Why DSK’s arrest is bad for the IMF, France, and Greece

By Felix Salmon
May 16, 2011
denied bail this morning, it's clear he can no longer run the IMF, let alone run for president of France. No matter how the trial turns out -- even if he's fully exonerated of all charges -- this arrest has effectively ended DSK's career.

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With Dominique Strauss-Kahn being denied bail this morning, it’s clear he can no longer run the IMF, let alone run for president of France. No matter how the trial turns out — even if he’s fully exonerated of all charges — this arrest has effectively ended DSK’s career.

So when Mohamed El-Erian writes about the effect of the arrest if DSK’s career is over, we can take him as describing the state of the world as it is today: this news is bad for the IMF, bad for France, and bad for any Greek hopes of battling through without a debt restructuring.

The IMF first:

This would erode the confidence of an institution that, under the personal authority of DSK, has taken significant financial and reputational risk in making loans to countries whose medium-term debt viability is far from robust. It would undermine its effectiveness in responding to new challenges. And it would pull the rug from under initiatives aimed at enabling it to play a more effective role in global policy coordination and, more generally, in improving global economic governance and filling a damaging vacuum at the center of the international monetary system.

I think this is right. There’s a tension, at the IMF, between the staffers, who don’t want to make loans which might not ever get repaid, and the shareholders, who want the IMF to be the lender of last resort and to bail them out whenever they run into difficulty. DSK’s job was to walk that fine line, and to imbue the Fund’s decisions with his own gravitas, authority, and consensus-building abilities. Here’s Wolfgang Münchau:

Mr Strauss-Kahn was respected by both Angela Merkel (whom he had planned to visit on the weekend when he was arraigned) and by George Papandreou, the Greek prime minister. He supported the view, also held by the European Central Bank, that a eurozone member should not rush into default. The eurozone clearly needed the IMF’s technical competences in dealing with its sovereign debt crises – a set of skills largely absent in the European institutions. It also needed the IMF’s co-financing. But the IMF’s single most important influence in eurozone crisis resolution has been political. In a situation marked by a lack of political leadership, the IMF filled a vacuum.

The problems for France are big, too:

France now faces the possibility of an even more complex, and a more polarizing presidential campaign. This would come at a time when the country heads both the G-8 and G-20, and when it plays a stabilizing role at the center of Europe now that the Merkel-led government in Germany, the other large economy at the core of the region, is facing growing political strains.

It’s never optimal to try to play a global leadership role in the middle of a presidential election campaign, and with this particular campaign now being thrown wide open, domestic politics are certain to trump international statesmanship for the foreseeable future. If politically difficult decisions need to be made with respect to Greece or anything else, don’t expect France to be brokering them.

And then there’s Greece:

Desperate to avoid a debt restructuring, Greece is heavily dependent on exceptional official assistance. Up to now, a DSK-led IMF has shown little hesitation in aligning itself with a controversial European approach that uses liquidity to address a solvency problem — essentially, piling new debt on top of Greece’s already excessive debt.

A possible DSK departure from the IMF would make the institution less enthusiastic for an approach that has already shown signs of slippage, ineffectiveness and overall fatigue.

Whether this is a good thing or not depends on whether you think that it behooves the IMF to help Greece kick the can down the road indefinitely. But if there is to be a Greek restructuring, it certainly helps to have a powerful IMF head shepherding it along. And frankly none of DSK’s possible successors have his degree of power and influence in the all-important European political circles.

The honorable thing for DSK to do, I think, is to announce his resignation now, saying that his arrest is an unhelpful distraction to the IMF, which will be ably run by John Lipsky until a permanent replacement can be found. He must surely realize that he can never return to the Fund. And if he’s going to leave, best he do so sooner rather than later.

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