V. Summary of Findings and Conclusions
- F. Rozwadowski, Siddharth Tiwari, David Robinson, and Susan Schadler
- Published Date:
- June 1993
The countries undertaking ESAF arrangements faced daunting obstacles. They had among the lowest per capita income levels in the world and weak foundations for growth—inadequate economic infrastructure and underdeveloped human capital. Distortions and rigidities stemming from official controls and poorly designed tax and expenditure policies perpetuated economic weakness and drove the financial and external imbalances that had given rise to unsustainable debt burdens.
The ESAF presented a channel for IMF involvement in these low-income countries, tailored to their needs by two distinguishing characteristics. First, ESAF programs took a medium-term perspective on the interaction between macroeconomic policies and structural reform—a perspective that has benefited from the collaboration between the World Bank and the IMF in designing structural policies. Thus, the ESAF permitted the IMF to support not just macroeconomic and financial stabilization, but also reforms to address the structural weaknesses that were at the root of financial instability and excessive external debt burdens. The second distinguishing characteristic was that the concessional nature of ESAF resources enabled these countries, which in general can ill afford to borrow on market-related terms, to enter into IMF-supported programs.
The performance of countries under the ESAF arrangements must be judged against the extraordinarily weak starting positions and, for many, serious deteriorations in the external terms of trade during the arrangements. Against this backdrop, the experience under ESAF arrangements has in general been favorable. While there remains considerable room for improvement, the ESAF countries have on average seen a strengthening in a wide range of macro-economic indicators—real GDP growth, trade volumes, inflation, and debt ratios. There have been disappointments, particularly in the relatively small response of investment ratios and the persistence of low savings ratios. The review of individual countries’ experiences suggests that the largest improvements in macroeconomic performance occurred in countries that undertook the most forceful reforms and suffered the least from weakening terms of trade.
The 19 countries under review made sustained policy changes in at least one—and in several countries, many—important areas. Generally, fiscal adjustment was not as forceful as structural reform. Most countries reduced the deficit of the central government relative to GDP, but the average reduction was modest—about 2 percentage points. Several developments thwarted stronger adjustment. For one thing, several countries had reduced central government deficits in the two or three years before the SAF/ESAF period, and further reductions required especially difficult policy measures. In some countries, such structural reforms as increases in interest rates and other financial sector measures put upward pressure on deficits. In a small number there were simply slippages in the implementation of expenditure control and revenue-raising efforts. In almost all countries, available indicators point to an overall public sector deficit that was substantially higher than the narrowly defined deficit of the central government.
For many countries, structural reforms, even if not comprehensive, resulted in important changes in the role of the government. The breadth and depth of reform, however, varied considerably. Changes were most pronounced in three areas: exchange and trade liberalization, decontrol of agricultural prices and marketing boards, and liberalization of interest rates. In other areas, actions were less forceful; in particular, much remains to be done in the areas of bank restructuring and public enterprise reform. Continuing weaknesses in these areas are interrelated. Coordinated action to address them will be crucial to the improvements in economic efficiency and financial balances needed to sustain newly liberalized exchange, trade, and pricing regimes.
In many of the 19 ESAF countries under review, currency depreciation was an important component of efforts to support exchange and trade reform, to correct initial overvaluation, and to respond to terms of trade losses.19 For most countries real depreciations. although smaller than the nominal changes, were sizable and strongly influenced export growth. In general, the rate of nominal depreciation slowed in the most recent two to three years, resulting in a slower rate of real depreciation despite some reduction in inflation. For the future, lowering financial imbalances, particularly in the public sector, will be critical to maintaining, or, in some countries, strengthening, present levels of competitiveness.
A number of influences appear to have affected the forcefulness of reform and adjustment. First, the degree of political commitment to changing the role of the public sector was critical. This is manifest in the fact that countries where reforms in any one area were the strongest and the best sustained tended to be those that acted aggressively in a number of areas. Second, even with considerable technical assistance from the IMF and other institutions, limited administrative capacity to design and implement reforms was a constraint. In many countries, an important dimension of this problem was a bloated but underpaid and demoralized civil service. Third, political instability slowed or even reversed reforms in several countries. Fourth, declining terms of trade-especially from falling export prices—tended to inhibit action.
Progress toward external viability varied considerably. Almost all the countries under review entered the SAF/ESAF period with rising debt and debt-service ratios; about two-thirds had such heavy debt burdens that debt-service obligations were not being fully met. Almost all of them were able to halt the deterioration in their debt profiles during the program period. About half can be considered to have made progress toward viability in the sense of cutting or holding constant their debt and debt-service burdens and reducing or maintaining at a low level their reliance on exceptional financing. For several countries in this group, an end to the need for exceptional financing appears to be in prospect, although continued heavy reliance on foreign assistance in other forms is likely to be needed for some years to come. The other half of the countries under review experienced little change or even increases in debt and debt-service ratios and had increased recourse to exceptional financing.
There was a positive correlation between progress toward external viability and domestic economic performance. The countries that made more visible progress toward viability also saw average GDP growth rates, export and import volume growth rates, and savings ratios improve by significantly more than the countries where little or no progress toward external viability occurred. The two key factors for the more successful group were the forcefulness of structural reform—and to a lesser extent of financial adjustment—and developments in the terms of trade. In the group that made less progress toward external viability, several factors were at play: large deteriorations in the terms of trade that at times offset the benefits of structural reforms; political instability that caused disruptions to reform programs; and lack of political commitment to reform.
The sharp deterioration in the terms of trade in several ESAF countries raises questions about the balance between adjustment and financing. Most of the countries where the terms of trade fell made relatively little progress toward viability despite, in some cases, strong adjustment efforts; several experienced large increases in debt burdens, because they continued to borrow as nominal exports fell. Two lessons emerge from the experience of these countries. First, as the terms of trade deteriorate, the strength of adjustment needs to be reevaluated quickly. Second, financing for countries in such circumstances should be on highly concessional terms, particularly when there is no strong reason to believe the deterioration will be reversed soon.
SAF- and ESAF-supported programs paid increasing attention to poverty and the social costs of adjustment. While the most important developments for poverty alleviation were rising GDP growth and falling inflation, efforts were also made to improve social programs and infrastructure, increase public works employment, or provide transfers to the poor. Financing, administrative, and logistical constraints were a problem, but in general the efforts were judged successful, if modest in scale. Environmental considerations began to come into play in ESAF-supported programs but demand greater attention.
In most of the countries covered by this review, structural reform remains incomplete and external viability elusive, at least for the near term. Experience under the ESAF suggests several areas where the IMF should continue to play a role. First, firm discipline in financial policies is crucial. Despite continuous efforts to rein in fiscal deficits and credit expansion during SAF/ESAF arrangements, there is still room for improvement. Since continuing inflation undermines the response of savings and investment to structural reform, it will be critical in the coming years to bring it under control. Second, frameworks for coordinating domestic financial policies, structural reforms, and external financing will continue to be needed. For many countries, debt and debt service remain so high that even the strongest domestic policy efforts would be insufficient to restore external viability in the foreseeable future; substantial concessional financing including, for many countries, debt reduction will be necessary, but should be contingent on assurances that domestic adjustment and reform efforts are effective, sustained, and strong enough to prevent the reemergence of debt-servicing problems. Finally, administrative capacity remains a severe constraint in most countries, and well-targeted technical assistance from the IMF, the World Bank, and other institutions will be necessary.