I. Introduction

1. This paper updates the outlook for the Fund’s income position for the financial year 2011 taking into account developments in the first half of the year. The outlook has improved primarily reflecting additional lending activity, which raised the projected average credit outstanding in FY 2011 by about SDR 3 billion to SDR 54 billion. Net operational income for FY 2011 is projected at SDR 328 million, some SDR 126 million higher than the projection in April 2010¹. The actual outcome is subject to considerable uncertainty related to the timing and amounts of disbursements under current and potential new arrangements and the performance of the Investment Account (IA).

2. The paper also provides the basis for the midyear review of the Fund’s income position. In April, the Executive Board agreed that the FY 2011 margin for the basic rate of charge would be 100 basis points. The margin was established on the basis of principles endorsed by the Board in March 2008 and adopted on the basis of the exceptional circumstances clause of Rule I-6(4) (see Box 1).² Under this rule, a review of the Fund’s income position at midyear is required.

3. The paper is structured as follows: Section II provides an update on the FY 2011 income position, based on the actual outturn for the first half of the financial year and projected developments in the second half of the year. Section III discusses the margin for the rate of charge and Section IV provides an update on the recent burden sharing adjustments. A draft decision for the midyear review then follows.

II. Updated FY 2011 Income Position

4. Net operational income for FY 2011 is projected at about SDR 328 million, compared with SDR 202 million at the beginning of the financial year (see Table 1). Key factors that affect the updated projections are the following:

• Lending income. New arrangements approved after April 2010 have raised projected lending income by some SDR 102 million from the level projected at the beginning of the financial year.³ This increase comprises about SDR 74 million in service charges and commitment fees, and SDR 28 million from the margin on the rate of charge.

• Investment returns. The Investment Account (IA) net returns in the six months through October 2010 amounted to SDR 60 million, about 80 percent of the initial full year projection of SDR 74 million. Overall, the IA returned 99 basis points (bps) to end-October (net of fees), exceeding the 3-month SDR interest rate by 84 bps (unannualized). The IA benefited from market concerns on the strength of the global economic recovery which pushed yields of high-rated government bonds lower. The updated IA income projection for FY 2011 is SDR 87 million, some SDR 13 million higher than the initial projection. Consistent with past practice, the updated projection takes account of actual performance in the first half of the financial year and assumes the IA earns 50 basis points over the SDR interest rate during the second half.⁴

• Implicit returns on interest-free resources. The implicit income on interest-free resources is projected to be lower by some SDR 23 million mainly as a result of the current low interest rate environment. The average SDR interest rate for FY 2011 is now projected at 0.40 percent (previously 0.70 percent).^{5 6}

• Expenditures. Expenditures are projected to be about SDR 34 million below the initial projection, principally reflecting lower-than-planned staffing levels.

Table 1.

Projected Income Position—FY 2011

(In millions of SDRs)

Table 1.

Projected Income Position—FY 2011

(In millions of SDRs)

Net operational income projected in April 2010			202
Income variances			92
	Changes due to:
		New lending activity	102
		Investment Account returns	13
		Income from interest-free resources	-23
Expenditure variance			34
Updated net operational income			328

View Table

Table 1.

Projected Income Position—FY 2011

(In millions of SDRs)

Net operational income projected in April 2010			202
Income variances			92
	Changes due to:
		New lending activity	102
		Investment Account returns	13
		Income from interest-free resources	-23
Expenditure variance			34
Updated net operational income			328

5. Table 2 provides updated projections for FY 2011 and the outturn for the first half of the year.⁷ The projections do not include any provision for potential purchases under (i) arrangements not yet approved since the timing and amounts involved for these are uncertain or (ii) existing or potential precautionary arrangements.⁸ Repurchases of outstanding Fund credit, and disbursements under arrangements already approved, are assumed to take place as scheduled (see Annex 2).

Table 2.

Projected Income and Expenditures

(In millions of SDRs)

^1/See Review of the Fund’s Income Position for FY 2010 and FY 2011.

^2/The updated projections take account of arrangements approved through end-November 2010.

^3/Includes commitment fees, which are refundable (when disbursements take place) so income arises only if planned disbursements are not made.

Table 2.

Projected Income and Expenditures

(In millions of SDRs)

			FY 2011
			Actual to end-Oct 2010	Initial Projections1/	Updated Projections2/
Operational income			454	872	964
	Lending income		378	734	836
		Margin for the rate of charge	244	515	543
		Service charges3/	134	219	293
	Investment income		60	74	87
	Interest free resources		14	60	37
		SCA-1 and other	11	45	27
		Gold book value	3	15	10
	Reimbursements		2	4	4
		MDRI-I Trust and SDR Department	2	4	4
		PRGT	0	0	0
B.Expenses			333	670	636
	Net administrative expenditures		317	631	597
	Capital budget items expensed		2	7	7
	Depreciation		14	32	32
C. Net operational income position (A-B)			121	202	328
Memorandum Items:
	Fund credit (average stock, SDR billions)		48.3	51.5	54.3
	Surcharges		219	499	528
	SDR interest rate (in percent)		0.3	0.7	0.4
	US$/SDR exchange rate		1.5	1.5	1.5

^1/See Review of the Fund’s Income Position for FY 2010 and FY 2011.

^2/The updated projections take account of arrangements approved through end-November 2010.

^3/Includes commitment fees, which are refundable (when disbursements take place) so income arises only if planned disbursements are not made.

View Table

Table 2.

Projected Income and Expenditures

(In millions of SDRs)

			FY 2011
			Actual to end-Oct 2010	Initial Projections1/	Updated Projections2/
Operational income			454	872	964
	Lending income		378	734	836
		Margin for the rate of charge	244	515	543
		Service charges3/	134	219	293
	Investment income		60	74	87
	Interest free resources		14	60	37
		SCA-1 and other	11	45	27
		Gold book value	3	15	10
	Reimbursements		2	4	4
		MDRI-I Trust and SDR Department	2	4	4
		PRGT	0	0	0
B.Expenses			333	670	636
	Net administrative expenditures		317	631	597
	Capital budget items expensed		2	7	7
	Depreciation		14	32	32
C. Net operational income position (A-B)			121	202	328
Memorandum Items:
	Fund credit (average stock, SDR billions)		48.3	51.5	54.3
	Surcharges		219	499	528
	SDR interest rate (in percent)		0.3	0.7	0.4
	US$/SDR exchange rate		1.5	1.5	1.5

^1/See Review of the Fund’s Income Position for FY 2010 and FY 2011.

^2/The updated projections take account of arrangements approved through end-November 2010.

^3/Includes commitment fees, which are refundable (when disbursements take place) so income arises only if planned disbursements are not made.

6. At the April income discussion, the Board decided to resume the practice of placing surcharges to reserves in FY 2011.⁹ The projections in April showed a positive net operational income position, excluding surcharges, thus allowing a resumption of this practice. The updated net operational income projection remains positive and therefore, on this basis, at the end of FY 2011 surcharges would be placed in the General Reserve allowing for additional buildup of the Fund’s precautionary balances. The projected surcharges of SDR 528 million for FY 2011 are some SDR 30 million higher than previously estimated owing to the new approved arrangements since April (see paragraph 4).

7. Restructuring costs amounting to about SDR 11 million in the first half of FY 2011 were charged against the restructuring provision (see Annex 1). The provision was established in FY 2008, in the amount of SDR 68 million charged against income for that year, for costs for which no rendered services were expected (e.g., the modified SBF payments under the voluntary separation plan).¹⁰ Other restructuring costs incurred in the first half of the year, e.g., salaries during the delay period, were less than SDR 1 million.

8. Overall, on the basis of the updated projections, precautionary balances are expected to increase to about SDR 8.2 billion at the end of FY 2011. At the end of FY 2010, precautionary balances stood at SDR 7.3 billion. The updated projections point to an increase of some SDR 0.9 billion, primarily reflecting the net operational income and the surcharges (Table 2).¹¹ At the recent review of the Fund’s precautionary balances, Directors supported setting a minimum floor (a proposed initial floor of SDR 10 billion) for precautionary balances to protect against an unexpected rise in credit risks and to ensure a sustainable income position. Most Directors considered it prudent to raise the indicative target for precautionary balances to SDR 15 billion over the medium-term. The projected net income from lending in FY 2011 will help build precautionary balances toward these levels. The forthcoming paper on the consolidated income and expenditure framework, scheduled for discussion in January 2011, will provide a more detailed discussion of the medium-term projection, including the projected buildup of precautionary balances.

III. FY 2011 Midyear Review

9. As discussed above, the Board adopted a margin for calculating the basic rate of charge for FY 2011 of 100 basis points under the exceptional circumstances clause of Rule I-6(4). Under this rule, the Board is to review at midyear any change in the exceptional circumstances and decide whether the margin over the SDR interest rate determined at the beginning of the year shall be changed in light of the actual income position for the first six months of the financial year. Staff considers that the exceptional circumstances under which the margin may be set on a basis other than the estimated income and expenses for the year still exist. Accordingly, no change in the margin is proposed.

IV. Burden Sharing Mechanism

10. Burden sharing adjustments in FY 2011 have remained low (see Table 3 below). At the mid-year review last year, the burden sharing decision was amended to take account of the low burden sharing adjustments in the prevailing high lending, and low interest rate, environment and allow for no adjustments in quarters where the minimum adjustment of 1 basis point to the rate of charge and the rate of remuneration in the previous quarter(s) had generated sufficient excess amounts to offset deferred charges in the subsequent quarter(s).¹² For example, in the last quarter of FY 2010 and the first quarter of FY 2011, the amounts generated in previous quarters were sufficient to fully cover the deferred charges in those quarters, while the adjustments in the second quarter of FY 2011 amounted to one basis point. Projections for the second half of FY 2011 indicate similar levels of burden sharing adjustments.

Table 3.

Recent Average Burden Sharing Rates and FY 2011 Quarterly Rates

(In basis points unless otherwise stated)

^1/The average rates have been calculated using the quarterly burden sharing rates and SDR interest rates.

^2/The SDR interest rates are projected to average 0.4 percent in FY 2011.

Table 3.

Recent Average Burden Sharing Rates and FY 2011 Quarterly Rates

(In basis points unless otherwise stated)

		FY04	FY05	FY06	FY07	FY08	FY09	FY10	FY11
									Q1	Q2	Q3	Q4
									(projected)
Rate of Remuneration1/
	Total average adjustment	9	12	23	23	14	3	1	–	1	–	1
	Deferred charges	1	2	5	13	14	3	1	–	1	–	1
	SCA-1	8	10	18	10	–	–	–	–	–	–	–
Rate of Charge1/
	Total average adjustment	8	11	19	23	16	3	1	–	1	–	1
	Deferred charges	1	2	4	13	16	3	1	–	1	–	1
	SCA-1	7	9	15	10	–	–	–	–	–	–	–
Average SDR interest rate (in percent)2		1.58	2.09	2.93	3.96	3.64	1.79	0.29	0.27	0.33	0.40	0.51
Average basic rate of charge (in percent)		2.09	3.01	4.00	5.04	4.72	2.79	1.29	1.27	1.33	1.40	1.51

^1/The average rates have been calculated using the quarterly burden sharing rates and SDR interest rates.

^2/The SDR interest rates are projected to average 0.4 percent in FY 2011.

View Table

Table 3.

Recent Average Burden Sharing Rates and FY 2011 Quarterly Rates

(In basis points unless otherwise stated)

		FY04	FY05	FY06	FY07	FY08	FY09	FY10	FY11
									Q1	Q2	Q3	Q4
									(projected)
Rate of Remuneration1/
	Total average adjustment	9	12	23	23	14	3	1	–	1	–	1
	Deferred charges	1	2	5	13	14	3	1	–	1	–	1
	SCA-1	8	10	18	10	–	–	–	–	–	–	–
Rate of Charge1/
	Total average adjustment	8	11	19	23	16	3	1	–	1	–	1
	Deferred charges	1	2	4	13	16	3	1	–	1	–	1
	SCA-1	7	9	15	10	–	–	–	–	–	–	–
Average SDR interest rate (in percent)2		1.58	2.09	2.93	3.96	3.64	1.79	0.29	0.27	0.33	0.40	0.51
Average basic rate of charge (in percent)		2.09	3.01	4.00	5.04	4.72	2.79	1.29	1.27	1.33	1.40	1.51

^1/The average rates have been calculated using the quarterly burden sharing rates and SDR interest rates.

^2/The SDR interest rates are projected to average 0.4 percent in FY 2011.

Proposed Decision

The following decision is proposed for adoption by the Executive Board and may be adopted with a majority of the votes cast.

Decision

Pursuant to Rule I-6(4)(b)(ii) of the Fund’s Rules and Regulations, the Fund has conducted the midyear review of its income position for FY 2011 and decidesto leave unchanged the rate of charge established by Decision No. 14604-(10/41)—adopted April 28, 2010.