Comments on the IMF staff’s review of conditionality

5 April 2001 | Briefings

By Angela Wood, Bretton Woods Project

April 2001

Bretton Woods Project welcomes this review. In particular, we support the decision to apply less conditionality in programmes, although we note with concern that conditionality in some of the Poverty Reduction and Growth Facility programmes has increased. We support the intention to encourage greater country ownership of the reform process and believe that widespread involvement in policy decision making is the key to sustainable and appropriate reforms.

Bretton Woods Project also welcomes the Board and staff’s desire to consider comments from outside observers. We would like to suggest that to facilitate this process it will be helpful if all submissions are made available on the IMF‘s website and that the staff and/or Board should publish a paper responding to the generic comments made in these. In particular it will be helpful if the paper could clarify which of these have been adopted or will be given further consideration and explain why others will not be.

Whilst welcoming the review, Bretton Woods Project is concerned that the analysis has stopped short of considering some essential aspects and we appreciate this opportunity to present them to the Executive Board.

The roles of the IMF and its policy advice also need to be considered

Whilst it is important to review the areas in which the IMF will apply its conditionality, this is only one element of the IMF‘s involvement in member countries. It also has significant involvement through its surveillance, policy advice and technical assistance functions.

Whilst streamlining conditionality may help to ensure programmes are better implemented it does not necessarily mean that the IMF is disengaging from areas which are not core to its remit. Indeed, the staff have indicated that whilst micromanagement of the reform process through structural benchmarks will be cut back technical assistance will increase. Thus it seems somewhat illusory that the IMF is refocusing itself unless it is prepared to streamline its activities in these areas too. To rectify this the Board should provide guidelines to staff clarifying which areas their engagement, particularly technical assistance, should be limited to.

The IMF has significantly increased its surveillance function in the last few years as it has shifted into devising and monitoring various codes and standards. It is vital to ensure that these remain voluntary and do not become an explicit or implicit element of conditionality, we welcome the Board’s reiteration of this principle.

This is particularly important at the current time when developing countries are not engaged in the institutions in which these are devised and discussed. Developing countries are particularly sensitive to the fact that these codes and standards are designed for highly developed markets and institutions and are not appropriate for their own current state of development.

In addition, implementing codes and standards places a very considerable burden on developing countries in terms of resources and administrative capacity. Thus, a focus on these may limit the ability to implement reforms in other key areas. We are particularly concerned that this may be the case in the poorest countries where policies and actions to support poverty reduction initiatives should be the priority.

Coherence between review initiatives

It is a significant oversight that the review of the IMF‘s involvement in governance issues has not been explicitly linked to the review of structural conditionality. As the paper Review of the Fund’s Experience with Governance Issues notes, governance conditionality has increased significantly in the past few years.

Whilst some areas of governance, such as budget management, clearly are related to the IMF‘s core expertise, others, such as labour sector reforms, which have significant social costs and are extremely political in nature, are clearly outside the Fund’s remit. Especially, given that other institutions exist to deal with labour issues. It is totally inappropriate that the IMF tries to de-politicise such reforms by making them a condition of its lending. Moreover, given the conflict they cause, it suggests that their inclusion in programmes is more likely to cause them to breakdown or be resisted.

We do not agree with the Review of the Fund’s Experience in Governance Issues, that the current broad, pragmatic approach should continue as it is our belief that the IMF has overstretched itself in this area as the review confirms: “the Fund has developed and applied its instruments for promoting good governance to an extent well beyond what was envisaged at the time of the GN [Guidance Note]”.

Thus it should be a priority to revise the 1997 Guidance Note to make more explicit in which areas IMF staff should advise governments and those that should be left to other institutions.

Make the rationale for structural conditions explicit

Whilst it may be difficult to define ex ante all cases in which structural reforms are relevant to the macroeconomic situation, the rationale for their inclusion on a case by case basis should be made explicit and public.

Bretton Woods Project understands that staff have agreed to make “real time” assessments of the rationale for structural reforms for the Board. However, these are not expected to be made public. To build confidence and understanding in the IMF‘s advice, it is important that stakeholders outside the IMF can also see the rationale for inclusion of structural reforms. This could perhaps be made public in the Letter of Intent alongside the list of IMF performance criteria. Alternatively, and perhaps more appropriately, the staff report and lending documents in which the conditions and rationale are detailed should be publicly disclosed.

In addition, the IMF‘s objectives, particularly in low income countries are wider than just macroeconomic stabilisation. It is equally important that staff also explain in Letters of Intent (or the PRGF document which should be publicly disclosed) how they expect structural and macroeconomic conditions will impact on poverty reduction and growth objectives.

Appropriateness of reforms

Whilst the review considers the number and types of conditionality, it fails to consider the nature or content of policy reforms.

As the IMF has increased its span of objectives the breadth of reforms have increased from first generation to second generation and beyond. However, reviews of programme outcomes, although given a positive spin by the staff, have, on closer inspection, shown very poor results.

In the case of the 1997 staff evaluation of ESAF, the results indicated that the core objectives – balance of payments stability and growth – were not achieved (although there was a limited increase in growth rates this was not sufficient to reduce poverty levels); moreover, indebtedness increased. In Sub-Saharan Africa both poverty and inequality increased, and in Latin America inequality increased, implying that future growth rates will have to be even greater to achieve targeted levels of poverty reduction.

Given this evidence, it is indefensible that the staff continue to apply and advise the same reforms. The staff should be required to undertake a full review of their policy advice to determine the impacts it has had on poverty levels. It is essential that staff understand the micro impacts of the macroeconomic and structural reforms that they advocate. We appreciate that the staff are taking steps to do so and we hope the Board will publicly support this as a priority for IMF research.

When collaboration is not possible

Given that staff admit that they do not always have the necessary expertise, it is extremely worrying that they propose to continue including structural reforms in programmes when other institutions are not in a position to collaborate even if, as the staff paper suggests, there is informal consultation between them.

A clear example of hasty structural reforms, which worsened the situation and impacted on recovery, was the restructuring of banks in Indonesia in the immediate aftermath of the financial crisis. Whilst in some cases delaying reforms may also delay stabilisation, a worse scenario is the potential for hasty and mis-judged reforms to have a significantly negative impact on an economy.

We urge the Executive Board to make it clear to staff that in such situations they should not proceed with reforms (advise governments or impose conditionality) until a time when partner institutions are ready to proceed. In these cases further consideration should be given to appropriate sequencing and timing of related reforms.

The type of conditionality applied is important

Bretton Woods Project welcomes the commitment to limit the number of conditions in programmes. However, the type of condition imposed is also important. We are concerned that the staff may make increased use of prior actions.

As the review recognises, it is clear that conditionality to induce policy reforms only works in limited situations. Thus the emphasis is now on ownership. Whilst the use of prior actions may appear to signal ownership, it does not necessarily do so. It is a particularly unsubtle form of inducement. Prior actions are a particularly harsh form of conditionality, since actions must be taken before money is provided, which can assist their smooth implementation or ameliorate their negative impacts.

Moreover, the use of prior actions does not signal that staff have faith in a government’s intentions, this could lead to negative dynamics in the staff-government relationship. Thus they should be used, if at all, in very limited circumstances. These should be defined clearly by the Board.

Ownership and results based conditionality

If the intention is to move towards an “ownership” approach, then ultimately it should be envisaged that the IMF will impose minimal conditionality – perhaps just in relation to budget management and government transparency – and that disbursements will be made on a pre-agreed basis, preferably in accordance with the budget-cycle.

Whilst this ideal may be some time off, Bretton Woods Project believes that it is essential that further consideration be given to “outcomes” or “ex post” conditionality as a concrete step towards embracing the “ownership” approach. Outcome conditionality sends positive signals to governments that they are in control of the policy formulation and implementation process, which is an essential aspect of ownership and successful reform.

Staff have argued that outcome conditionality is not practical because it is difficult to determine clearly on what basis loan tranches could be released. Bretton Woods Project does not consider that this argument is sufficient to reject outcome conditionality.

Naturally outcomes conditionality will require staff to use their judgement, particularly if objectives have not been achieved, but it is already the case that staff must make judgements when they grant waivers. Moreover, linking lending to objectives is more appropriate in terms of providing the appropriate incentives to both governments and staff. It should not be overly problematic to base a decision to continue funding on visible actions the government has taken to implement reforms and/or to assess ex ante how these will feed through and impact on the economy with regard to the agreed objectives. As is already the case, these judgements will need to be made in discussion with the government (not just the finance ministry). To ensure consistency and impartiality on the part of staff it will be important to make the rationale for decisions public.

With outcomes conditionality regular staff monitoring will be helpful to ensure reforms do not have unintended negative consequences and to reassure the Executive Board. Although, care should be taken to ensure that monitoring mechanisms do not impose additional burdens on government capacity.

Impact assessments and monitoring outcomes

Staff are likely to develop tools for assessing the impact of programmes in relation to key objectives for PRGF programmes. We welcome these steps and urge that impact assessments should become a required element of the programme formulation process for all countries.

However, the assessment process must be a continuous one in order to adjust programmes if they appear to be going off target. Since staff monitoring documents are not publicly disclosed, it is unknown if staff monitor whether programme objectives are achieved in addition to the implementation of conditions. The perception is that their priority is to monitor implementation of conditions. Obviously this is inappropriate as conditions are simply tools.

Staff monitoring reports which go to the Board should be made public. And processes must be established to effectively reformulate programmes as necessary.

Participation and transparency

We welcome the decision to clarify in programme documents which aspects of the Letter of Intent are conditional for IMF assistance.

National ownership and IMF accountability will also be assisted by releasing programme documents (ie the Letter of Intent) in draft form, prior to government and board approval. It is particularly important that those engaged in the PRSP process are able to determine that PRGF funded programmes are compatible with and based on the PRSP. Whilst this can be assessed once a Letter of Intent has been approved by the Board and made public, by this stage, it is too late for parliaments or civil society to affect the programme should it be found that there is inconsitency.