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Public Information Notice: IMF Executive Board Approves the Establishment of Policy Support Instruments for Aiding Low-Income Countries
October 14, 2005

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05/01
Strengthening the IMF's Support for Low-Income Countries
By IMF Staff

September 2005

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  1. The IMF's Role in Low-Income Member Countries
  2. Reviewing the Poverty Reduction Strategy Framework
  3. The Poverty Reduction and Growth Facility
  4. Protecting Against Exogenous Shocks
  5. Policy Support and Signaling
  6. PRGF Financing Needs
  7. Debt Relief and Debt Sustainability

For some time, the IMF has been considering a number of actions that it could take to serve its low-income members better. The importance of the Fund's efforts was underscored in the  recently completed review of its Medium-Term Strategy. It has undertaken a thorough reassessment of its engagement with low-income countries, focusing on making its lending and advisory facilities more responsive to the particular needs of low-income countries, and on better defining how it engages with country authorities, civil society, and other development partners.

The IMF's Role in Low-Income Member Countries

The September 2005 UN Summit on Implementing the Millennium Declaration drew global attention to the need for bold action to achieve the Millennium Development Goals (MDGs).
The International Monetary Fund (IMF) is one of many agencies—national and international—collectively working to bring the MDGs to fruition. The IMF's main contribution to this effort is in promoting macroeconomic and financial stability—a crucial prerequisite for poverty reduction and economic growth.

The IMF has been reflecting on the adequacy of its instruments for engaging its low-income members, a process that is nearing conclusion. This review has resulted in the following proposals:

  • that the Poverty Reduction and Growth Facility (PRGF) will remain the main instrument for assisting low-income members;
  • that a new window in the PRGF Trust would be created, whose aim would be to help low-income members facing exogenous shocks; and
  • that a new non-financial mechanism, the Policy Support Instrument (PSI) would be established, with a view to improving the way in which the Fund supports and signals sound policies.

Also relevant to this reflection on its support to low-income countries, the IMF is reviewing its role in the Poverty Reduction Strategy (PRS) process, and has recently reviewed the design of PRGF-supported programs.

Reviewing the Poverty Reduction Strategy Framework

The IMF is working closely with other development partners to ensure that the PRS framework provides an effective tool for expanding country efforts to foster growth, poverty reduction, and progress towards the MDGs. To translate this commitment into its work practices, and thus make engagement more effective, the Fund is reviewing its role in the PRS process and the interaction of this role with the financial facilities and other forms of interaction with low-income countries. A key priority is to embed the PRS process into existing decision-making processes and systems, including the annual budget, and to align PRSs with programs supported under the PRGF as well as Fund-supported efforts for signaling and debt relief.

The 2005 review of the PRS approach—Balancing Accountability and Scaling Up Results—showed that the PRS approach has helped put poverty reduction at the center of the public policy debate. The elaboration and implementation of PRSPs was associated with improvement in some socio-economic indicators in low-income countries, especially in Africa; higher social expenditures; and better public resource management, transparency and accountability, especially among Heavily Indebted Poor Countries (HIPCs).

Looking forward, the review found that the PRS approach could and should continue to be the operational framework for expanding efforts to meet the MDGs, and for translating mutual accountability of country authorities and development partners into concrete development plans at the country level.

For the IMF, helping low-income countries manage the macroeconomic impacts of scaled-up aid, and addressing human and physical capital and institutional constraints to the effective use of donor support is a priority. The Fund will step up capacity-building efforts to help countries integrate the PRS into existing domestic decision-making processes.

The Poverty Reduction and Growth Facility

The Poverty Reduction and Growth Facility (PRGF) remains the IMF's main facility for assisting low-income countries. Established in September 1999, the aim of the PRGF was, and continues to be, to make poverty reduction and growth more central to the Fund's lending operations in its poorest member countries. PRGFs are framed around comprehensive, country-owned PRSPs. In order to continue the provision of effective support for low-income members' efforts to improve macroeconomic stability, achieve sustainable growth and reduce poverty, the Fund realizes that it must adapt to the evolving needs of its members.

The Fund recently completed its review of the design of PRGF-supported programs among the more economically stable low-income members, or “mature stabilizers.”  It found that while many low-income countries still need significant macroeconomic adjustment, many others have achieved broad macroeconomic stability and sustained growth, often with its support.

The recent review confirmed the importance of macroeconomic stability and openness for sustained growth. It highlighted the central roles of private investment and exports, and also focused attention on the importance of sound institutions. It also examined how fiscal space could be created for urgent spending needs, beyond what can be achieved through a better allocation of existing resources. A key finding concerns the importance of well-coordinated fiscal and monetary policies in managing higher inflows of foreign aid. As regards monetary policy, the study found support for targeting single-digit inflation rates, but some room for looser monetary targets reflecting financial deepening.

Protecting Against Exogenous Shocks

The IMF's Executive Board has agreed in principle to the creation of a new facility as part of the PRGF Trust for low-income members that face exogenous shocks. This facility will provide concessional support to low-income members without a PRGF arrangement. It will also serve as a potential safety net for countries that wish to exit from continuous PRGF program engagement. This facility complements existing facilities available to assist low-income countries facing shocks, such as augmentations of PRGF access; the Compensatory Financing Facility; subsidized emergency assistance for natural disasters and post conflict cases; the use of credit tranche resources; and the Trade Integration Mechanism, in the case of  balance of payments shortfalls from multilateral trade liberalization.

Policy Support and Signaling

The Fund has been working on specific proposals on policy support and signaling in low-income countries, and a new non-financial mechanism known as the Policy Support Instrument (PSI), which will soon be operational. In agreeing to create this facility, the Executive Board concluded that the Fund's regular facilities for low-income countries could not fully meet these countries' need for facilities that provide support, monitoring, and endorsement of policies by the Fund.

The PSI will be an important addition to the range of facilities from which low-income countries can choose their desired form of engagement with the IMF. This facility would be available on a purely voluntary basis to PRGF-eligible members that desire an IMF endorsement of their policies, but which do not necessarily want or need the IMF's financial assistance. These would also be countries that have appropriate and effective poverty reduction strategies and policy frameworks in place. In addition to supporting countries in their design of policies, the PSI would provide a “signal” about the quality of those policies to donors, the business community, and others.

The PSI will expect countries to design policies that meet the standard of upper credit tranche conditionality. The Fund's Executive Board will carry out regular semiannual reviews of a PSI-endorsed program. This will enable the Fund to make a multidimensional assessment of policies, and determine whether the program, as a whole, is on track. Publication of PSI-related documents will be voluntary but presumed.

PRGF Financing Needs

In order to maintain adequate capacity of the PRGF facility to meet future needs, work is underway on estimating the demand for PRGF financing over the medium term. This will take into account the implications of debt relief, and the introduction of the PSI and the shocks window, as well as options for increasing PRGF lending capacity. The IMF's Executive Board has emphasized the close linkages between the financing of the Fund's concessional lending operations and further debt relief, and agreed that the institution needs to be adequately equipped to meet future financing demands associated with its role in supporting low-income countries. The Board has also underscored that additional financing for the proposed shocks window should be secured from donors, as needed.

Debt Relief and Debt Sustainability

There has been considerable progress in implementing the enhanced HIPC Initiative.

In total, 18 countries have reached their completion point, and 10 countries are in the interim phase. In addition, in the recently completed review of the initiative, a preliminary list has been drawn up of 13 further eligible countries. This list includes those that qualified after the IMF and World Bank Boards agreed in 2004 to extend possible eligibility for the initiative to 2006 to allow more countries to benefit from HIPC debt relief.
The IMF's Executive Board has discussed the G-8 proposal for further debt relief for Heavily Indebted Poor Countries, and is considering ways to implement it, focusing primarily on questions of evenhandedness, conditionality, and financing. There is a consensus that the proposal could go a long way toward eliminating the external debt burden of a number of the world's poorest countries, thereby freeing resources for achieving faster progress towards the MDGs.

The IMF's Executive Board has emphasized the importance of protecting the Fund's balance sheet and income position, and not impairing its future lending capacity for low-income members. In this regard, it has welcomed the G-8's commitments to provide additional resources to meet various needs. Fund staff are considering details of the proposal's implementation.

Given that the Executive Board has not yet made a decision on the implementation modalities of the G-8 proposal, the IMF will continue to operate under existing policies and procedures until decisions to change or modify these policies are taken by the required majorities.

To preserve the potential benefits of debt relief in the longer term, especially in light of many low-income countries' ongoing financing needs, it will remain critical to help countries avoid excessive borrowing. This is the purpose of the new Debt Sustainability Framework (DSF) for low income-countries that the Executive Boards of the IMF and the World Bank adopted earlier in 2005. It is meant to help low-income countries avoid excessive build-up of debt in their pursuit of the MDGs.




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