Fiscal Policy

On average, the fiscal outcomes were close to targets. There was, however, a wide range of outcomes.

At one end of the spectrum were the Central European countries (except Romania) and several of the new users, where deficits were considerably larger than targeted (Table 1). At the other end, most of the oil producers (principally countries that had had one previous arrangement) overperformed by a sizable margin. In Central Europe, the excesses over targets reflected mainly difficulties in reducing noninterest current spending; revenues, though falling, were actually stronger relative to GDP than projected. Outside Central Europe, increases in both revenues and outlays tended to be below those targeted. Most of the countries where deficits were lower than targeted (mainly countries with one or more previous arrangements) benefited from improvements in the terms of trade that, in a few cases, boosted revenues, but more systematically appear to have resulted in lower-than-targeted increases in noninterest outlays relative to GDP. By contrast, fiscal underperformers (mostly among the new users) experienced a mix of revenue shortfalls and expenditure overruns.

Table 1.

Fiscal Adjustment: Deviations from Targets¹

(In percentage points of GDP)

Sources: IMF staff estimates.

¹Average of actual changes between the year before and the last year of the arrangements under review less the average of target changes during the same period in each country. Excluding the six countries ineligible for any purchases after approval and those that did not target interest payments explicitly (Costa Rica, Pakistan, Papua New Guinea, and Poland).

²Excluding Argentina, where revisions to GDP preclude comparison.

³Excluding Jordan, where revisions to GDP preclude comparison.

Table 1.

Fiscal Adjustment: Deviations from Targets¹

(In percentage points of GDP)

	Overall Balance	Revenues	Noninterest Outlays	Interest Outlays	Capital Outlays
Several previous arrangements2	0.6	–0.3	–0.6	–0.3	–0.4
One previous arrangement	1.0	1.2	0.2	—	–0.3
New users excluding central Europe3	–0.6	–2.0	–1.0	–0.5	0.3
Central Europe	–4.1	6.1	7.4	2.8	2.5

Sources: IMF staff estimates.

¹Average of actual changes between the year before and the last year of the arrangements under review less the average of target changes during the same period in each country. Excluding the six countries ineligible for any purchases after approval and those that did not target interest payments explicitly (Costa Rica, Pakistan, Papua New Guinea, and Poland).

²Excluding Argentina, where revisions to GDP preclude comparison.

³Excluding Jordan, where revisions to GDP preclude comparison.

View Table

Table 1.

Fiscal Adjustment: Deviations from Targets¹

(In percentage points of GDP)

	Overall Balance	Revenues	Noninterest Outlays	Interest Outlays	Capital Outlays
Several previous arrangements2	0.6	–0.3	–0.6	–0.3	–0.4
One previous arrangement	1.0	1.2	0.2	—	–0.3
New users excluding central Europe3	–0.6	–2.0	–1.0	–0.5	0.3
Central Europe	–4.1	6.1	7.4	2.8	2.5

Sources: IMF staff estimates.

¹Average of actual changes between the year before and the last year of the arrangements under review less the average of target changes during the same period in each country. Excluding the six countries ineligible for any purchases after approval and those that did not target interest payments explicitly (Costa Rica, Pakistan, Papua New Guinea, and Poland).

²Excluding Argentina, where revisions to GDP preclude comparison.

³Excluding Jordan, where revisions to GDP preclude comparison.

Cumulatively, overall fiscal deficits relative to GDP fell on average by 4 percentage points over the average two and a half years of IMF involvement (Table 2). Outside Central Europe, every country except Cameroon and Papua New Guinea improved its fiscal position, and by 1992 all but nine had realized a primary surplus. In general, these gains reflected desired improvements in the structure of the fiscal accounts: in the countries that had had several previous arrangements, a combination of revenue increases and principally noninterest expenditure restraint; in the countries with one previous arrangement, sizable reductions in capital outlays, albeit supplemented by revenue increases; and in the new users outside Central Europe, revenue increases (although considerably below those needed) and expenditure restraint. Not all of the improvement stemmed from policy changes; in about a third of the countries, principally oil exporters, improvements in the terms of trade were also important (Table 3). These, however, tended to be transitory; backtracking in some of the countries that had benefited from terms of trade gains meant that by 1992 the sustained fiscal adjustment was similar in the two groups.

Table 2.

Outturns for the Fiscal Accounts

(In percent of GDP)

Source: IMF staff estimates.

¹Year preceding first program.

²Also excluding Guyana, where ratios were so much higher than in other countries that they dominated the averages; Zaire owing to insufficient data through 1992; and the six countries ineligible for any purchases after approval.

³Argentina, Costa Rica, Cote d’lvoire, Ecuador, Haiti, Jamaica, Mali, Mexico, Morocco, and the Philippines.

⁴Algeria, Egypt, Gabon, Nigeria, and Tunisia.

⁵Cameroon, El Salvador, Jordan, Pakistan, Papua New Guinea, Honduras, Trinidad and Tobago, and Venezuela.

⁶Bulgaria, Czechoslovakia, Hungary, Poland, and Romania.

Table 2.

Outturns for the Fiscal Accounts

(In percent of GDP)

	Overall Balance			Interest Payments			Primary Balance
	Pre-Program Year1	Last Program Year	1992	Pre-Program Year1	Last Program Year	1992	Pre-Program Year1	Last Program Year	1992
All countries, excluding Central Europe2	–8.1	–4.1	–4.4	5.8	5.2	5.5	–2.3	1.1	1.2
Countries with several previous arrangements3	–6.7	–2.3	–2.7	7.4	5.0	4.8	0.7	2.8	2.2
Countries with one previous arrangement4	–8.7	–2.8	–4.3	5.9	6.2	6.8	–2.8	3.3	2.5
New users5	–9.5	–7.3	–6.6	3.7	4.9	5.5	–5.9	–2.4	–1.0
Central European countries6	–3.7	–6.1	–6.6	2.4	5.0	4.8	–1.2	–1.1	–1.8
				Noninterest Expenditures
	Revenues			Total			Capital
	Pre-Program Year1	Last Program Year	1992	Pre-Program Year1	Last Program Year	1992	Pre-Program Year1	Last Program Year	1992
All countries, excluding Central Europe2	21.2	22.9	22.5	23.5	21.8	21.4	6.7	5.6	5.7
Countries with several previous arrangements3	20.0	21.3	20.7	19.3	18.5	18.5	4.8	4.7	4.3
Countries with one previous arrangement4	24.3	28.2	27.7	27.1	24.9	25.1	10.0	8.0	8.2
New users5	20.6	21.5	21.6	26.5	23.9	22.6	6.9	5.9	5.8
Central European countries6	45.9	41.4	40.2	47.1	42.5	42.0	4.7	3.6	3.2

Source: IMF staff estimates.

¹Year preceding first program.

²Also excluding Guyana, where ratios were so much higher than in other countries that they dominated the averages; Zaire owing to insufficient data through 1992; and the six countries ineligible for any purchases after approval.

³Argentina, Costa Rica, Cote d’lvoire, Ecuador, Haiti, Jamaica, Mali, Mexico, Morocco, and the Philippines.

⁴Algeria, Egypt, Gabon, Nigeria, and Tunisia.

⁵Cameroon, El Salvador, Jordan, Pakistan, Papua New Guinea, Honduras, Trinidad and Tobago, and Venezuela.

⁶Bulgaria, Czechoslovakia, Hungary, Poland, and Romania.

View Table

Table 2.

Outturns for the Fiscal Accounts

(In percent of GDP)

	Overall Balance			Interest Payments			Primary Balance
	Pre-Program Year1	Last Program Year	1992	Pre-Program Year1	Last Program Year	1992	Pre-Program Year1	Last Program Year	1992
All countries, excluding Central Europe2	–8.1	–4.1	–4.4	5.8	5.2	5.5	–2.3	1.1	1.2
Countries with several previous arrangements3	–6.7	–2.3	–2.7	7.4	5.0	4.8	0.7	2.8	2.2
Countries with one previous arrangement4	–8.7	–2.8	–4.3	5.9	6.2	6.8	–2.8	3.3	2.5
New users5	–9.5	–7.3	–6.6	3.7	4.9	5.5	–5.9	–2.4	–1.0
Central European countries6	–3.7	–6.1	–6.6	2.4	5.0	4.8	–1.2	–1.1	–1.8
				Noninterest Expenditures
	Revenues			Total			Capital
	Pre-Program Year1	Last Program Year	1992	Pre-Program Year1	Last Program Year	1992	Pre-Program Year1	Last Program Year	1992
All countries, excluding Central Europe2	21.2	22.9	22.5	23.5	21.8	21.4	6.7	5.6	5.7
Countries with several previous arrangements3	20.0	21.3	20.7	19.3	18.5	18.5	4.8	4.7	4.3
Countries with one previous arrangement4	24.3	28.2	27.7	27.1	24.9	25.1	10.0	8.0	8.2
New users5	20.6	21.5	21.6	26.5	23.9	22.6	6.9	5.9	5.8
Central European countries6	45.9	41.4	40.2	47.1	42.5	42.0	4.7	3.6	3.2

Source: IMF staff estimates.

¹Year preceding first program.

²Also excluding Guyana, where ratios were so much higher than in other countries that they dominated the averages; Zaire owing to insufficient data through 1992; and the six countries ineligible for any purchases after approval.

³Argentina, Costa Rica, Cote d’lvoire, Ecuador, Haiti, Jamaica, Mali, Mexico, Morocco, and the Philippines.

⁴Algeria, Egypt, Gabon, Nigeria, and Tunisia.

⁵Cameroon, El Salvador, Jordan, Pakistan, Papua New Guinea, Honduras, Trinidad and Tobago, and Venezuela.

⁶Bulgaria, Czechoslovakia, Hungary, Poland, and Romania.

Table 3.

Primary Fiscal Balances

(In percent of GDP)

Source: IMF staff estimates.

¹Ecuador, Gabon, Haiti, Mexico, Nigeria, Romania, Trinidad and Tobago, and Venezuela.

²Algeria, Argentina, Bulgaria, Cameroon, Costa Rica, Cote d’lvoire, Czechoslovakia, Egypt, El Salvador, Honduras, Hungary, Jamaica, Jordan, Mali, Morocco, Pakistan, Papua New Guinea, the Philippines, and Tunisia.

Table 3.

Primary Fiscal Balances

(In percent of GDP)

	Pre-Program Year	Program Average	Last Program Year	1992
Countries where terms of trade Improved during programs1	–1.0	2.8	3.0	1.4
Countries where terms of trade deteriorated during programs2	–2.4	–0.3	0.1	0.5

Source: IMF staff estimates.

¹Ecuador, Gabon, Haiti, Mexico, Nigeria, Romania, Trinidad and Tobago, and Venezuela.

²Algeria, Argentina, Bulgaria, Cameroon, Costa Rica, Cote d’lvoire, Czechoslovakia, Egypt, El Salvador, Honduras, Hungary, Jamaica, Jordan, Mali, Morocco, Pakistan, Papua New Guinea, the Philippines, and Tunisia.

View Table

Table 3.

Primary Fiscal Balances

(In percent of GDP)

	Pre-Program Year	Program Average	Last Program Year	1992
Countries where terms of trade Improved during programs1	–1.0	2.8	3.0	1.4
Countries where terms of trade deteriorated during programs2	–2.4	–0.3	0.1	0.5

Source: IMF staff estimates.

¹Ecuador, Gabon, Haiti, Mexico, Nigeria, Romania, Trinidad and Tobago, and Venezuela.

²Algeria, Argentina, Bulgaria, Cameroon, Costa Rica, Cote d’lvoire, Czechoslovakia, Egypt, El Salvador, Honduras, Hungary, Jamaica, Jordan, Mali, Morocco, Pakistan, Papua New Guinea, the Philippines, and Tunisia.

Fiscal developments should be assessed relative to measures of the sustainable fiscal position.²⁹ In broad terms, three standards for fiscal sustainabilily could be used: where debt financing is important, standard calculations of the primary position consistent with a stable ratio of debt to GDP; where financing consists mainly of bank credit, the fiscal position consistent with inflation targets; and where external grants are important, the deficit consistent with sustainable external financing given the savings-investment gap of the nongovernment sector. Although such exercises are not reported for most countries, the fact that many countries had high rates of inflation and depended substantially on exceptional finance means that their fiscal adjustment cannot be seen as complete, even though they often had substantial primary surpluses. For the numerous countries (particularly among the countries that had had previous programs) that fit this description, further primary adjustment will undoubtedly be difficult. Thus, prospects for stabilizing debt ratios, particularly as governments shift from bank to nonbank domestic financing, rest largely on countries’ success in raising growth rates.

In general, programs would benefit from a more explicit exploration of what constitutes a sustainable fiscal position, even though this would be neither a precise nor an unvarying standard. There are limitations to such medium-term analyses, especially in countries facing disruptive short-term crises or major structural transformations, such as in Central Europe, where potential revenues and the capacity to reduce expenditures are unusually uncertain. The beginnings of this process are evident in some recent IMF staff reports and other staff papers.³⁰

Financial Programs and Interest Rates

The success in meeting fiscal targets, together with a shift in deficit financing from banks to domestic nonbanks, often beyond that programmed, meant that outside Central Europe, net bank credit to the government was, on average, close to program targets (Table 4); large excesses over target, however, occurred in Jamaica, Honduras, Nigeria, and the Philippines. In most countries (except Cameroon and Mexico) excesses over targets for bank credit to the nongovernment sector were small. It is difficult to draw any conclusions about the degree of crowding in or crowding out of bank credit to the private sector because data for net bank credit to the government cover the broad public sector for only 15 countries and therefore do not reveal whether changes in net bank credit to the government were offset by opposite changes in bank credit to other levels of the public sector. In Central Europe, there were large excesses relative to target in both overall net bank credit growth and the growth of net bank credit to the government.

Table 4.

Summary of Financial Programs¹

(In percentage points, end-of-period data)

Source: IMF staff estimates.

¹Averages for annual financial programs. Positive numbers indicate excesses over targets. Excluding Argentina, Guyana, and Zaire (because of problems in the data), and the six countries ineligible for any purchases after approval.

²Costa Rica, Côte d’lvoire, Ecuador, Haiti, Jamaica, Mexico, Mali, Morocco, and the Philippines.

³Algeria, Egypt, Gabon, Nigeria, and Tunisia.

⁴Cameroon, El Salvador, Honduras, Jordan, Pakistan, Papua New Guinea, Trinidad and Tobago, and Venezuela.

⁵Bulgaria, Czechoslovakia, Hungary, Poland, and Romania.

Table 4.

Summary of Financial Programs¹

(In percentage points, end-of-period data)

		Difference Between Outturns and Targets
		Contribution to broad money growth
		Of net credit to the government	Of net domestic assets	Of net foreign assets	Broad money	Actual Broad Money Growth
All countries excluding Central Europe		0.5	0.8	5.5	6.3	20.3
	Of which: initial inflation over 10 percent	–1.1	–0.7	9.2	8.5	29.2
Countries with several previous arrangements2		1.8	4.9	5.0	9.9	25.1
Countries with one previous arrangement3		–1.9	–3.4	6.7	3.4	12.5
New users4		0.1	–2.8	5.3	2.5	18.4
Central European countries		10.6	14.8	7.0	21.9	42.1

Source: IMF staff estimates.

¹Averages for annual financial programs. Positive numbers indicate excesses over targets. Excluding Argentina, Guyana, and Zaire (because of problems in the data), and the six countries ineligible for any purchases after approval.

²Costa Rica, Côte d’lvoire, Ecuador, Haiti, Jamaica, Mexico, Mali, Morocco, and the Philippines.

³Algeria, Egypt, Gabon, Nigeria, and Tunisia.

⁴Cameroon, El Salvador, Honduras, Jordan, Pakistan, Papua New Guinea, Trinidad and Tobago, and Venezuela.

⁵Bulgaria, Czechoslovakia, Hungary, Poland, and Romania.

View Table

Table 4.

Summary of Financial Programs¹

(In percentage points, end-of-period data)

		Difference Between Outturns and Targets
		Contribution to broad money growth
		Of net credit to the government	Of net domestic assets	Of net foreign assets	Broad money	Actual Broad Money Growth
All countries excluding Central Europe		0.5	0.8	5.5	6.3	20.3
	Of which: initial inflation over 10 percent	–1.1	–0.7	9.2	8.5	29.2
Countries with several previous arrangements2		1.8	4.9	5.0	9.9	25.1
Countries with one previous arrangement3		–1.9	–3.4	6.7	3.4	12.5
New users4		0.1	–2.8	5.3	2.5	18.4
Central European countries		10.6	14.8	7.0	21.9	42.1

Source: IMF staff estimates.

¹Averages for annual financial programs. Positive numbers indicate excesses over targets. Excluding Argentina, Guyana, and Zaire (because of problems in the data), and the six countries ineligible for any purchases after approval.

²Costa Rica, Côte d’lvoire, Ecuador, Haiti, Jamaica, Mexico, Mali, Morocco, and the Philippines.

³Algeria, Egypt, Gabon, Nigeria, and Tunisia.

⁴Cameroon, El Salvador, Honduras, Jordan, Pakistan, Papua New Guinea, Trinidad and Tobago, and Venezuela.

⁵Bulgaria, Czechoslovakia, Hungary, Poland, and Romania.

Targets for broad money growth were overshot by wide margins in about two thirds of the program years. In most countries, this reflected mainly larger-than-expected net foreign assets.³¹ In general the overrun in net foreign assets stemmed from stronger-than-projected current account positions and, in a small number of countries (Costa Rica, Egypt, El Salvador, Honduras, Jordan, Mexico, and Morocco), unexpectedly large capital inflows, typically to the private sector.

A pattern of domestic credit restraint and sizable increases in net foreign assets persisted on average throughout programs. Consequently, there was a considerable shift from net domestic asset creation to the accumulation of net foreign assets, but little change, or, in about 60 percent of the countries, an increase in the growth of broad money (Chart 5), Typically, this occurred while velocity remained steady or rose so that in many countries monetary developments had little restraining effect on inflation. The principal exceptions were the countries that adopted an explicit nominal anchor, mostly using the exchange rate.

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Monetary Developments

(Period t–1 refers to the year preceding the program(s) under review)

1 Algeria, Bulgaria, Cameroon, Costa Rica, Côte d’Ivoire, Czechoslovakia, Ecuador, Egypt El Salvador, Gabon, Haiti, Honduras, Hungary, Jamaica, Jordan, Mali, Mexico, Morocco, Nigeria, Pakistan, Papua New Guinea, the Philippines., Poland, Romania, Trinidad and Tobago, Tunisia, and Venezuela, Excludes Argentina, Guyana, and Zaire because of data deficiencies.2 Where available, data exclude valuation changes.3 Czechoslovakia, Egypt, Mexico, and Poland, Excludes Honduras because it dropped its nominal anchor in 1992.4 Bulgaria, Costa Rica, Ecuador, El Salvador, Hungary, Nigeria, Romania, and Venezuela, Romania is included because it underwent a major price liberalization.

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There, the evidence suggests that the exchange rate anchor enhanced the effects of strong fiscal adjustment on inflation, thereby slowing the growth of demand for nominal money balances even as velocity fell; money growth, therefore, decelerated—although still, on average, by less than targeted—despite often large increases in net foreign assets. These developments illustrate the power of financial programs in general, and credit restraint in particular, for building reserves but their weakness for curbing money growth and, ultimately, inflation, particularly when the exchange rate is not used as a nominal anchor.

Remarkable progress in reforming financial markets complemented efforts to restrain credit growth. At the outset of the programs, most countries, particularly the new users, were at a relatively early stage of reform; about three quarters had undeveloped financial markets and pervasive controls on interest rates. By the end, about two thirds of the countries had auctions for central bank or government paper; most of these (and a few others that had not introduced auctions) had removed controls on a significant range of interest rates. These steps provided the institutional capability for indirect credit control and a shift from bank to non-bank financing of the deficit. Both these developments were critical to increasing real interest rates to positive levels.

In fact, real interest rates, which prior to the arrangements had been negative or well below foreign levels in about two thirds of the countries, rose significantly or remained at positive levels in most countries (Chart 6).³² In several countries, financial reforms or changes in the structure of fiscal financing late in the arrangement affected interest rates, mainly after the programs under review. Thus, by 1992, real interest rates were negative in only about a quarter of the countries. In Central Europe, where liberalization was recent and success in reducing large-scale bank financing of the public sector was elusive, countries had considerable trouble in attaining positive real interest rates.³³ The experience of the countries under review does not point to a significant role for higher interest rates in raising savings. Rather, the principal effect of the shift from negative to positive real interest rates is likely to have been in transforming the role of the banking system from redistributing resources to promoting the efficient allocation of resources.

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Real Interest Rates¹

(In percent a year; period t-1 refers to the year preceding the progrom(s) under review)

Sources; IMF. International Financial Statistics, various issues, and staff estimates.1 Annual average of monthly short-term nominal interest rates adjusted by actual 12-month centered increases in consumer prices.

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In about half of the countries, concern arose about high levels of real interest rates—levels well in excess of recent growth rates and real interest rates abroad—and large spreads. Usually one or more of three influences were at play: oligopolistic banking structures or weak prudential controls and supervision that hindered normal market restraints on interest rates; a large shift from bank to nonbank-financing requirements; and, in countries with aggressive disinflation programs supported by an exchange rate anchor (Mexico and Poland), the need to defend the exchange rate in the face of initial market skepticism and lags in the adjustment of inflationary expectations. High real interest rates in most of the CFA franc zone countries reflected the need to stem capital outflows while real interest rates in France rose to historically high levels. Outside the CFA franc zone, the problem of high real interest rates tended to be transitory. Even within the life of programs, most countries that had very high real interest rates saw a drop as adjustment to the newly liberalized regimes took place and the fiscal conditions that pushed up real interest rates were corrected.

These experiences suggest that financial liberalization and shifts in fiscal financing are successful in conferring a market-clearing role for interest rates, but care is needed to avoid excessive levels of real interest rates. Programs should be attentive to two particular issues in the liberalization process; (i) improving prudential controls and bank supervision to deter banks from excessive risk-taking rewarded by high real interest rates; and (ii) ensuring that the shift from bank to nonbank budget financing is accompanied by adequate reductions in overall borrowing requirements.

Exchange Rate Policy

Countries that used the exchange rate as a nominal anchor differed in distinct ways from those that managed their exchange rates more flexibly. Thirteen countries explicitly or effectively used the exchange rate as a nominal anchor.³⁴ All except the CFA franc zone countries and Papua New Guinea adopted the anchor at or near the beginning of their first arrangement covered by this review. Initial inflation in these countries ranged from over 50 percent a year to very low levels, although they were concentrated in the very high and low ranges. The reasons for using an exchange rate anchor differed between high- and low-inflation countries. In the high-inflation countries, the goal was to break inflationary expectations, provide discipline for policies, and directly affect inflation by stabilizing prices of traded goods. In the low-inflation countries, the aim was either to prevent a prospective adjustment in administered prices from setting off a wage-price spiral (Morocco and Trinidad and Tobago) or to provide a standard for policy discipline (Papua New Guinea and the CFA franc zone countries).

In general, the countries that used the exchange rate as a nominal anchor were successful in reducing inflation or maintaining it al a low rate.³⁵ The cost, however, was typically a loss of price competitiveness as inflation fell but still remained above that in trading partners (Chart 7). In some countries, the real appreciation probably overstates the decline in competitiveness because improvements in economic conditions, including lower inflation, raised productivity; in others, such as the CFA franc zone countries, however, the measure probably understates the real appreciation as inadequate adjustments in nominal wages given terms of trade losses squeezed profits. In Argentina (1989), where fiscal adjustment fell significantly short of target, the anchor quickly proved unsustainable and had to be abandoned in the midst of a severe speculative attack.³⁶ In Poland, the fixed exchange rate was later adjusted in a move toward greater flexibility.

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Nominal and Real Effective Exchange Rates in Countries with Exchange Rate Anchors¹

(Average 1990 = 100)

Sources: IMF. Information Notice System, and staff estimates.Note: SBA = stand-by arrangement; EFF = extended Fund facility.1 Downward movements represent improvements in competitiveness, For Morocco, see Chart 8; for Argentina, see Chart 9.2 Average for Cameroon, Cote d’lvoire, Gabon, and Mali, For Cameroon, Information Notice System data are based on inflation estimates after September 1990.3 Average January-September 1990=100. Staff estimates are for the Czech Republic, which are the best approximation for the former Czech and Slovak Federal Republic. Data prior to 1990 are not available.4 Nominal effective depreciation of 61 percent in 1986 and 56 percent in 1987.5 Nominal effective depreciation of 34 percent in 1986, 45 percent in 1987, 29 percent in 1988, and 90 percent in 1989.

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The other countries under review actively managed the exchange rate during all or most of their programs.³⁷ In none was there a truly free float. Rather, exchange rate policies in these countries were oriented in varying degrees toward objectives for the real exchange rate. At one end of the spectrum were Ecuador, Jamaica (prior to mid-1990), and Pakistan, where real exchange rate rules were subject to performance criteria; at the other was El Salvador, where intervention was primarily to smooth exchange rate movements. Where on this spectrum countries lay was related to the aggressiveness with which they had pursued or were to pursue particular targets for external competitiveness. In a rough sense, this tended to reflect the adequacy of recent export growth, expected terms of trade developments, and the planned fiscal adjustment. Many countries had achieved large real depreciations just prior to these programs, and the period under review was marked more by efforts to consolidate past gains than by aggressive use of nominal depreciation to improve competitiveness.

Six countries (Costa Rica, Ecuador, Jamaica, Morocco, Pakistan, and Tunisia) were closest to the real rule side of the spectrum (Chart 8).³⁸ In each of these countries, except Morocco, there had been a sizable real depreciation two to three years before the programs under review and, in the interim, broad stability in the real exchange rate. These real depreciations had elicited large increases in export volume growth. Efforts to maintain competitiveness during the program period were broadly successful: real exchange rates generally varied within a 10 percent band although there were moderate level adjustments in Morocco, Pakistan, and, to compensate for tariff reductions, Costa Rica. These countries were subject to the risk that the destabilizing effects of any real shocks would be exacerbated. Moreover, there was a risk of pushing up inflation if the level at which the real rate was targeted was below that compatible with fiscal policy and wage demands, and the risk of weakening growth if the level was too high.³⁹ That the real rate had generally been stable for some time provided some assurance that these problems would not arise. However, in several countries (Ecuador, Jamaica, and Pakistan) inflation did rise or remained at very high levels.

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Nominal and Real Effective Exchange Rates in Countries with Real Exchange Rate Targets¹

(Average 1990 = 100)

Source; IMF, Information Notice System.Note: SBA = stand-by arrangement; EFF = extended Fund facility.1 Downward movements represent improvements in competitiveness.2 The NEER depreciated by 36 percent during 1986 and by 38 percent during 1987.

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Most of the eight countries (Algeria, Argentina, El Salvador, Hungary, Jordan, Nigeria, the Philippines, and Venezuela) that followed a more discretionary approach to exchange rate policy had sought significant adjustments in the real exchange rate, with varying degrees of success, in the year preceding the first arrangement under review. Several had further large adjustments during the arrangements (Chart 9).⁴⁰ The inevitable uncertainty about the adequacy of these adjustments militated against adherence to a real rule. Faced with declines in the terms of trade, a reversal of earlier real depreciations, or weakening export growth, three of these countries (Algeria, Jordan, and the Philippines) and Jamaica, which had earlier followed a real rule, undertook sizable adjustments in their nominal exchange rates with the aim of affecting the real rate. In Jamaica and Jordan these were supported by strong fiscal adjustment and were largely reflected in the real rate. In Algeria and the Philippines, however, policy support was weaker than planned, and the nominal change was quickly eroded by inflation. Other countries saw broadly stable (El Salvador) or rising (Hungary, Nigeria, and Venezuela) trends in their real exchange rates.

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Nominal and Real Effective Exchange Rates in Countries with Managed Floating/Adjustable Peg Exchange Rates¹

(Average 1990 = 100)

Source: IMF. Information Notice System.Note: SBA = stand-by arrangement: EFF = extended Fund facility.1 Downward movements represent improvements in competitiveness.2 The NEER depreciated by 16 percent during 1986.3 NEER data for Argentina do not fit the plot scale.4 The NEER depreciated by 5 percent during 1986.5 The NEER depreciated by 74 percent and the REER by 71 percent during 1986.6 The NEER depreciated by 44 percent during 1986, depreciated by 16 percent during 1987, and appreciated by 2 percent during 1998.

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In four countries (Guyana, Haiti, Romania, and Zaïre) exchange rate policy was dominated by efforts to unify a dual system.⁴¹ In general, these countries had seen large increases in parallel market premia during the period preceding the programs under review as restrictions on access to the official market had increased. The main thrust of exchange rate policy was to lower the official rate to the parallel market rate and shift transactions from the official market to the parallel market. A lasting unification was achieved in Guyana and Haiti, but a sizable spread between the interbank and foreign exchange bureau exchange rates reemerged for extended periods in Romania. In Zaïre dual rates remain in place.

The differing approaches to exchange rate policy reflected the tension between the roles for the exchange rate—anchoring inflation expectations and disciplining policies, on the one hand, and maintaining or improving competitiveness, on the other. In the first-best world, financial policies would have been sufficiently restrictive to allow the exchange rate to be used as an anchor, with adjustments only in the face of real disturbances. In fact, adjustment was not always this strong and there frequently was a short-term trade-off between inflation and competitiveness. The experience does not support the primacy of either as the main objective for exchange rate policy. Programs should, however, clearly address the trade-off in designing exchange rate policy. Moreover, this trade-off needs to be kept under review recognizing, as in Poland, that an anchor—for example as part of a disinflation program—may well have to give way to greater flexibility in the face of adverse terms of trade movements or a protracted loss of competitiveness.

Structural Policies

There was a broad measure of success in accomplishing structural reform, usually pursued in the context of contemporaneous structural adjustment loans from the World Bank. A few countries undertook truly sweeping structural changes: in Central Europe, price decontrol, trade liberalization, and current account convertibility were often introduced immediately, while plans were laid, and in some countries executed, for a revamping of the financial sector and restructuring or privatization of publicly owned enterprises;⁴² in Mexico, the extended arrangement supported a major structural reform program, initiated in the mid-1980s and encompassing exchange and trade liberalization, tariff reform, financial sector liberalization and development, tax reform, and privatization.⁴³ In other countries, changes were usually part of a less comprehensive process. Medium-term plans for reform were generally better spelled out in extended arrangements than in stand-by arrangements, but progress achieved, in the few extended arrangements reviewed, was not uniformly greater. Nor was the record of implementing structural reforms necessarily linked to the success in adhering to the financial program: in Cameroon and Pakistan, financial programs went off track but many planned structural reforms were implemented.

The greatest accomplishments in the countries outside Central Europe were in addressing exchange and trade restrictions, tariff systems with high and dispersed rates, and the problems of repressed financial sectors.⁴⁴ Outside of the CFA franc zone countries and a handful of others that entered their arrangements with liberal exchange and/or trade systems, all countries took significant measures to reduce restrictions. Whereas about two thirds of the countries (mainly new users) had restrictions on current payments before the programs reviewed, less than half had restrictions at the end of the period. For many, this involved shifting from quantitative restrictions to tariff protection, but even in this context, most also achieved some improvement in the structure of tariffs. Reflecting the relatively undeveloped stale of financial markets in many of the countries, financial sector reforms were concentrated on freeing interest rates and introducing new financial instruments. Progress in addressing the weak portfolios of commercial and central banks as well as inadequate prudential controls and bank supervision—problems faced by many of these countries—was less, although about a third of the countries outside Central Europe at least took first steps.

Many countries undertook fiscal reforms, although typically these fell somewhat short of program expectations. The most common were tax reforms—in Mexico, the Philippines, Trinidad and Tobago, and Tunisia, the introduction of a value-added tax and, in other countries, less ambitious measures to raise revenues and reduce distortions. In about a quarter of the countries outside Central Europe, incremental price liberalizations or increases in administered prices also strengthened public finances. In four countries (Algeria, Egypt, Venezuela, and Zaïre) long-sought and politically sensitive adjustments in fuel prices, even if not as great as needed, were implemented. Structural measures to limit government spending obligations, especially through pension schemes, were notoriously difficult to implement. Also, on the expenditure side, there remained many uncertainties about the need for restructuring public investment and the risks for growth of at times relying considerably on capital spending restraint to achieve fiscal adjustment.

Progress in addressing the weak financial position of public enterprises was disappointingly slow. Only a few countries, notably Argentina, Jamaica, Mexico, the Philippines, Tunisia, and Venezuela, undertook substantial actions to restructure, liquidate, or privatize public enterprises during the arrangements under review. However, a number of countries (Brazil, Honduras, Nigeria, and Pakistan) proceeded at a faster pace, particularly in the area of privatization, in the period following the arrangements.

Labor market rigidities were prevalent but were addressed only to modest degrees. The central problem was a lack of responsiveness of real wages to labor market conditions. De facto or explicit backward-looking wage-indexing arrangements existed in many countries with high and intermediate inflation rates, and modifying them was essential to lowering inflation, reducing real wages where needed, and girding economies for disruptions from possible real shocks.⁴⁵ In most of these countries, notwithstanding recognition of the problem, a political consensus for changing indexation practices could not be secured. The exception was Mexico where, after a temporary wage freeze in 1988, forward-looking wage agreements were adopted in a wage-price pact between government, business, and labor. In the Central European countries, programs formally endorsed wage controls to act as secondary nominal anchors and to reduce the risk of excessive increases in labor’s share of value added in state enterprises. The success in containing wage increases varied and was closely related to the accompanying restraint on the growth of credit to enterprises.⁴⁶

Even where wages were not indexed, high wages in the organized sector dampened external competitiveness and impeded growth and job creation. In general, issues concerning the level of wages were addressed in the context of public sector wages and, implicitly, exchange rate policy. This was understandable: often data on wages outside the public sector were weak and the public sector dominated the labor market and wage determination. However, it meant that adjustments to the level of wages were more a function of the fiscal targets than the clearing of labor markets, and that changes in real exchange rates were assumed to reflect commensurate changes in real wages. Consequently, the degree to which excessive real wages were a fundamental constraint on employment and growth was often not fully addressed.

Coordinated programs for structural reforms would have been desirable but were generally not politically or administratively feasible. It is appropriate, therefore, that programs supported the second-best strategy of seizing opportunities for reform on as broad a front as possible. This process cannot give a large role to sequencing considerations, but these are not unambiguous and could unduly slow the process. Barring steps that have resulted in crisis in other countries—liberalizing interest rates when prudential controls are clearly inadequate is the most notorious—this strategy should create tensions that ultimately spur reform. Areas that should command larger roles in program design are improving prudential controls and bank supervision, addressing weak bank portfolios, privatization, and public expenditure restructuring. Also, the importance of wage developments to employment and potential growth warrants greater attention to collecting wage and employment data and applying analytical techniques such as wage gap analyses common in more advanced economies.

Social Safety Nets

Although adjustment programs benefited the poor in a number of respects—over time as growth and employment could be expected to rise and inflation to fall, and more immediately as agricultural prices rose or real depreciations increased returns to the rural poor—in virtually all programs, the issue of mitigating the impact of adjustment on the poor and others seriously affected by reforms was raised. The strength of efforts to address this issue varied. These differences seem to have reflected resource constraints, histories of attentiveness to social issues, and views on the appropriate amount of government intervention in helping the poor. In addition, efforts to address social issues complemented the World Bank’s long-term programs to alleviate poverty.⁴⁷

Most of the countries concentrated on relieving the worst effects of adjustment on the poor and on those most seriously affected by reforms through subsidies, price controls on essential goods and services, and spending on social sectors—education, health, nutrition, and housing. In about a third of the countries where programs were on track after the initial purchase, attention to social considerations within the program was confined to preservation of existing subsidies, price controls, or social expenditure programs when these might have been cut or eliminated in the process of reducing fiscal deficits. More concerted changes to strengthen social safety nets took three main forms. The first—pursued in another third of the countries that progressed past initial purchases—were reforms to replace or supplement existing consumer subsidies with better-targeted instruments. The second—implemented in about a quarter of the countries that progressed past initial purchases—were public works, retraining programs, or severance pay for the recently unemployed. These often figured prominently in countries that significantly curbed public employment. The third were improvements in the cost effectiveness of social security systems through changes in the eligibility for or the level and duration of benefits. Such measures were envisaged in Argentina, Costa Rica, Hungary, Tunisia, and Uruguay but were often stymied by lack of political acceptance.

Social safety nets were given greatest prominence in Central Europe and absorbed higher levels of resources—estimated at about 10 percent of the budget—than in other countries. Actions focused on improving unemployment compensation, pension and family benefits, cash transfers to households, and training programs for the unemployed. Concerns that initiatives outstripped resources that could be devoted on a sustained basis are apparent in the IMF staffs attention to the need to improve the actuarial soundness of social programs and the targeting of assistance.