- Kevin Fletcher, Sanjeev Gupta, Duncan Last, Gerd Schwartz, Shamsuddin Tareq, Richard Allen, and Isabell Adenauer
- Published Date:
- April 2008
© 2008 International Monetary Fund
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Bhanganoma rural district, Swaziland: An after-school meal is served to vulnerable children.
Fiscal management of scaled-up aid / Sanjeev Gupta … [et al.] — Washington, DC: International Monetary Fund, 2008.
Includes bibliographical references.
1. Economic assistance — Developing countries. 2. Fiscal policy — Developing countries. 3. Developing countries — Economic policy. 4. Developing countries — Economic conditions. I. Gupta, Sanjeev. II. International Monetary Fund.
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There is a renewed commitment by the international community to increase aid significantly to help low-income countries meet the Millennium Development Goals (MDGs). The Monterrey Consensus of 2002 called for increased and more effective aid for low-income countries. This was followed up by the commitment of the Group of Eight (G-8) countries at the Gleneagles Summit in 2005 to double aid to sub-Saharan Africa by 2010. There has also been a substantial increase in aid to low-income countries from other “emerging donors” as well as from nonofficial sources.
Prospects of scaled-up aid present low-income countries with both opportunities and challenges. More aid provides additional “fiscal space,” thereby offering these countries a unique opportunity to increase spending to accelerate progress toward the MDGs. Yet managing additional aid resources also poses significant challenges for macroeconomic management, including from the uncertainty and volatility surrounding aid disbursements and the impact of scaled-up aid on macroeconomic stability and debt sustainability.
The IMF aims to help countries fully spend and absorb all aid, provided that macroeconomic stability is not compromised and that the aid can be used effectively. Fiscal policy, in combination with monetary and exchange rate policy, is critical in determining how much of the aid is spent and absorbed. Low-income countries also need assistance in putting in place the economic and fiscal institutions that will permit them to absorb the scaled-up aid in a sustainable manner.
This paper discusses the role of fiscal policy in managing scaled-up aid. Accelerating progress toward the MDGs will require both more spending and more efficient spending in order to generate the desired social and economic outcomes. Scaled-up aid relaxes the budget constraint in aid recipient countries but does not eliminate it. Thus governments must choose a time path for revenue and expenditure policies that maximizes society’s welfare, subject to the constraint that spending cannot exceed available resources. A first step in this direction is to determine the overall resource envelope over the medium term. A given resource envelope, however, is consistent with an array of alternative medium-term spending paths. Therefore, choosing an appropriate medium-term spending path that is consistent with capacity constraints, macroeconomic stability, and fiscal sustainability is a critical issue in managing scaled-up aid flows. At the same time, more spending will only translate into progress toward the MDGs and other desired outcomes if spending is done efficiently. Much of this relates to strengthening planning, prioritization, and implementation on the basis of better institutions, in particular, public financial management systems. Another issue of particular importance in the context of scaled-up aid is how to deal with aid volatility and uncertainty. This paper attempts to provide operational guidance in addressing these issues.
The authors would like to thank Taimur Baig, Lynn MacFarlane, Sailendra Pattanayak, Alejandro Simone, and Justin Tyson for their contributions. Larry Cui, Victoria Gunnarson, and Juan Francisco Yepez provided invaluable research assistance. Helpful comments and suggestions received from IMF colleagues are also gratefully acknowledged. Special thanks are also due to Merceditas San Pedro-Pribram and Alicia Etchebarne-Bourdin, who prepared the document for publication. Any remaining errors are the sole responsibility of the authors. Rebecca Obstler of the External Relations Department coordinated the production of the publication.