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IMF Survey Vol.30, September 2001
Article

Conditionality: IMF seeks to streamline and focus conditions for lending to member countries

Author(s):
International Monetary Fund. External Relations Dept.
Published Date:
January 2001
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When the IMF provides financial support to member countries, it must be sure that the members are pursuing policies that will improve or eliminate their external payments problems, so that IMF resources are safeguarded and eventually repaid. The explicit commitment that members make to implement corrective measures in return for the IMF’s support is known as “conditionality.” By ensuring that members are able to repay it in a timely manner, the IMF can make its limited pool of financial resources available to other members with balance of payments problems. IMF financing and the important role it plays in helping a country secure other financing enable the country to adjust in an orderly way without resorting to measures that would harm its own or other countries’ prosperity.

Conditions for IMF financial support may range from general commitments to cooperate with the IMF in setting policies, to the formulation of specific, quantified plans for economic and financial policies. The IMF requires a “letter of intent” or a “memorandum of economic and financial policies,” in which a government outlines its policy intentions during the period of the adjustment program; any policy changes it will make before the arrangement can be approved; performance criteria, which are objective indicators for certain policies that a country must implement in order to draw IMF funds; and periodic reviews that allow the Executive Board to assess whether the member’s policies are consistent with program objectives. IMF financing from its general resources in the “upper credit tranches” (that is, where larger amounts are provided in return for implementation of remedial measures) is disbursed in stages, in response to those assessments. In the context of program reviews, a country’s progress may also be monitored against various points of reference, or benchmarks, which are not necessarily quantitative and frequently relate to structural variables and policies.

Conditions increased in 1980s

Conditions have been attached to IMF lending since the mid-1950s, focusing initially on monetary, fiscal, and exchange rate policies. Beginning in the late 1980s, the IMF increasingly emphasized economic growth as a goal of its programs while also expanding its involvement in countries where severe structural problems prevented them from achieving a sustainable balance of payments position. While the average program involved 2 or 3 structural conditions a year in the mid-1980s, by the second half of the 1990s, that number had risen to 12 or more.

This expansion raised concerns that the IMF might be overstepping its mandate and expertise by applying some conditions outside of its core areas of responsibility. Excessively detailed policy conditions could undermine a country’s sense of “ownership” of a reform program—without which reform will not happen. Moreover, poorly focused conditionality could strain the administrative capacity of countries attempting to implement nonessential reforms at the cost of reforms truly needed for economic growth and continued access to IMF financing.

Steps to streamline, focus conditionality

The Managing Director of the IMF, therefore, has given high priority to streamlining conditionality—to make it more efficient, effective, and focused, without weakening it—and strengthening national ownership. Streamlining will involve a number of steps. In September 2000, the Managing Director issued interim guidelines that set out general principles, which IMF staff are now applying in both new and existing IMF-supported economic programs. In March 2001, the Executive Board discussed the principles and issues related to conditionality, based on a set of papers prepared by staff. Those papers were posted on the IMF website to invite public comment; country officials, academic experts, and representatives of other organizations added their views at three seminars held in June and July 2001. Finally, the Executive Board will take into account a staff review of the IMF’s experience to date with applying the principles of the interim guidance note.

Executive Board assessment

Directors supported the broad thrust of the Managing Director’s interim guidance note, agreeing that

  • structural reforms critical to achieving a program’s macroeconomic objectives need to be covered by IMF conditionality;

  • reforms that are relevant, but not critical, to the program’s objectives require a more focused and parsimonious application of conditionality;

  • the appropriate coverage and content of conditionality are likely to vary, depending on countries’ circumstances as well as the applicable IMF facility;

  • coordination with the World Bank and other agencies is important;

  • increased reliance on program reviews, useful for both forward- and backward-looking assessments of countries’ economic policies, should not weaken member countries’ confidence of continued access to IMF resources;

  • structural benchmarks, useful to track progress in implementing structural reforms, should be limited to important and representative steps toward a policy outcome that is important to program objectives;

  • letters of intent should either focus only on those aspects of policy covered by conditionality or, in cases in which the authorities wish to use the letters to present their broad policy agenda, clearly indicate which program elements are subject to conditionality; and

  • the negotiation of reform programs should allow country authorities to consider various policy alternatives so that the resulting program reflects the circumstances and priorities of the country, thus ensuring its “ownership” of the program.

Remaining issues

Drawing the line between measures critical to program objectives and those relevant but not critical, and determining whether (or how) IMF conditionality would be applied to the latter are issues requiring judgment on a case-by-case basis. Related to that issue is the need to construct a framework for coordination with the World Bank and other development institutions for those program areas outside the IMF’s core areas of responsibility. On program design, the pace and sequencing of structural reforms need further consideration, and work on tailoring conditionality to a country’s ability to implement the reforms must continue. If the IMF should be more selective in providing financial support to programs with weak country ownership—which can be difficult to assess—it must also consider the costs to the country of holding back support.

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