Is Fiscal Adjustment More Durable When The IMF is Involved? 1
Summary (4 min read)
INTRODUCTION
- This paper examines post-programme fiscal developments in countries with and without an IMF-supported programme.
- In nonprogramme countries, revenue increased modestly and expenditure declined sharply, while in programme countries both revenue and expenditure declined during the post-programme period.
- Second, the authors describe the techniques used in their estimations.
IMF PROGRAMMES AND FISCAL DEVELOPMENTS
- In the literature, three different influences have been construed.
- In other words, public sector policies are essentially the same in democracies and nondemocracies (Mulligan et al., 2003).
- In contrast, Barro and Lee (2002) reported opposite results–participation in IMF-supported programme was found to lower growth and investment.
- The macroeconomic effects of IMF-supported programmes depended, on the one hand, on borrowing countries’ domestic political economy (Ivanova et al., 2003, Khan and Sharma, 2001; Boughton and Mourmouras, 2002) and, on the other hand, on the technical design of the programme or the amount of money borrowed (Schadler et al., 1995).
What is IMF conditionality?
- Conditionality is an explicit link between the approval (or continuation) of the Fund’s financing and the implementation of certain aspects of the authorities’ policy programme (Guitián, 1981).
- While most fiscal conditions were designed as neutral vis-à-vis the overall fiscal balance, some conditions were geared towards either higher revenue or lower expenditure.
- Throughout the paper, the authors used a sample of 112 countries, of which 48 countries did not have a programme during the sample period, and 31 and 33 countries had programmes without and with structural conditions, respectively.
- More conditions required for programme continuation increase the risk of missing some of them, however, missing one of them does not stop a programme.
SPECIFICATION OF THE MODEL
- Fiscal developments are affected by various exogenous and country-specific effects and, therefore, the authors re-examine them in multivariate panel and crosscountry regressions.
- The simple model above has two drawbacks.
- The estimates of f could suffer from simultaneous equation bias: participation in IMFsupported programmes depended on past policies (Conway, 1994, 2000; Przeworski and Vreeland, 2000; Barro and Lee, 2002) and an OLS regression of (1) would underestimate the true effect of Fund programmes.
- Successful programmes were defined as those that either disbursed all committed resources without interruptions or those that were designed and executed as precautionary arrangements (following the definition of programme success in Ivanova et al., 2003).
- To this end, the authors introduced a set of variables, c, into equation (3) to test the significance of fiscal structural conditionality.
SAMPLE SELECTION AND ESTIMATION
- First, using data for nonprogramme countries only, the authors estimated the policy reaction function (equation (2)) for the relevant macroeconomic variables.
- There are a few well-known exceptions, though.
- Bulgaria in 1997 insisted on a detailed specification of structural conditionality in order to avoid domestic political confrontation about the design of reforms (International Monetary Fund, 2001).
- Comparative Economic Studies parameters, the authors simulated macroeconomic policies in programme countries to reflect what those policies would have been in the absence of an IMFsupported programme.
- The authors selected the 1993–96 period because of three considerations.
The policy reaction function
- The policy reaction function determined the stance of monetary, external, and incomes policies, respectively, as a function of the pre-announced fiscal adjustment.
- The difference between this projection and the current fiscal outcome, yij( 1), then measured the fiscal disequilibrium to which the authorities reacted with changes in policy instruments in the coming year.
- Only one political economy variable was significant, indicating that if one party controlled the government, current account balance was more likely to improve and vice versa.
- AThe abbreviations stand for the following data sources, respectively: World Economic Outlook; World Development Indicators; Database of Political Institutions, Version 3.0 (World Bank, 2001); Ivanova et al. (2003); International Financial Statistics; and the Monitoring of Fund Arrangements Database.
The generalized evaluation estimator
- The authors consider three target variables (yij) measuring fiscal developments: (i) the overall central government balance; (ii) central government revenue and grants; and (iii) central government expenditure and net lending, all expressed in percent of GDP, in 64 countries that operated under IMFsupported programmes13 and 48 nonprogramme countries during 1993–96.
- AThe superscripts ***, **, and * denote the rejection of the null hypothesis that the estimated coefficient is zero at the 1, 5, and 10 percent significance levels, respectively.
- The endogenous policy variables stemmed from the policy reaction function and the exogenous variables were 2-year averages, lagged one period: the terms of trade, GDP per capita in constant US dollars, foreign aid in percent of GDP, the rate of inflation, and real GDP growth.
- The authors wanted to measure the impact of IMF-supported programmes beyond the initial, short-term impact and, hence, they considered fiscal variables 1, 2, and 3 years after the initial programme ended, with 112, 109, and 97 observations, respectively.
- First, poor fiscal discipline or a lack of programme ownership may have caused the reversal.
Results in the full sample
- In general, the authors find that cyclical variables drove the fiscal developments and that the impact of macroeconomic policy variables was comparatively small (Tables 6–8).16.
- In all cases, the robust estimators were the autoregressive terms, real GDP growth, and the real rate of interest, the stance of monetary policy being a good measure of the general tightness of macroeconomic policies.
- In some cases, the authors also found inflation, and certain conditionality variables to be significant.
- The dummy measuring programme participation was statistically insignificant, implying that past IMF-supported programmes did not make the medium-term fiscal adjustment either softer or stronger – on average, programme countries adjusted as much as nonprogramme countries.
- The only statistically significant regional dummy was the sub–Saharan Africa dummy.
The overall balance
- Several other variables were either marginally significant or significant only in some regressions.
- One of them was the aid-to-GDP ratio, indicating 16 We present both full-blown and parsimonious estimates with statistically significant variables only.the authors.
- 17 Moderate inflation was associated with improvements in the overall balance, while countries with an average annual inflation of more than 50 percent worsened their fiscal position.
- Countries with programme stoppages did worse than the average, while those without interruptions did better.
Revenue and grants
- Revenue regressions explained much less of the variance of the dependent variable (20–30 percent), even though the results were also dominated by the pre-programme revenue levels and cyclical effects (Table 7).
- The revenue-toGDP ratio worsened in countries with larger-than-average initial revenue and it was inversely related to real GDP growth.
- On the one hand, the tax burden peaked in many countries in the late 1980s and, on the other hand, fast-growing economies did not need to increase their tax-toGDP ratio, also known as Both results were intuitive.
- The aid-to-GDP ratio was positive, but statistically insignificant in all but the 1-year-after-the-programme estimates.
- 18 Some authors argued that foreign aid causes longer-term fall in revenue by breeding corruption and creating a perverse motivation for the authorities not to collect taxes (Ziegler, 1996).
Expenditure and net lending
- The variance of the expenditure-to-GDP ratio was mostly explained by preprogramme expenditure levels, the real rate of growth, and monetary policy (20–30 percent) (Table 8).
- While the size and signs of the individual coefficients were broadly unchanged compared to Tables 6–8 their statistical significance declined predictably with the loss of degrees of freedom.
- Revenue performance in sub–Saharan Africa was better than average, although not sufficiently to offset the expenditure increase.
- These results seem to suggest that countries with structural conditionality were indeed different from the other programme countries.
- Finally, post–programme fiscal performance in those countries was driven by accelerating expenditure compression, which may not be a bad thing, provided, for example, the pre–programme level of spending was wasteful or that a statist budget was replaced with a less intrusive one.
CONCLUDING REMARKS
- This paper presents empirical tests of the relevance of IMF structural conditionality for post-programme fiscal performance in a large sample of countries during the 1990s.
- The impact of IMF-supported programmes was not statistically significant, owing to the large variance in the sample of programme countries.
- In structural conditionality countries, revenue declined slightly and expenditure declined significantly.
- The authors results highlight the difficulty in identifying the impact of structural conditionality.
- First, more work is needed to examine the role of initial shocks, structural weaknesses, political economy, and regime– specific effects, such as the choice of the exchange rate regime.
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Frequently Asked Questions (13)
Q2. What future works have the authors mentioned in the paper "Is fiscal adjustment more durable when the imf is involved?" ?
The findings in this paper are not definitive and the possibilities for further research are extensive. Second, the policy reaction function can be specified differently, reflecting, for example, policies that would stabilise the debt-to-GDP ratio or that would be based on ‘ fiscal rules ’.
Q3. What were the main factors that weakened the implementation of the programme?
Regarding the former, strong special interests, political instability, inefficient bureaucracies, lack of political cohesion, and ethno-linguistic divisions weakened programme implementation.
Q4. How did the adjustment affect revenue performance after the end of the programme?
in IMF-supported programmes that included structural conditions, the adjustment was effected primarily through sharp expenditure compression in order to offset revenue declines.
Q5. o rmal ity test (f) 0.05 1.?
Fp rog ram me d u mm ya0 .01 3 8(0 .88 )0 .01 0 7(0 .67 )0 .01 8 0(0 .85 )Co n diti ona li tyva ri able sSt ruct u ral con d itio n alit y(d u mm y)b0 .04 0 7(3 .10 )0 .03 8 9(3 .19 )0 .03 6 8(3 .20 )0 .03 2 4(4 .01 )0 .06 2 0(4 .49 )0 .04 9 7(4 .12 )R 20 .45 40 .44 90 .50 50 .47 00 .31 90 .32 20 .37 10 .33 70 .44 80 .45 20 .53 40 .50 3Lo g -lik elih o o d1 7 6 .81 7 6 .31 8 2 .31 7 8 .41 6 6 .71 6 6 .91 7 1 .11 6 8 .21 4 4 .11 4 4 .61 5 2 .51 4 9 .3N u mb ero fo b serv atio n s1 1 21 1 21 1 21 1 21 0 91 0 91 0 91 0 99 79 79 79 7N o rmal ity test [w2 (2,2 )]1 6 .41 2 4 .12 9 .26 2 2 .82 2 6 .83 2 5 .54 2 3 .63 2 3 .22 2 1 .23 1 6 .34 1 8 .94 2 6 .62H eter o sced asti city test (F) 1 .36 1 .05 1 .02 1 .55 0 .52 0 .77 0 .64 0 .96 0 .72 1 .48 0 .92 0 .39
Q6. What was the effect of the structural conditionality variables on expenditure development?
The structural conditionality variables were negative and significant, suggesting relative expenditure compression in countries with a structural conditionality of 2 percentage points of GDP or more.
Q7. How much of the fiscal balance was improved in non-programme countries?
The fiscal balance improved in two-thirds of all countries by an average of 2 percentage points of GDP between the pre-programme and post-programme periods or between 1993 and 1999 for the nonprogramme countries (Figure 1 and Table 2).
Q8. What is the effect of structural conditionality on post-programme fiscal performance?
post–programme fiscal performance in those countries was driven by accelerating expenditure compression, which may not be a bad thing, provided, for example, the pre–programme level of spending was wasteful or that a statist budget was replaced with a less intrusive one.
Q9. What is the appropriate technique for evaluating IMF-supported programmes?
An appropriate technique is the general evaluation estimator (GEE), due to Goldstein and Montiel (1986), which constructs counterfactual economic policies first and then tests the importance of IMF-supported programmes.
Q10. How high was the probability of a reversal in fiscal adjustment?
15 Gupta et al. (2002) reported that the probability of a reversal in fiscal adjustment was as high as 70 percent at the end of the second post-programme year for low-income countries.
Q11. What is the likelihood of waivers being positively related to the political clout of individual?
Providing the macroeconomic programme remained on track, the missed condition would likely be waived, the likelihood of waivers being positively related to the political clout of individual countries (Bird, 2002).
Q12. How many countries improved their fiscal balances after the end of the programme?
The magnitude of the post–programme fiscal improvement was not uniform, however, and nonprogramme countries improved their fiscal balances by more than programme countries: 3 and 12 of a percentage points of GDP, respectively.
Q13. What was the median end-period observation for non-structural countries?
the nature of the initial disequilibrium differed across countries: in nonstructural programme countries, GDP declined more sharply prior to the programme and their rates of inflation and GDP per capita were higher (Table 3).