A model of the IMF as a coinsurance arrangement

The paper develops a model of an IMF-like coinsurance arrangement among member countries. First, it shows that a coinsurance arrangement among countries can, in principle, play a useful role in helping countries bear the risks involved in developing their economies and becoming part of the global financial system. Second, the operation of the coinsurance arrangement is examined under different loan contracts offered by the IMF. The analysis suggests that, if the IMF's objective is to safeguard its resources and be concerned about the welfare of the borrower, an ex ante loan contract (that is a contract agreed to before problems arise) is more likely to create the right incentives - induce higher effort by member countries to avoid and overcome crises - than an ex-post loan contract (that is a contract made after problems arise). Such ex ante contracts highlight the need for precommitment to contend with the Samaritan's dilemma and time inconsistency. It also shows that state-contingent repayment schemes are needed to deal with King Lear's dilemma.