distribution of international liquidity first and channelling a part of the national currencies mobilized for this purpose towards development finance only as a next step so that the original liquidity created would at no time be immobilized. Indeed, the timing, amount and distribution of the initial liquidity creation was to be governed solely by the needs of the international monetary situation and not by the needs of development finance which in any case had to be met primarily in other ways.

4. A number of possible objections to the proposed link were also examined in the report.

5. Since the publication of the report of the UNCTAD Group of Experts, considerable progress has been made in arriving at a better general understanding of the real issues involved in any scheme of international liquidity creation. As already mentioned, there is now a more general appreciation, for example, of the fact that a new reserve asset does not really require the "backing" of national currencies or the like. Criticisms of a link on the ground of the superiority of national currencies over IBRD and IDA bonds as a form of backing for international reserve assets need, therefore, no longer be refuted. Nor is there any need to meet the argument sometimes advanced that it would not be appropriate for the IBRD to sell bonds to IMF as envisaged by the UNCTAD Group of Experts as this might affect adversely the marketability of any other bonds issued by IBRD during its normal operations.

6. As a matter of fact, if the reform of the international monetary system is in terms of a reserve unit scheme without any backing or in terms of a drawing rights scheme patterned on the present practices of the IMF, the simplest way of establishing a "link" between the creation of international liquidity and development finance would be by means of a convention or an agreement whereby each act of international liquidity creation would be followed by voluntary contributions to IDA by all the Part I member countries of IDA-the size of the voluntary contribution being a certain uniform proportion of the share of each Part I country in international liquidity creation. In short, fundamentally, what the "link" proposes to establish is merely the principle that since one of the main reasons for the creation of international liquidity is to sustain liberal and rational policies of trade and aid, it is not inappropriate that each act of international liquidity creation should mark an advance towards more liberal and rational policies. The provision of larger contributions to multilateral aid agencies, whose aid is untied to any particular source of procurement and has, therefore, the most beneficial effect not only on development in the short-run but also on the long-term promotion of world trade on the most efficient lines, represents an advance which is most in keeping with the objectives of the two Bretton Woods institutions the IBRD and the IMF.

7. Unfortunately, as pointed out in the IMF 1966 Annual Report, this proposal for a link has not thus far found favour in the discussions between the Group of Ten and IMF. The reasons for this are seldom spelt out explicitly but can perhaps be inferred from paragraph 40 of the Report to Ministers and Governors by the Group of Deputies of the Group of Ten, which says:

"We are agreed that deliberate reserve creation is not intended to effect permanent transfers of real resources from some countries to others."

8. It is difficult to see what particular objection is intended to be conveyed by the statement just quoted. As envisaged by the UNCTAD Group of Experts, it is not reserve creation which leads to a transfer of real resources from some countries to others. It is the decision, if such a decision is taken, to provide development finance along with the creation of international liquidity which leads to the transfer of real resources. In other words, to say that there should be no transfer of real resources as part of the scheme of deliberate reserve creation, amounts merely to saying that the provision of development finance should not be linked with the creation of international liquidity. A statement of this kind does not say anything about why such a link should not be welcomed. 9. Any genuine apprehensions regarding the link can only be based on the feeling that (a) despite every attempt to recognize the priority to be given to considerations relevant to international liquidity creation, the establishment of the link might introduce in practice some extraneous considerations when it comes to decisions on the timing, quantum or distribution of the liquidity creation; or alternatively, (b) that whereas the advanced countries are not opposed to the provision of development finance, they would prefer to give it in different forms from those envisaged in the link.

10. It is difficult to see why a scheme of international monetary reform administered by an institution like IMF should be in any real danger of being 30-668-69-2

vitiated by excessive concern for development finance. As for the question of initiative in regard to provision of development finance, there is nothing in the proposed link which would detract from the freedom of the developed countries as a group to decide on the quantum of development aid they should give from time to time. The link merely reiterates the claim that development finance must also have the right quality-of being mobilized as an act of international will and of being usable with maximum freedom consistent only with the requirements of sound development.

11. In fact, developments that have taken place since the publication of the report of the UNCTAD Group of Experts have made it all the more clear that something in the nature of a link between development finance and international liquidity is essential both for development as well as for a smooth functioning of the international monetary system.

12. The recent discussions on IDA replenishment, for example, have clearly brought out that concern for the balance-of-payments difficulties of individual countries is likely to make a serious impact on the quality as well as the quantity of what has hitherto been perhaps the most effective form of development finance. However, if an opportunity were to be taken in the future to replenish IDA as a special gesture whenever additional international liquidity has to be created, it would be possible to secure generous replenishments for IDA from time to time without any fear that some countries might stand to lose reserves as a result of their contribution to IDA. At worst, a country, whose share in the initial liquidity creation is higher than its share in IDA orders, will not be able to retain a part of its initial acquisition of additional liquidity. But by the same token, a country which might succeed in adding to its initial share in the liquidity created would not be able, nevertheless, to convert this source of strength for itself into an embarrassment for others by an attempt to change the composition of its reserves.

13. Again, much of the current difficulties in adjusting balance-of-payments positions arise from the fact that practically all developed countries are anxious to prevent a loss of reserves and, indeed, to add to their reserves if at all possible. If even surplus countries feel obliged to take remedial measures as soon as the surplus begins to diminish, it naturally makes it almost impossible for the deficit countries to get back into balance. The only way in which the industrially advanced countries could have a surplus as a group would be for them (a) to acquire gold by exporting real goods and services to gold producing countries or (b) to transfer real resources to the developing countries as a whole. Quite clearly, the second alternative is the more rational. If it is still not preferred by the industrially advanced countries, one reason, at any rate, is that an export surplus to the developing countries yields an asset in the form of the indebtedness of the developing countries themselves; and such an asset is not very acceptable to the richer countries. If, in part at least, this export surplus could be made to produce an asset in the form of internationally accepted reserve units, the richer countries would be able to satisfy their normal desire to have an export surplus or at least to avoid a loss in reserves without making the "adjustment process" almost impossibly difficult for those among them who might be experiencing payments difficulties at any given time. A link between international liquidity and development finance is thus not just a matter of wresting some gain for the developing countries out of every act of additional liquidity creation. It is at least arguable that the principle that the richer countries should earn their right to retain their share in the initial liquidity creation by sharing in the provision of additonal multilateral aid is likely to contribute, given the behaviour pattern of the richer countries, to a smoother functioning of the international monetary system.

14. It would not, of course, be desirable for the time-table for the liquidity exercise to be put off merely because of lack of a satisfactory decision on the question of the link. But it is important that the door should be kept open for the introduction of a link at a later stage. The question of a link between international liquidity and development finance has a vital bearing on the successful evolution of the two Bretton Woods institutions-IBRD and IMF; and it is most important that a hasty and final decision against the link should not be taken without allowing time for a proper assessment of the considerations raised here in further elaboration of the report of the UNCTAD Group of Experts on International Monetary Issues.

(The following table was received subsequently from Mr. Dell to supplement his testimony :)

DEVELOPMENT ASSISTANCE COMMITTEE MEMBERS-NET FLOWS TO LESS-DEVELOPED COUNTRIES OF FINANCIAL RESOURCES AND NET OFFICIAL TRANSFERS, AS A PERCENTAGE OF GNP, 1960-67

• Nil or negligible.

Sources: OECD, "The Flow of Financial Resources to Less-Developed Countries," 1961-65; "Development Assistance Efforts and Policies, 1968 Review"; United Nations Monthly Bulletin of Statistics, various issues.

STATEMENT OF HARRY G. JOHNSON, PROFESSOR OF ECONOMICS, UNIVERSITY OF CHICAGO, AND THE LONDON SCHOOL OF ECONOMICS AND POLITICAL SCIENCE

Mr. JOHNSON. Thank you, Mr. Chairman.

The proposal of the link does have a lot of attraction at the present time for two reasons, one being that the balance of payments deficits for the United Kingdom and the United States have been used as justifications for reducing the flow of aid. The other is that the developing countries have become much more capable of absorbing aid, just at a time when the flow of aid relative at least to the capacity to bear the burden has been falling.

Nevertheless, it seems to me that there are fairly strong arguments against the general proposal to link international reserve creation and development assistance. One which I have advanced in the past is that development assistance and the creation of international reserves are separate issues, each with its own economics and, more important, with its own politics.

One can argue that the linkage of these two problems in policy discussions is really a matter of willingness of governments to link them, and that perhaps at the present time this possibility is greater than it has been in the past, and that is a matter on which I am not competent to pass a judgment.

The more fundamental argument against the proposal, I think, is that contrary to widely held views the creation of international reserves does not need to involve the generation of a pool of resources which have to be allocated somehow and on which the less developed countries have a moral claim.

Perhaps some years ago this view was more plausible, in the sense that plans for international monetary reform at that time were generally modeled on the concept of a bank, with liabilities which would constitute the reserve assets, being backed by assets in the form of loans and securities, but it has come to be understood in the course of the discussion that what is required of international reserves is acceptability to those who have to hold them, and that the quality of acceptability does not require that there be assets to back the reserve instrument. And that principle is in fact embodied in the SDR scheme which from that point of view constitutes a considerable advance on earlier discussions.

The fact that it is embodied in the SDR scheme makes it much more difficult to disguise the fact that linking reserve creation to development assistance does demand a deliberate choice to transfer real resources from the developed countries which want to hold larger stocks of reserves to the less developed countries which would benefit either by initially receiving the reserve assets or by receiving the funds paid in exchange for them.

Now the real transfer involved is entirely unnecessary from the standpoint of creating new international reserve assets, and you could only justify it either on the political feasibility argument, which I

have already mentioned, or else by creating some sort of fiction to the effect that it is more desirable that countries earn their additional reserves than that they simply create them.

Creating reserves is a costless procedure, at least in economic terms. On the other hand, giving reserves away and then earning them back does involve a very substantial real cost in terms of transferring real resources and it seems to me that countries would be unlikely to accept that unless they already had a strong desire to increase their transfers of resources to the promotion of the economic growth of the less developed countries, and in that case the question is whether the linkage is the best way of doing this.

Well, the specific proposal before the subcommittee is for the linkage of creation of SDR's in addition to those created under the present agreed scheme to the financing of the development of the less developed countries.

Now the basic argument for that proposal has to rest on the assumption that under the agreement, the creation of new reserves in the form of SDR's will promote the healthy development of the international economy and that the creation that is prospective will be insufficient to the needs of the international economy. Otherwise the proposal to create additional SDR's is really a proposal for financing economic development by world inflation, and the policy of promoting development by inflation is not usually regarded as a good policy in the context of single nation's policies.

Well, the whole thing has to rest then on the assumption that reserve creation would otherwise be inadequate, and this raises two problems. The first is to establish that in fact it will be inadequate by some kind of economic standard, and this raises difficulties, because in spite of the alleged seriousness of the international liquidity problem, the world economy has been characterized by a mild but marked inflation of prices since World War II.

That inflationary trend of world prices has been much more resented on the European Continent than it has been here and in the United Kingdom, and the assertion that the reserve creation will be inadequate could simply be the assertion that United Kingdom and United States views on inflation versus unemployment are correct, and that the world would be better off being forced to accept those views than it would be if it had less inflation with less reserve creation.

The second difficulty, while it is a political one, is one which I do feel competent to discuss, and that is that if the developed countries having negotiated the present scheme then negotiate a sizable increase of reserves in the form of SDR's, then even if it is true that those new reserves will be inadequate and will prove to be inadequate, I do not see the countries involved accepting a renegotiation of their decision in the form of extra SDR's. Rather I expect them to insist on seeing what happens with the reserves they create, and if necessary correcting their decision in the event of experience.

Well, these considerations suggest that in the light of the questions posed by the subcommittee for these hearings, that aid-linked SDR's would virtually have to be and should be created as an integral part of the decision to create new international reserves, and that they would not constitute a net addition to the total of SDR's created, only a redistribution of a predetermined quantity of SDR's.