieved at the institutional level through an ex ante sharing of tasks in specific areas.

35. We reaffirm that the MDB reform should focus on the following management and operational areas: coordination, internal governance, good governance in borrower countries, pricing issues, global public goods and financial sector reform. The recommendations of this Report are addressed to all the MDBs. At the same time, we recognise that differences in mandate, role and progress already achieved in the different institutions imply that the priorities for reform may differ2. However, the adoption of best practice everywhere should be the rule.

36. MDB Management has been kept informed of the contents of this report and kept abreast of its development through an open and frank dialogue. We have also held informal consultations with the other MDB shareholders and NGOs/civil society in order to explain the objectives and the contents of the reform effort.

37. Coordination Improving coordination among MDBs, at the country and institutional level, is essential in order to achieve a more selective approach to development issues, while promoting greater complementarity and avoiding undue overlapping or duplication of efforts. Positive developments at the country level through the establishment of PRSP and CDF processes increases the momentum for pursuing further progress. In this regard we ask the MDBs to:

Memoranda of Understanding between the World Bank and the Regional Development Banks (RDBs) are a crucial tool to improve collaboration and efficiency at the institutional level. To this end it is paramount to:

Closer coordination can also be achieved by pursuing harmonization, wherever possible, at the highest appropriate standards, of the key operational policies and procedures, fiduciary and environmental safeguards, financial management and procurement rules among the MDBs. It is therefore vital, as stated by the Development Committee in April 2001, to prioritise and accelerate the harmonization process.

38. Internal governance Enhancing internal governance, accountability and transparency is crucial to enable the MDBs to strengthen their role in the fight against poverty and retain institutional credibility. Over the last few years, significant progress towards greater transparency and openness has been made. However, there is still scope for further improvement. To this end, we call upon the MDBs to:

39. Good governance Good governance is a broad concept, which entails several crucial areas, such as legal and regulatory framework, judicial systems, etc. Over the last few years, the MDBs have put good governance on the top of their agenda and have committed themselves to mainstream it in all their activities. Although the specific nature of governance issues may vary from country to country, strengthening public sector management, accountability and anti-corruption measures should be priorities in all countries. Strengthening public expenditure and budget management, and improving promotion and enforcement of safeguard and fiduciary policies in recipient countries should be the MDBs' principal goals. Adjustment and programmatic lending approaches particularly require sound, acceptable and reliable public expenditure management.

We agreed that the MDBs should:

40. Lending Instruments and Pricing review The need for the MDBs to focus on operations targeted at poverty reduction, to be selective in countries with access to private capital, and to enhance the development impact of the resources available, calls for a thorough review of the MDBs' lending instruments and pricing policies. The MDBs are invited to assess whether there is scope for rationalising and streamlining existing instruments within and across the MDBs, especially in the area of adjustment lending and guarantees, to achieve greater coherence and consistency, and to avoid price competition. Pricing reviews to be undertaken by all the MDBs should take into account the feasibility, and related financial implications and implementation issues, of price differentiation by instrument, the development impact, and stage of borrower development. They should also take into account the issue of conditionalities across the MDBs. Ongoing work on a comprehensive and new approach to Middle Income Countries (MICs) needs to address the pricing issue, with a view to enhancing the development impact of MDB lending.

We note the current discussions at the Asian Development Bank on the introduction of more favourable terms on Ordinary Capital Resources (OCR) loans targeted to poverty. We also note the ongoing review exercise on IDA pricing, including the increased use of grants within IDA-13, and encourage the World Bank to carefully explore the related financial implications and practical implementation issues.

41. Provision of Global Public Goods (GPGs) Some development issues both benefit and require the participation of the entire global community. GPGs have a strong impact on development and poverty reduction. In becoming more involved in the provision of GPGs, the MDBs' main priorities should be fighting infectious diseases, promoting environmental improvement, facilitating trade and supporting financial stability. Each MDB should:

We ask the World Bank in collaboration with the RDBs to prepare a report on these issues by the end of 2001.

42. Financial sector reform Strong, transparent and well functioning financial sectors are an essential condition for development. The MDBs have an important role to play in helping borrowing countries strengthen their financial sector consistently with their in-house expertise and comparative advantages in this field. The World Bank, where appropriate, should continue developing an active role operating in closest partnership with the RDBs. We welcome efforts to enhance the collaboration between the IMF and the World Bank in supporting financial sector reform in developing countries. In particular, we call on the MDBs to:

43. Our meeting with the MDBs' Presidents is a tangible expression of our commitment to work with MDB Management and other shareholders to continue strengthening the development effectiveness of these important institutions on the basis of these recommendations. We welcome the proposal made by the MDBs' Presidents that a senior MDB liaison group will monitor progress on these issues and regularly report to the respective Heads and Executive Boards.

44. We will review the progress made for the 2002 Summit in Canada.

[1] MDBs are taken to cover the World Bank Group and the following Regional Development Banks (RDBs): the Inter-American Development Bank, the Asian Development Bank, the African Development Bank, the European Bank for Reconstruction and Development. The conclusions of this report are also relevant for many of the Sub-Regional Development Banks. [Back]

[2] This is specially true for the European Bank for Reconstruction and Development (EBRD), in light of its special focus on the private sector and its transition mandate. [Back]

Source: Department of Finance, Canada

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