Hugo Dixon

We’re going to be really tough on the euro zone. If they want more bailouts from the International Monetary Fund, they are going to have to submit to strict conditionality. That was the message delivered by the rest of the world when it agreed at the weekend to participate in a fundraising exercise that will boost the IMF’s resources by at least $430 billion.

But the meaning of the message isn’t quite what it seems. The IMF is actually in some ways calling for less rather than more short-term austerity in the euro zone. So if the Europeans submit to IMF discipline, it will ironically mean less of a hair shirt.

It is easy to see why the rest of the world is unhappy with the special treatment the euro zone receives from the IMF. The managing director, currently Christine Lagarde, has always been a European. Vast resources, way beyond what are normally available in IMF programmes, have been channelled to Greece, Ireland and Portugal.

What’s more, the rest for the world – from developed countries such as America, Britain and Canada to emerging nations such as Brazil – feel that, despite being pretty rich, the euro zone has not done enough to sort out its own problems. Hence, the agreement to beef up the IMF resources only after a long wrangle – and only after scaling back the original request from $600 billion as well as insisting on strict conditionality before the money is ever disbursed.

At the same time, the IMF has three recommendations, as outlined in last week’s World Economic Outlook, which are somewhat at variance with current euro zone policy. First, it wants the region not to overdo short-term fiscal austerity while placing more emphasis on longer-term structural measures to improve budgets. Second, it wants the European Central Bank to continue very accommodative monetary policies. Finally, it wants the euro zone authorities to be prepared to inject capital directly into troubled banks and to accompany that with stronger European-wide supervision of lenders. All these ideas would help reduce the pressure of the current euro zone recession and so ease the crisis.

Will the IMF, though, get its way? Well, certainly not immediately. The euro zone doesn’t have to listen to it unless another country – say Spain or Italy – needs a bailout. Even then, only the country requiring cash would technically have to pay heed to the IMF. The rest of the euro zone, led by Germany, could argue that the IMF has no business interfering with the monetary policy or banking supervision of the entire 17-member euro zone when only a few peripheral nations are receiving help.

What’s more, the bulk of the money from any future bailouts would continue to come from other euro zone countries rather than the IMF. These other countries would argue that they should have a big say, even on fiscal policy, because they will be bankrolling most of any deficit shortfall.

But even if the IMF can’t get its way immediately, the debate is shifting slowly in its favour. The euro zone may not like interference in monetary policy. But the ECB has shown itself willing to spray 1 trillion euros in long-term loans at the region’s banks in the heat of the crisis in recent months. Some of the central bank’s members, with the notable exception of Germany’s Bundesbank, are saying it is too early to plan for an end to such policies.

Or take fiscal policy. Euro zone leaders may have agreed the so-called fiscal compact which will require them to balance their budgets and cut their debts. But no sooner had the deal been signed than Spain varied its fiscal targets. Italy has followed up by saying it won’t react to a deeper than expected recession by pushing through more cuts – a policy that would just lead to further recession.

Now the Dutch government, previously the high priest of austerity, has found it cannot push through its own budget cuts. Meanwhile, Francois Hollande has promised to push for a more growth-orientated policy if he wins the French election. The austerity consensus is fraying.

Finally, consider banking policy. The intertwining of lenders and their states is unhealthy. Banks which get into trouble need to be bailed out. That makes their governments less creditworthy which, in turn, further infects banks which loaded up on their bonds. That occurred in Ireland and could be repeated in Spain.

The IMF’s proposal is to sever this incestuous relationship by getting the euro zone to put money directly into troubled banks rather than by lending to governments which, in turn, would inject capital into the banks. Such a policy would be matched by euro zone-wide supervision of banks.

The idea is rational. That, of course, doesn’t mean that it will be adopted. But with an expanded warchest, the IMF has greater ability to be heard on this and other issues – especially if it keeps reminding the euro zone that the rest of the world has insisted that strings are attached before any more countries are given bailouts.

The euro zone shouldn’t rely on a bailout from the rest of the world. The International Monetary Fund is asking for an additional $600 billion to help deal with the euro crisis. But the euro zone, which is vastly richer than most of the rest of the world, should find the money to solve its own problems. It will be bystanders in the developing world that may need help if the euro blows up.

One can see why the IMF wants more money. An additional $600 billion on top of its existing firepower of $390 billion would take it up to a nice round number of $1 trillion. Not only would that give its bosses more swagger as they crisscross the world fighting fires but it would allow the IMF to play a big role in any bailout of a large euro zone country such as Italy.

But why should the rest of the world bail out the euro? The rich normally help the poor. But GDP per capita in the euro zone was $33,819 in 2011, more than five times that in the developing world, according to the IMF. As things stand, 57 percent of the IMF’s existing loans are to the euro zone, according to the Center for Economic and Policy Research. It’s not surprising that other countries are hardly rushing to funnel yet more money its way.

Developing countries need to look after themselves. As the World Bank’s report on Global Economic Prospects highlighted last week, the developing world is already suffering from the euro crisis – mainly because capital flows shrank by 45 percent in the second half of last year compared with the previous year. If the euro blows up, developing country GDP would be knocked by 4.2 percent, it predicts. Some 30 countries, which have external funding needs of more than 10 percent of their income, would be especially vulnerable.

The caution over providing more cash to the IMF is not due only to the fact that relatively poor countries are being asked to help rich ones. The United States and Britain are also reluctant to contribute. This is partly for political reasons: It’s impossible to persuade Congress to cough up money for the IMF in an election year when the U.S. deficit is nearly 10 percent of GDP; and it’s not that easy to get the British parliament, with its large contingent of euroskeptic MPs, to do so either.

There’s also a genuine belief that the euro zone is only in such a twist because of its decision to prevent the European Central Bank from buying national government debt in big quantities. The Federal Reserve and the Bank of England have, after all, bought the equivalent of 15 percent and 18 percent of GDP, respectively, of their own government bonds in an attempt to ward off recession. If the euro zone thinks such money printing will debauch its currency, so be it. But such a holier-than-thou attitude hardly gains sympathy elsewhere.

What’s more, there are alternatives. If Italy needs a rescue, why doesn’t the euro zone double the size of the European Stability Mechanism, its own planned bailout fund, to 1 trillion euros? The answer, of course, is that governments of countries such as Germany would find it hard to persuade their electorates to pour yet more money into southern Europe. But that attitude doesn’t get much sympathy either. Ironically, Germany is on the receiving end of the lectures it is so fond of dishing out to others – just as it tells southern Europe to get its act together, some in the rest of the world are telling the euro zone to solve its own problems.

To be fair, the euro zone hasn’t been sitting on its hands in recent weeks. Italy, for example, has made a promising start under its new prime minister, Mario Monti. And the ECB has been willing to provide unlimited funds to banks – an operation that may indirectly prop up the governments and even weaken, if not debauch, its currency.

To be fair, too, the IMF isn’t asking for cash just to channel from the rest of the world to the euro zone. Not only has the euro zone itself promised $200 billion but also the IMF’s resources could be used to help others caught in the backwash of any euro blowup. What’s more, an expanded war chest might restore investor confidence so much that the crisis recedes, to the benefit of everybody. Finally, the IMF would like the euro zone to beef up its own bailout fund simultaneously.

These arguments are fine as far as they go. But they can be applied with even greater force to the idea of just expanding the euro zone bailout fund. The IMF’s existing resources are perfectly adequate to bail out a raft of even fairly large emerging markets such as Turkey and Egypt. Moreover, if the rest of the world does give the IMF a bazooka, the euro zone will have less incentive to come up with its own. So it makes sense for the rest of the world to keep Europe’s feet to the fire, even if it ultimately helps out a bit. Germany’s Angela Merkel surely understands that logic.