©2010 International Monetary Fund
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Emerging from the global crisis: macroeconomic challenges facing low-income countries/prepared by the Strategy, Policy, and Review Dept. . . . [et al.]. —Washington, D.C.: International Monetary Fund, 2010.
Includes bibliographical references.
1. Global Financial Crisis, 2008–2009. 2. Financial crises—Developing countries. 3. Economic development—Developing countries. I. International Monetary Fund. Strategy, Policy, and Review Dept.
HB3717 2008 .E44 2010
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Abbreviations and Acronyms
Exchange Market Pressure Index
Foreign Direct Investment
Gross Domestic Product
Generalized Method of Moments
Global Projection Model
Heavily Indebted Poor Country
International Labor Organization
Limited Information Maximum Likelihood
Multilateral Debt Relief Initiative
Poverty Reduction Growth Trust
World Economic Outlook
This study was prepared by an IMF staff team led by Stefania Fabrizio and comprising Chris Geiregat, Yasemin Bal Gündüz, Kazuko Shirono, Joe Thornton, Linda Kaltani, and Song Song, all from the Strategy, Policy, and Review Department (SPR); Mark Horton, Thomas Baunsgaard, Borja Gracia, and Javier Kapsoli, all from the Fiscal Affairs Department (FAD); Udaibir Das, Kal Wajid, Mary Zephirin, Allison Holland, Faisal Ahmed, Bozena Radzewicz-Bak, Cesar Arias, Kay Chung, and Jahanara Zaman, all from the Monetary and Capital Markets Department (MCM); Andrew Berg, Catherine Pattillo, Nicola Spatafora, Hans Weisfeld, and Lisa Kolovich, from SPR and the Research Department (RES). General guidance was provided by Hugh Bredenkamp and Christian Mumssen (both SPR), Sanjeev Gupta (FAD), Axel Bertuch-Samuels (MCM), and Jonathan Ostry (RES). Special thanks are also due to Merceditas San Pedro-Pribram (SPR), Alicia Etchebarne-Bourdin and Joanne Blake, both from the External Relations Department (EXR), who prepared the document for publication.
While the impact of the global crisis has been severe, real per capita GDP growth stayed positive in two-thirds of low-income countries (LICs), unlike in previous global downturns, and in contrast to richer countries. The crisis affected LICs not so much through the terms of trade or global interest rates, but rather through a sharp contraction in export demand, foreign direct investment, and remittances (oil exporters also suffered from a sharp fall in oil prices). LICs saw the sharpest decline in their economic growth rate over the last four decades. However, this slowdown followed a period of strong expansion, and real per capita GDP growth has generally held up in LICs, remaining well above growth in richer countries.
Growth was supported by a countercyclical policy response—a first for LICs in contrast to past crises when the fiscal stance was tightened. Most LICs let their fiscal automatic stabilizers operate, and the median increase in real primary spending was higher than in the previous five years. Moreover, the composition of spending improved in favor of the social sectors and public investment. Empirical analysis suggests that this response allowed vital spending to be preserved, in particular on social sectors and infrastructure, and helped mitigate the negative impact of the global crisis on economic growth and the poor.
Precrisis macroeconomic policy buffers, built mainly over the last decade, had created room for this countercyclical response. LICs entered the crisis with stronger macroeconomic positions than in previous downturns, including lower inflation, more manageable fiscal and current account deficits, higher international reserves, and reduced debt. This improvement was supported by sound policies, a more favorable global environment, and debt relief. In turn, LICs with stronger precrisis buffers made greater use of countercyclical fiscal policy in 2009.
Sharply higher IMF support also helped LICs to navigate the crisis. The IMF has committed about US$5 billion to LICs in concessional financial support since the beginning of 2009, roughly four times the historical average, in addition to the global Special Drawing Right (SDR) allocation. This has reduced liquidity constraints and catalyzed donor support, helping countries supported by an IMF program to boost spending, which increased more than in non-program countries.
Looking ahead, LICs’ growth is expected to rebound quickly, driven in part by global recovery prospects, but risks are on the downside. LICs’ economic recovery is expected to be faster and more aligned with the rest of the world than in previous crises, reflecting greater trade and financial integration and more robust domestic policies. However, there are important regional differences, with LICs in Latin America, the Caribbean, Middle East, and Central Asia expected to recover more slowly than those in Asia and sub-Saharan Africa. The key downside risk to this favorable outlook is a slower-than-expected recovery in the rest of the world.
LICs are poised to emerge from the crisis with somewhat less comfortable buffers, but are expected to improve their macroeconomic positions over the medium term. During the crisis fiscal and current account deficits widened significantly, while inflation declined, reserves held up well (partly reflecting the IMF’s SDR allocation), and debt increased much less than in richer countries. Under baseline projections, most countries are expected to realign their fiscal and current account positions, partly through the cyclical rebound in exports and revenues. Median real spending is projected to grow by 4.6 percent annually through 2015. A downside scenario of lower world growth suggests that most LICs are moderately vulnerable to another global shock. However, risks differ significantly across countries.
A country’s exposure to potential future volatility is an important factor in determining the appropriate macroeconomic policy mix during the recovery phase. In particular:
Almost half of LICs could absorb another shock with limited or no need for adjustment—some countries would even have scope to expand spending and absorption more rapidly.
The other half of LICs would face significant vulnerabilities in the event of another sizeable shock. To address this risk, some countries may need to focus on fiscal realignment and others on monetary and exchange rate policy, depending on the nature of the vulnerabilities. A small group would face both significant external and fiscal pressures, suggesting the need for overall adjustment and additional concessional support.
Inflation appears mostly benign for now, at single digits, suggesting that monetary policy could be accommodative. However, risks to future food and fuel prices are on the upside, and policymakers should be prepared to act against possible second-round effects on inflation should another global price shock occur.
Across regions, LICs in Latin America and the Caribbean stand out as comparatively vulnerable, with less favorable prospects for growth and weaker policy buffers, suggesting the need to step up the rebuilding of buffers and growth-oriented reforms.
Many LICs with fixed exchange rate regimes could benefit from somewhat faster consolidation to rebuild reserves. Conversely, some LICs with floating rates appear to have built more than adequate reserves and could raise spending and absorption.
A key challenge is how to rebuild the policy buffers in a way that reinforces efforts to implement growth-enhancing and poverty-reducing reforms. Policy priorities for many LICs include the need to (i) strengthen domestic revenues beyond the cyclical rebound to help create fiscal space while preserving debt sustainability; (ii) continue to increase real spending with a focus on social sectors and infrastructure investment, while improving the efficiency of spending; (iii) balance the use of external nonconcessional financing against expanded use of domestic financing and measures to boost domestic savings, supported by developing well-regulated domestic financial sectors and sound debt management frameworks; and (iv) advance structural reforms, in particular those to sustain economic growth in a more volatile and integrated environment. In the process of rebuilding their policy buffers, additional donor support will be an important ingredient for many LICs.