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sdr

Special Drawing Rights(SDR)

There have been calls from many in recent days for the IMF to boost its power to extend finance to the world’s poorest countries with an expansion of fund members’ special drawing rights, which form part of their international reserve assets. The goal is to help low-income countries boost health and other fiscal spending as coronavirus spreads.The worst declines are being experienced in developing countries, even before the pandemic has really hit them. Most developing countries are being hit by a perfect storm of declining export and tourism revenues, sharp outflows of capital, severe reductions in bond prices and increases in bond yields, major currency depreciations and increasing difficulties in servicing external debt.

What is SDR?

The SDR is an international reserve asset, created by the IMF in 1969 to supplement its member countries’ official reserves. So far SDR 204.2 billion (equivalent to about US$281 billion) have been allocated to members, including SDR 182.6 billion allocated in 2009 in the wake of the global financial crisis.

The value of the SDR is based on a basket of five currencies—the U.S. dollar, the euro, the Chinese renminbi, the Japanese yen, and the British pound sterling.

The role of the SDR

The great advantage of SDRs, a unit based on a basket of leading currencies, is that they are highly-liquid assets created by the stroke of a pen. That is just what is needed in this crisis

The SDR was created as a supplementary international reserve asset in the context of the Bretton Woods fixed exchange rate system.

The collapse of Bretton Woods system in 1973 and the shift of major currencies to floating exchange rate regimes lessened the reliance on the SDR as a global reserve asset.

Nonetheless, SDR allocations can play a role in providing liquidity and supplementing member countries’ official reserves, as was the case amid the global financial crisis.

The SDR serves as the unit of account of the IMF and some other international organizations.

The SDR is neither a currency nor a claim on the IMF. Rather, it is a potential claim on the freely usable currencies of IMF members. SDRs can be exchanged for these currencies.

A basket of currencies determines the value of the SDR

SDR VALUE

The SDR value in terms of the U.S. dollar is determined daily based on the spot exchange rates observed at around noon London time, and posted on the IMF website.

The SDR was initially defined as equivalent to 0.888671 grams of fine gold—which, at the time, was also equivalent to one U.S. dollar. After the collapse of the Bretton Woods system, the SDR was redefined as a basket of currencies.

Currencies included in the SDR basket have to meet two criteria: the export criterion and the freely usable criterion. A currency meets the export criterion if its issuer is an IMF member or a monetary union that includes IMF members, and is also one of the top five world exporters. For a currency to be determined “freely usable” by the IMF, it has to be widely used to make payments for international transactions and widely traded in the principal exchange markets. Freely usable currencies can be used in Fund financial transactions.

The SDR basket is reviewed every five years, or earlier if warranted, to ensure that the basket reflects the relative importance of currencies in the world’s trading and financial systems.

During the last review concluded in November 2015, the Board decided that the Chinese renminbi (RMB) met the criteria for SDR basket inclusion. Following this decision, the Chinese RMB joined the US dollar, euro, Japanese yen, and British pound sterling in the SDR basket, effective October 1, 2016 and the three-month benchmark yield for China Treasury bonds was included the SDRi basket

.During the 2015 review, the Board also approved a new formula—assigning equal shares to the currency issuer’s exports and a composite financial indicator—to determine the weights of currencies in the SDR basket.

India’s Stand:

India’s finance minister said on Thursday the country could not support a general allocation of new Special Drawing Rights by the International Monetary Fund because it might not be effective in easing coronavirus-driven financial pressures.

Finance minister Nirmala Sitharaman said in a statement to the IMF’s steering committee that she also was concerned that such a major liquidity injection could produce potentially costly side-effects if countries used the funds for “extraneous” purposes.

About IMF:

The International Monetary Fund (IMF) is an international organization headquartered in Washington, D.C., consisting of 189 countries working to foster global monetary cooperation, secure financial stability, facilitate international trade, promote high employment and sustainable economic growth, and reduce poverty around the world while periodically depending on the World Bank for its resources.

Created in 1945, the IMF is governed by and accountable to the 189 countries that make up its near-global membership.

The IMF’s primary purpose is to ensure the stability of the international monetary system—the system of exchange rates and international payments that enables countries (and their citizens) to transact with each other. The Fund’s mandate was updated in 2012 to include all macroeconomic and financial sector issues that bear on global stability.

IMF OBJECTIVE:

The IMF’s fundamental mission is to ensure the stability of the international monetary system. It does so in three ways: keeping track of the global economy and the economies of member countries; lending to countries with balance of payments difficulties; and giving practical help to members.

Economic Surveillance
The IMF oversees the international monetary system and monitors the economic and financial policies of its 189 member countries. As part of this process, which takes place both at the global level and in individual countries, the IMF highlights possible risks to stability and advises on needed policy adjustments.The IMF provides loans to member countries experiencing actual or potential balance of payments problems to help them rebuild their international reserves, stabilize their currencies, continue paying for imports, and restore conditions for strong economic growth, while correcting underlying problems.

Lending
The IMF provides loans to member countries experiencing actual or potential balance of payments problems to help them rebuild their international reserves, stabilize their currencies, continue paying for imports, and restore conditions for strong economic growth, while correcting underlying problems.

Capacity Development
The IMF works with governments around the world to modernize their economic policies and institutions, and train their people. This helps countries strengthen their economy, improve growth and create jobs.

IMF Resources

Most resources for IMF loans are provided by member countries, primarily through their payment of quotas.

Quotas
Quota subscriptions are a central component of the IMF’s financial resources. Each member country of the IMF is assigned a quota, based broadly on its relative position in the world economy.

Special Drawing Rights (SDR)
The SDR is an international reserve asset, created by the IMF in 1969 to supplement its member countries’ official reserves.

Gold
Gold remains an important asset in the reserve holdings of several countries, and the IMF is still one of the world’s largest official holders of gold.

Borrowing Arrangements
While quota subscriptions of member countries are the IMF’s main source of financing, the Fund can supplement its quota resources through borrowing if it believes that they might fall short of members’ needs.

Important Topics Prelims 2020

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