The view that Fund-supported adjustment programs impose significant economic costs, particularly by reducing growth and employment, has been strongly voiced in some quarters. Consequently, critics of the Fund have argued that more attention should be directed toward developing alternative, less costly, approaches to stabilization. This paper has surveyed the available empirical literature in order to determine what light can be thrown on the direction and magnitude of the short-run effects of Fund programs on the level and growth of output.
In reviewing the literature, one is immediately struck by the paucity of empirical studies that directly examine the relationship between Fund programs and economic growth. A lack of such studies is surprising in light of the controversy that has surrounded this issue. This paper put together the evidence from the few studies that have directly examined the effects of Fund programs and combined it with indirect evidence from empirical studies that consider the relationship between policies of the type usually associated with Fund programs and short-run variations in the rate of economic growth. This approach, while obviously not ideal, nonetheless allows some useful inferences to be drawn from the available material.
The main patterns to emerge from the present survey can be briefly summarized. First, the studies reviewed generally indicated that, while the size of the effect varied, tighter monetary and credit policies would result in a fall in the growth rate in the first year after they were implemented. Furthermore, if monetary and credit restraint took the form of a reduction in the flow of credit to the private sector, the empirical evidence showed that private capital formation and possibly the long-run rate of growth would be adversely affected. Second, no studies showed any clear empirical relation between growth and fiscal policy. There are close institutional links between monetary and fiscal policies in developing countries and thus, once monetary policy variables are taken into account, the various studies have found it difficult to measure the independent role of fiscal policy. Third, there is some evidence that supply-side policies, particularly policies to increase producer prices and the domestic interest rates, have favorable effects on production and savings. For example, price elasticities of supply of agricultural commodities tend to be higher than normally assumed, so that increases in prices encourage the production of primary goods. The effect of variations in real interest rates on savings is, however, quite small, implying that it would take fairly sizable increases in nominal interest rates to change the savings rate. Fourth, a number of studies find a close relationship between the growth rate and capital formation. Therefore, policies directed at increasing investment and improving its efficiency will tend to have a beneficial effect on longrun development. Finally, such empirical evidence as is currently available is consistent with the view that devaluation would, on balance, exert an expansionary rather than contractionary effect on domestic output, even in the short run. This result clearly has an important bearing on the use of exchange rate policy in developing countries.
One explanation of the view that Fund programs systematically reduce growth is perhaps the misconception that programs are designed solely to reduce aggregate demand through the use of contractionary monetary and fiscal policies. Since some empirical evidence indicates that such policies slow growth temporarily, it is concluded that Fund programs must therefore be deflationary. As discussed in this survey, this interpretation of the policy content of Fund programs is far too narrow, and account has to be taken of the other growth-inducing measures contained in Fund programs. This aspect is brought out clearly in the results of cross-country studies measuring the effects of Fund packages that combine the whole range of demand-management and supply-side policies. These studies found that the rate of growth declined in a number of countries during the course of a program, but this result was matched by a number of cases where the growth rate in fact rose. Once the influence of all relevant policies on the growth rate is recognized, there is no clear presumption that Fund-supported adjustment programs adversely affect growth.
In conclusion, this paper has shown the serious limitations of existing empirical analysis of Fund-supported adjustment programs and economic growth. To evaluate the criticism that Fund programs are unnecessarily deflationary would require more systematic empirical studies. Such studies would have to be in the nature of a case-by-case approach, taking the whole range of Fund policies into consideration rather than focusing on individual elements of programs. They would also have to be supplemented by some type of modeling and simulation analysis so as to handle the issues that arise in comparing the set of policies included in a Fund program with a hypothetical alternative package of measures or in comparing the effects of a Fund program with the outcome that would occur in the absence of a program. In the course of conducting such an exercise, a number of questions would have to be addressed. In particular, it would be necessary to ask what was the nature and extent of the disequilibrium that led to the adoption of the program. Was the growth rate already starting to decline, or was it being maintained at an unsustainable level? What would the growth rate have been in the absence of the financial resources directly provided and indirectly generated by the Fund? Is the fall in the growth rate a short-run phenomenon, and what are the likely medium-term growth effects of a Fund-supported adjustment program? In this context it has to be recognized that a Fund program may lead to lower growth in the first year, but can pave the way to a recovery in succeeding years. Would an alternative feasible set of policies that differed from Fund programs in either the emphasis placed on certain instruments or in the choice of instruments, or both, have achieved the same objectives at lesser cost? Have the judgments exercised in the setting of objectives been, on average, unnecessarily severe? As this paper has stressed, such questions are difficult and, if the ultimate issue of the impact of Fund-supported adjustment programs on economic growth is to be resolved, further efforts to deal with these questions are needed.