The real news from Prague was not the street protests but the International Monetary Fund's commitment to reform, a continuation of its evolution over the last year. The World Bank, in contrast, still seemed surprised by the intensity of its critics. James Wolfensohn, its president, offered many platitudes, numerous vague generalities, but little substantive progress.

To increase global economic stability, the IMF will shorten the list of conditions that countries must meet to access emergency funds, emphasise crisis prevention and reform of financial systems, and encourage nations to forego pegged exchange rates. The Fund has greatly increased publicly available information about its own actions and has encouraged its members to follow suit. Few changes are more important than helping markets make better decisions through improvements in the quantity and quality of timely information. But one of the most contentious issues in the global financial system remains unresolved: how to "bail-in" private lenders in a crisis. One group favours formal rules that specify creditor obligations to support countries experiencing large capital withdrawals. A second seeks more flexible arrangements, each case decided in the light of its circumstances. A third proposes that debtors and creditors resolve their differences without official intervention.

The issue arises because, in the past, the IMF has not distinguished between countries that behave responsibly and that pursue profligate strategies leading to crisis. Reform cannot work under this non-differentiating policy. The Fund's revised contingent credit lines (CCL) promise rapid and nearly automatic response for countries that institute sound strategies during good times. However, if all countries receive the same assistance in times of trouble, there is little incentive to enact the politically difficult decisions until the emergency arrives. The CCL cannot compete, if its only advantage is a few percentage points of interest once the crisis occurs.

Global stability cannot be achieved unless individual countries and their creditors bear the consequences of their decisions. IMF crisis lending should be limited to two groups: nations that implement proper macroeconomic and financial pre-conditions and those that are harmed by failures elsewhere that threaten to produce systemic crises. This will create forces for stability by encouraging investors to reduce the flow and increase the cost of funds to non-qualifying borrowers.

Capitalism without losses is like religion without sin. It sounds wonderful but lacks proper incentives. The IMF must recognise that, if it does not "bail out" creditors, they are "bailed in" automatically. Without IMF funds, countries cannot support unsustainable exchange rates permitting investors to exit without loss. Allowing the currency to depreciate in an emergency forces lenders to pay a large cost for withdrawing their money. An additional excellent improvement is to permit foreign financial institutions to compete with local intermediaries. Argentina, Mexico and Brazil have implemented this policy. The IMF must ensure that other countries open their financial sectors.

By contrast, the Prague meeting only exacerbated the Bank's problems. There is general agreement that its mission should be improvement of life in developing countries through economic growth and alleviation of poverty. The inability of the institution's leadership to define these goals in clear terms has led to the disappointing effectiveness of Bank programmes.

Regrettably, the Bank has responded to the demonstrators and pressure groups by defining poverty and performance so broadly that few activities are ruled out and few results are measurable.

The G7 should insist on an independent audit of the effectiveness of Bank programs. The evaluation should report on results five years after a project has been completed, quantifying the costs and benefits.

The Bank directs Dollars 20bn-Dollars 30bn a year in aid flows. Donor countries and the recipient nations must clearly define its responsibilities and make it accountable for its results.

Debt forgiveness for the heavily indebted poor countries appeared high on the Prague agenda, but the flaws in the current programme were not corrected. The IMF and Bank plan only postpones the debt problem by refusing sufficient resources to resolve the present crisis. The programme's pretence to success is based on an assumption of HIPC growth of 7 to 12 per cent a year for the next 20 years. Would that it were so, but wishing will not make it so.

The Bank and the Fund must redesign the debt relief effort to increase the probability of achieving its goal. A good first step would be to write off all their existing claims, for all HIPC nations that undertake reform, against the more than sufficient reserves already accumulated on their balance sheets.

Allan H. Meltzer is a visiting scholar at AEI and served as chairman, with Adam Lerrick as senior adviser, of the International Financial Institution Advisory Commission of the U.S. government.