## Macroeconomic Developments and Prospects in LIDCs—2016

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### Executive summary — Macroeconomic developments and outlook
- Overarching theme: incomplete adjustment to the new world of “lower for long” commodity prices; many commodity exporters remain far from a sustainable macroeconomic trajectory.
- Three country-group narratives:
  - Fuel exporters:
    - Group average output growth: 5.7 percent in 2014 → -1.6 percent by 2016.
    - Fiscal deficits: risen sharply to unsustainable levels.
    - Foreign reserves: being depleted, most markedly in countries with exchange rate pegs.
    - Policy implication: painful budgetary adjustments required; borrowing room shrinking.
  - Non-fuel commodity exporters:
    - Average growth: 5.3 percent in 2014 → 3.8 percent in 2016.
    - Fiscal deficits: averaged 2.3 percent in 2014 → 3.5 percent in 2016.
    - Public debt: eased upwards; reserve coverage below three months of imports in over half of countries.
    - Policy implication: adjustments needed; manageable in most cases; a few require comprehensive adjustment programs.
  - Diversified exporters:
    - Growth: running at 6 percent or above in many countries.
    - Fiscal deficits: averaged 4.6 percent of GDP in 2016 and drifting upward.
    - Public debt: rising steadily from already elevated levels; need to raise public savings, contain debt accumulation, and rebuild buffers.
- Common patterns:
  - Commodity exporters, notably fuel producers, face sluggish growth, large fiscal imbalances, and weakened foreign reserve positions.
  - Some diversified exporters affected by declines in remittances, conflict/natural disasters, and contractionary impacts of stabilization programs.
  - Financial sector stresses have emerged in many LIDCs and are expected to increase in many commodity exporters over the next 12–18 months.

### Persistent high vulnerabilities and financial sector stress
- Econometric and vulnerability findings:
  - High macroeconomic vulnerabilities among two-thirds of commodity exporters; less than one-quarter of diversified exporters assessed high risk.
  - One-quarter of LIDCs assessed to be at high risk of, or in, external debt distress.
- Financial sector developments:
  - Financial sector stresses materialized in about one-fifth of LIDCs.
  - More than half of commodity exporters face an elevated risk of financial sector stress over the next 18 months.
  - Bank failures and supervisory interventions have risen since 2014; one systemic financial crisis reported.
- Contributing fiscal factors:
  - Public sector arrears damaging corporates; falling government deposits squeezing liquidity.
- Supervisory weaknesses identified by IMF TA:
  - Lack of supervisory independence and powers.
  - Under-resourcing of supervision.
  - Insufficient oversight of banks’ risk management and governance frameworks.
  - Weak enforcement efforts.
- Fiscal risks and management priorities:
  - Fiscal risks: high revenue volatility; poorly monitored contingent liabilities (SOEs, PPPs).
  - Fiscal risk management needs: identifying/assessing risks; containing risks; improving monitoring and reporting.

### Infrastructure investment — progress, financing, and policy challenges
- Role and trends:
  - Infrastructure investment central to national development strategies and the 2030 Development Agenda.
  - Public investment generally increased over last 15 years, but deficiencies remain severe.
  - Except for telecoms, infrastructure services primarily public-provided; PPPs concentrated mainly in energy.
  - Grants and concessional loans from development partners are essential and stable; external syndicated loans complemented these in a few countries but lending volume has fallen.
- Key metrics and stylized facts (preserved):
  - Infrastructure gaps estimated at $1 to $1.5 trillion per year.
  - Median public investment in LIDCs: 5.5 percent in 2000 → 6.7 percent in 2007.
  - Internet servers: average of six servers per million people in 2015 (from near zero in 2000).
  - Electricity generation per capita: increased by 57 percent on average (2000–2015).
  - Access to improved water and sanitation: rose on average by around 20 percent from 2000 to 2014.
  - Mobile phone penetration: 72 phones per 100 people in 2014 in LIDCs (vs. 118 per 100 people in EMs).
  - Sample for public investment analysis: 47 LIDCs.
  - Ethiopia examples: public investment 14 percent of GDP in FY2008/09 → 18 percent in FY2015/16; external borrowing averaged 5.7 percent of GDP per year over FY2009/10–2014/15; domestic and external public debt 24 and 30 percent of GDP in FY2015/16; total debt projected to peak at 61 percent of GDP in FY2017/18.
- Financing composition (2013–2014 averages):
  - Grants and concessional loans averaged 88 percent of Official Development Finance (ODF) for LIDCs.
  - ODF in 2014: nearly $17 billion in project finance from MDBs and OECD members.
  - ODF disbursements for infrastructure, 2014 (Simple Averages, Percent of GDP): LIDCs total: Grants 1.3; Concessional Loans 0.7; Other Official Flows 0.1; Total 2.0.
- Constraints to scaling up:
  - Availability of external finance and administrative/absorptive capacity highlighted as key impediments.
  - Median public investment fell significantly in 2015 as commodity exporters were hit by falling export prices.
  - IMF country team survey (46 responses): top obstacles include availability of external finance, availability of domestic resources, limits on debt accumulation, administrative capacity constraints, human and physical resource constraints.
- Public-private partnerships (PPPs) and risks:
  - PPPs averaged 0.4 percent of GDP per year on average in last five years; large cross-country variation.
  - PPPs concentrated in energy; 87 percent financed greenfield projects.
  - Example: Lao PDR — # PPPs 18; Value (mil. US$) 8,075; % of GDP (per year) 15.3.
- Investment efficiency:
  - Average public investment efficiency gap estimated at 40 percent in LIDCs.
  - Efficiency gap: commodity exporters 49 percent; diversified exporters 36 percent.
- Policy imperatives:
  - Balance borrowing for investment with maintaining debt sustainability.
  - Mobilize domestic resources and concessional external financing where fiscal risks limit debt financing.
  - Strengthen public investment management capacity, project appraisal, selection, monitoring, and maintenance budgeting.
  - Expand private investor engagement by improving regulatory and macroeconomic environment and delivering policy predictability.
  - MDBs and DFIs to better target interventions to leverage private investment using well-designed and scalable risk mitigation measures.

### Fiscal positions, public debt, and debt sustainability
- Fiscal trends by group (preserved figures):
  - Fuel exporters fiscal deficits: 1.9 percent of GDP in 2014 → 5.1 percent of GDP in 2015 → 5.5 percent in 2016.
  - Non-fuel commodity exporters deficits: 2.3 percent in 2014 → projected 3.5 percent in 2016.
  - Diversified exporters deficits: 3.8 percent in 2014 → 4.2 percent in 2015 → 4.6 percent in 2016.
- Public debt movements:
  - Fuel exporters: average debt-GDP ratio rose by 5½ percentage points since 2014; average debt-GDP ratio remains 22 percent of GDP.
  - Non-fuel commodity exporters: average debt levels set to increase by some 4 points of GDP from 2014 through 2016, to 40 percent of GDP.
  - Diversified exporters: average debt levels reached 46 percent in 2016.
- Cases of sharply rising public debt burdens (criteria: public debt/GDP increase >10 percentage points between 2014 and 2016 and debt now exceeds 50 percent of GDP):
  - Eight countries meeting criteria: Burundi, Republic of Congo, Mongolia, Mozambique, Yemen, Zambia (six commodity exporters) and Bhutan, Kyrgyz Republic (two diversified LIDCs).
- Debt servicing pressures:
  - Interest payment costs as a share of budgetary revenues expected to increase by more than 5 percentage points in five of six commodity exporters.
  - External amortization payments set to exceed 10 percent of revenues in some cases (Bhutan, Republic of Congo, Mozambique).
- DSA and risk shifts:
  - Since end-2013, six countries moved into high risk of debt distress: Cameroon, Central African Republic, Ghana, Mauritania, Mongolia, and Yemen; Mozambique experienced debt distress and sought debt rescheduling.
  - For the “average” low risk country (sample of 15 maintaining low risk over 2013–16): all debt burden indicators increased over 2013–16; gaps between indicators and thresholds decreased by at least 25 percent.
  - For the “average” moderate risk country (sample of 23 maintaining moderate risk over 2013–16): gaps declined by at least 20 percent for three of five indicators; broadly unchanged for two indicators.

### External positions, exchange rates, reserves, and Fund financing
- Exchange rate and reserves:
  - Sharp currency movements in 2015; further sizeable depreciations in 2016 among stressed commodity exporters (Mozambique, Mongolia, Nigeria).
  - Real exchange rate depreciation contributed to adjustment where regimes were flexible.
  - Reserves deteriorated: seven commodity exporters had reserves less than three months of prospective imports in 2014; projected to reach 15 (out of 26) by end-2016 (including Mongolia, Mozambique, Zambia).
- Current account positions (group medians and examples):
  - Fuel exporters: average current account deficit in 2016 is 1.7 percent of GDP.
  - Non-fuel exporters: current account remains elevated at average levels in excess of 5 percent of GDP.
  - Diversified exporters: current account deficits widened from 3 percent of GDP in 2014 to 4.2 percent of GDP in 2015; little change in 2016.
- Fund financing (Box 4):
  - IMF financial commitments to LIDCs could reach SDR 2.3 billion in 2016.
  - New lending commitments approved January–October 2016: SDR 1.7 billion.
    - SDR 1.1 billion precautionary blended SBA/SCF arrangement (196 percent of quota) for Kenya.
    - SDR 144 million (90 percent of quota) for Rwanda.
    - SDR 32 million (10 percent of quota) for Afghanistan.
    - SDR 84 million (75 percent of quota) for Central African Republic.
    - SDR 220 million (180 percent of quota) for Madagascar.
    - Two augmentations/extensions totaling SDR 103 million for Mali and Malawi.
  - Drivers of demand for Fund support in 2016: security-fragility concerns, climate shocks, tighter global liquidity conditions.
  - Outlook: demand for Fund financial support could rise in 2017.

### Inflation, monetary policy, and credit
- Inflation by regime (medians preserved):
  - Pegged exchange rate regimes: median inflation down to 3.2 percent by 2015 → 3.1 percent in 2016.
  - Flexible exchange rate regimes: median inflation drifted up since 2014, reaching 8.5 percent in 2016.
- Drivers of higher inflation in flexible-regime countries: currency pressures and pass-through; output disruptions in some cases (Haiti, Nepal, South Sudan, Yemen).
- Monetary policy responses: policy rates (or reserve requirements) increased—often belatedly—in most countries where inflation surged; real market interest rates remain low or negative in several cases.
- Broad money and credit: growth moved into lower gear, more markedly in commodity exporters; credit growth remains rapid in some countries (e.g., Cambodia) and slowed markedly where financial stress has materialized (e.g., Moldova).

### Growth outlook, projections, and risks
- PPP-GDP weighted medians (selected table figures preserved):
  - LIDCs Growth (Percent): 2014: 6.0; 2015: 4.6; 2016: 3.7; 2017: 4.9; 2018-2020: 5.4.
  - Commodity Exporters Growth (Percent): 2014: 5.6; 2015: 2.3; 2016: 0.5; 2017: 2.7; 2018-2020: 3.9.
    - Fuel Exporters Growth (Percent): 2014: 5.7; 2015: 0.9; 2016: -1.6; 2017: 1.6; 2018-2020: 3.1.
    - Non-Fuel Exporters Growth (Percent): 2014: 5.3; 2015: 4.6; 2016: 3.8; 2017: 4.2; 2018-2020: 4.9.
  - Diversified Exporters Growth (Percent): 2014: 6.4; 2015: 6.4; 2016: 6.1; 2017: 6.5; 2018-2020: 6.5.
  - Inflation (Percent) — LIDCs: 2014: 7.4; 2015: 7.5; 2016: 10.2; 2017: 9.3; 2018-2020: 7.8.
    - Commodity Exporters Inflation (Percent): 2014: 9.4; 2015: 9.6; 2016: 15.9; 2017: 13.9; 2018-2020: 11.3.
      - Fuel Exporters Inflation (Percent): 2014: 7.5; 2015: 11.0; 2016: 20.8; 2017: 17.2; 2018-2020: 14.0.
      - Non-Fuel Exporters Inflation (Percent): 2014: 12.4; 2015: 7.6; 2016: 8.5; 2017: 9.1; 2018-2020: 7.6.
    - Diversified Exporters Inflation (Percent): 2014: 5.8; 2015: 5.8; 2016: 5.8; 2017: 5.9; 2018-2020: 5.4.
  - Fiscal Balance (Percent of GDP) — LIDCs: 2014: -3.0; 2015: -4.2; 2016: -4.6; 2017: -4.1; 2018-2020: -3.6.
  - Current Account Balance (Percent of GDP) — LIDCs: 2014: -2.6; 2015: -4.5; 2016: -3.8; 2017: -3.6; 2018-2020: -4.0.
- 2017 outlook and risks:
  - LIDC growth projected to increase in 2017 by some 1.2 percentage points (main driver: modest rebound in fuel exporters).
  - Median inflation rate projected about 5¼ percent for most countries in 2017, with continued double-digit inflation in several large commodity exporters and inflation well above median in some fast-growing diversified economies (Bangladesh, Myanmar, Ethiopia).
  - Risks: Chinese re-balancing difficulties; financial market volatility as monetary easing is scaled back; entrenched slow growth in advanced economies; risk of major banks scaling back engagement in poorer/smaller economies; domestic policy weaknesses, delayed adjustment to commodity price declines, poor monetary response to surging inflation, and excessive external borrowing.
  - LIDC-specific domestic vulnerabilities highlighted: weak economic and financial policies; sluggish adjustment to commodity price declines becoming disorderly; weak monetary policy response; excessive external borrowing; intensifying financial sector stresses.

### Shock scenarios and estimated impacts
- Shock scenarios analyzed:
  - Emerging Markets Slowdown:
    - Global growth slows by a cumulative 1.6 percent during 2016–19 relative to Fall 2016 WEO baseline.
    - Commodity prices fall relative to baseline by 10 percent for fuel and 6 percent for metals over 2016–19.
  - Global Growth Shock (low probability):
    - Sustained slowdown in global growth of 0.5 percent relative to the Emerging Markets Slowdown shock.
    - Coupled with a 20 percent decline in commodity prices relative to the baseline.
- Impact estimates — Emerging Markets Slowdown (2016–19):
  - Growth in LIDCs weakens by ¾ percent (PPP-GDP weighted) relative to baseline.
  - Debt accumulation increases by about 2 percent of GDP by 2019.
  - Current account balances weaken by 1 percent of GDP.
  - Reserves fall by ¾ months of imports.
  - Resulting external financing gaps of USD 59 billion.
- Impact estimates — Global Growth Shock (2016–19):
  - Growth falls by a cumulative 1¾ percent over 2016–19.
  - Debt levels increase by 4 percent of GDP.
  - Current account balances deteriorate by 2½ percent of GDP.
  - Reserves fall by 1¼ months of imports.
  - Resulting financing gap of USD 137 billion.
  - Distributional impacts: commodity exporters’ debt rising by 6 percent of GDP (from a PPP-GDP weighted debt stock of about 30 percent of GDP); fuel exporters’ debt rising by 8 percent of GDP.

### Financial systems, banking sector vulnerabilities, and supervisory reform agenda
- Financial system characteristics:
  - Banks dominate intermediation; financial markets typically underdeveloped.
  - Asset-side risks: high loan concentration—lending concentrated on sectors hard hit in past two years in 60 percent of commodity exporters and 30 percent of diversified exporters.
  - Foreign-currency denominated lending creates risks for unhedged borrowers when domestic currency depreciates.
- Survey and indicators:
  - Analysis based on survey of 52 IMF country teams and FSIs.
  - Emergence of financial sector stress in about one-fifth of LIDCs; stressed cases include Burundi, Moldova, Tajikistan, Zimbabwe.
  - As many as three-fifths of commodity exporters face elevated risk of financial sector stresses in next 12–18 months.
  - Bank failures occurred in 22 (of 52) LIDCs; supervisory interventions in 23 countries.
  - Examples of fiscal cost of interventions: Sao Tome and Principe ~0.5 percent of GDP; Moldova cost could reach 12 percent of GDP.
- Diagnostic findings on supervision:
  - Sources: >300 MCM TA missions (2013–16) and 7 FSSAs (2012–16).
  - Key weaknesses: inadequate supervisory powers and resources; limited supervisory capacity; insufficiently risk-focused approaches; weak enforcement.
  - Few FSAPs in LIDCs found a high level of non-compliance with the Basel Core Principles.
- Supervisory legal and capacity shortcomings (preserved):
  - Legal deficiencies undermine supervisory independence, transparency, and accountability; supervisors lack powers to apply stricter requirements, take corrective actions, or protect themselves legally.
  - Capacity shortages: insufficient/autonomous supervisory budgets; staff shortages and vacancies; lack of technical expertise.
  - Process gaps: need to move to risk-based supervision; better consolidated and cross-border supervision; improved information sharing; formalized supervisory actions; automated reporting systems.
  - TA uptake: >70 percent of LIDCs requested/receiving TA to improve supervisory process; ~50 percent receiving TA on risk-based supervision and Basel II–III.
- Reform agenda and TA priorities:
  - Priorities: give supervisors sufficient powers to acquire information, assess risks, enforce regulations, and take corrective action; improve supervisory capacity; enhance banking crisis preparedness and resolution frameworks.
  - Country-differentiated priorities: countries with high banking pressures to prioritize risk assessment, stress testing, bank resolution, and crisis management frameworks; others to focus on supervisory independence and powers.
  - Financial Sector Stability Reviews (FSSRs): diagnostic tool to build reform programs; MCM conducted precursor TA missions (Mongolia, Lesotho, El Salvador, Sri Lanka, Sudan); first FSSR mission to Honduras in July 2016; pipeline developing.
  - Management approved creation of a Financial Sector Stability Fund to scale up FSSRs; donor consultations underway.

### Fiscal risk management — capacity-building priorities and recommended measures
- Capacity-building priorities (three areas):
  - Identify and assess risks: analyze fiscal implications of price/output shocks to key commodities; monitor explicit contingent liabilities (guarantees, PPPs); use fiscal stress tests and DSAs (LIC-DSF) and probabilistic simulations where feasible.
  - Contain risks: build fiscal buffers (stabilization funds); diversify revenue sources (increase indirect taxes like VAT); introduce direct controls/ceilings (sub-national borrowing limits, guarantee ceilings); strengthen regulation and oversight of entities contributing to fiscal risks; charge risk-related fees for formal guarantees.
  - Monitor and disclose risks: consistently monitor accumulation of contingent liabilities and disclose in budget documents to improve accountability.
- Fiscal shock and contingent liability evidence:
  - Selected fiscal cost examples (percent of GDP) from Figure 35: 0.7; 0.9; 1.2; 4.5; 5.3; 12.0; 3.0; 0.6; 1.2; 1.4; 4.2; 6.0; 10.0; 11.8; 13.6.
  - Ebola-related outlays: 3.2 percent of GDP for 2015 and 2.1 percent of GDP for 2016 (government-acknowledged costs only).
- Weaknesses in fiscal risk management capacity:
  - Few LIDCs provide qualitative discussion of fiscal risks in budgets; many provide no macro-fiscal risk analysis.
  - Limited oversight of public sector entities outside central government; central government often the implicit/explicit guarantor without formal oversight.
  - PEFA and FTEs indicate substantial scope to improve risk analysis, disclosure, and management.

### Policy priorities and key messages (summary)
- Immediate macro priorities:
  - Accelerate and complete macroeconomic adjustment in commodity exporters to adapt to “lower for long” commodity prices.
  - Implement necessary fiscal consolidation where deficits and debt are unsustainable, while protecting priority spending where possible.
  - Rebuild foreign exchange reserves and adjust exchange rate regimes as needed to restore competitiveness and external stability.
- Financial sector stability:
  - Strengthen banking regulation and supervision: improve supervisory independence and powers, resourcing, oversight of risk management and governance, and enforcement.
  - Mobilize development partner support for supervisory capacity building.
- Fiscal risk management:
  - Improve identification, containment, monitoring, and reporting of fiscal risks (contingent liabilities and PPP exposures).
  - Consider fiscal rules or frameworks to mitigate pro-cyclical outcomes from revenue volatility.
- Infrastructure scaling-up:
  - Improve public investment management and absorptive capacity.
  - Mobilize domestic resources and concessional external finance where debt limits preclude additional borrowing.
  - Enhance the environment for private investment and leverage MDBs/DFIs with targeted risk mitigation instruments.
- Broader resilience-building:
  - Promote export diversification and build foreign reserve/asset positions during “good times”.
  - Build strong broad-based domestic tax systems drawing from diverse sectors and instruments.

*International Monetary Fund — Macroeconomic Developments and Prospects in LIDCs—2016*

### EXECUTIVE SUMMARY

### EXECUTIVE SUMMARY

### Macroeconomic Developments and Outlook
- The paper assesses macroeconomic developments and prospects in low-income developing countries (LIDCs), the third in a series (following IMF, 2014a and IMF, 2015a).
- Overarching theme: incomplete adjustment to the new world of “lower for long” commodity prices, with many commodity exporters still far from a sustainable macroeconomic trajectory.
- Three country groups with distinct narratives:
  - Fuel exporters:
    - Group average output growth fell from 5.7 percent in 2014 to -1.6 percent by 2016.
    - Fiscal deficits have risen sharply to unsustainable levels.
    - Foreign reserves are being depleted, most markedly in countries with exchange rate pegs.
    - Painful budgetary adjustments will be needed; borrowing room is shrinking for many.
  - Non-fuel commodity exporters:
    - Average growth slowed from 5.3 percent in 2014 to 3.8 percent by 2016.
    - Fiscal deficits rose from an average of 2.3 percent in 2014 to 3.5 percent in 2016.
    - Public debt levels have eased upwards; reserve levels have fallen below the traditional benchmark of three months of import coverage in over half of the countries.
    - Policy adjustments are needed but are manageable in most cases; in a few cases comprehensive adjustment programs are now needed.
  - Diversified (non-commodity dependent) exporters:
    - Growth is running at 6 percent or above in many countries.
    - Fiscal deficits averaged 4.6 percent of GDP in 2016 and are drifting upward.
    - Public debt levels are rising steadily from already elevated levels; many countries need to raise public savings, contain debt accumulation, and rebuild policy buffers.
- Common patterns across LIDCs:
  - Many commodity exporters, notably fuel producers, remain under significant economic stress: sluggish growth, large fiscal imbalances, weakened foreign reserve positions.
  - Some diversified exporters have been hit by declines in remittances, conflict/natural disasters, and the contractionary impact of stabilization programs.
  - Widening fiscal imbalances in both commodity and diversified exporters have led to rising debt levels, with severe financing stress in some cases.
  - Financial sector stresses have emerged in many LIDCs, and are expected to increase in many commodity exporters over the next 12–18 months.

### Persistent High Vulnerabilities
- Econometric assessment:
  - High macroeconomic vulnerabilities among two-thirds of commodity exporters, but in less than one-quarter of diversified exporters.
  - One-quarter of LIDCs are assessed to be at high risk of, or in, external debt distress.
- Financial sector stress:
  - Financial sector stresses have materialized in about one-fifth of LIDCs.
  - More than half of commodity exporters face an elevated risk of financial sector stress over the next 18 months.
  - Bank failures and supervisory interventions have risen since 2014, including one systemic financial crisis.
- Contributing fiscal factors:
  - Fiscal stress has contributed to financial sector strains—public sector arrears hitting corporates in some countries and falling government deposits squeezing liquidity in others.
- Key weaknesses in banking regulation and supervision identified by IMF TA:
  - Lack of supervisory independence and powers.
  - Under-resourcing of supervision.
  - Insufficient oversight of banks’ risk management and governance frameworks.
  - Weak enforcement efforts.
  - Development partners are important for supporting capacity building.
- Key fiscal risks and fiscal risk management priorities:
  - Fiscal risks:
    - High levels of revenue volatility that, absent appropriate fiscal rules, can produce strongly pro-cyclical fiscal policies.
    - Poorly monitored contingent liabilities, including weak oversight of state-owned enterprises and of fiscal exposures in public-private partnerships (PPPs).
  - Fiscal risk management needs to focus on:
    - Identifying/assessing risks.
    - Containing risks.
    - Improving monitoring and reporting.

### Promoting Infrastructure Investment—Progress and Policy Challenges
- Infrastructure investment is central to national development strategies and the 2030 Development Agenda; better infrastructure services can raise productivity, crowd in private investment, and integrate rural populations.
- Trends and financing:
  - Public investment, including in infrastructure, has generally increased in LIDCs over the last 15 years, but infrastructure deficiencies remain severe.
  - Except for telecoms, infrastructure services are primarily provided by the public sector.
  - Private participation in infrastructure is largely through PPPs, concentrated mainly in the energy sector.
  - Grants and concessional loans from development partners are essential and stable sources of infrastructure funding; external syndicated loans have complemented these in a few countries but lending volume has fallen in recent years.
  - An IMF country team survey flags funding and absorptive capacity constraints as key impediments to scaling up infrastructure investment.
- Policy imperatives to improve infrastructure and manage fiscal sustainability:
  - Balance borrowing to finance investment with maintaining debt sustainability.
  - Where fiscal risks limit debt financing, mobilize additional resources through accelerated domestic resource mobilization and concessional external financing.
  - Strengthen public investment management capacity to improve returns from investment outlays.
  - Expand private investor engagement by improving the regulatory and macroeconomic environment and delivering policy predictability over the medium term.
  - Multilateral development banks and development finance institutions should better target interventions to leverage private investment, including through well-designed and scalable risk mitigation measures.

### Key Messages and Policy Recommendations (summary)
- Immediate priorities:
  - Accelerate and complete macroeconomic adjustment in commodity exporters to adapt to “lower for long” commodity prices.
  - Implement painful but necessary fiscal consolidation where deficits and debt are unsustainable, while protecting priority spending where possible.
  - Rebuild foreign exchange reserves and adjust exchange rate regimes as needed to restore competitiveness and external stability.
- Financial sector oversight and stability:
  - Strengthen banking regulation and supervision by improving supervisory independence, resourcing, oversight of risk management and governance, and enforcement.
  - Mobilize development partner support for capacity building in financial sector supervision.
- Fiscal risk management:
  - Improve identification, containment, monitoring, and reporting of fiscal risks, including contingent liabilities and PPP exposures.
  - Consider fiscal rules or frameworks to mitigate pro-cyclical fiscal outcomes from revenue volatility.
- Infrastructure scaling-up:
  - Improve public investment management and absorptive capacity.
  - Mobilize domestic resources and concessional external finance where debt limits preclude additional borrowing.
  - Enhance the environment for private investment and leverage MDBs/DFIs with targeted risk mitigation instruments.

*Prepared by SPR, with contributions from FAD and MCM and inputs/support from RES and Area Departments; Approved By Siddharth Tiwari.*

### 1.      The preponderance of low income developing countries (LIDCs) experienced strong

### Macroeconomic Developments and Prospects in LIDCs—2016

### A. Overview of LIDC performance and classification
- The preponderance of low income developing countries (LIDCs) experienced strong and sustained economic growth through 2014; exceptions were mainly fragile and conflict-affected states.
- The LIDC group comprises 60 countries, together accounting for about one-fifth of the world’s population.
- Country size examples preserved as in source: Nigeria (175 million people); Kiribati (0.1 million).
- The 10 largest economies in the group account for two-thirds of the total output of the group.
- Definition and sub-grouping:
  - LIDC = countries that a) have a low per capita income and b) are not conventionally treated as emerging market economies.
  - Commodity exporters: commodities account for at least one-half of export receipts from goods and services.
  - Diversified exporters: all other countries (note: diversified only in contrast to commodity-dependent; non-commodity exports can still be concentrated).
  - Commodity exporters further split into fuel exporters (fuel exports comprise at least half of export earnings) and non-fuel commodity exporters.
  - Other country classifications: (i) frontier market economies (FMs); (ii) fragile states; (iii) other developing economies (residual).

### B. Export diversification: progress and policy implications (Box 1)
- Empirical findings:
  - Commodity exporters lag diversified exporters in product and partner diversification.
  - Commodity exporters have become more reliant on a handful of export products since 2000.
  - Diversified exporters have made little progress reducing concentration within existing product mix but have expanded partner diversification.
  - Quality upgrading progress limited: quality of agricultural products was lower in LIDCs in 2010 compared to 1990 for both commodity exporters and diversified LIDCs; quality index for other commodities declined more markedly during 1990–2010.
- Measurement notes:
  - Export concentration measured by the Herfindahl Index (higher values indicate less diversification).
  - Quality Index based on average export prices for each product category, expressed relative to the world quality frontier (90th percentile).
- Policy measures suggested for promoting diversification:
  - Upgrading institutional quality to support private investment.
  - Education/training to improve labor-force skills.
  - Trade and agricultural reforms to reduce trade costs and promote intensive margin.
  - Financial inclusion and greater gender equality to support activity in more sectors.
  - Investment in research, technology, and innovation to improve product quality.
  - Avoiding exchange rate overvaluation to support export competitiveness.

### C. External environment facing LIDCs
- Global growth and outlook:
  - Global growth has eased further since 2014, with only a modest reversal anticipated for 2017.
  - Recovery in advanced economies has disappointed due to sluggish investment, low productivity growth, and high debt levels.
  - Gradual slowing of the Chinese economy is in line with expectations; many commodity exporters are still adjusting to weaker commodity prices.
- Commodity prices and inflation:
  - Commodity prices remain well below 2014 levels; only a modest recovery expected from current levels.
  - Oil prices recovered somewhat from February 2016 lows but are still down by more than one-half from the first semester of 2014.
  - Non-fuel commodity prices declined by smaller margins; metals (copper, iron) saw more marked declines than agricultural products.
  - Inflation remains subdued across advanced and most emerging market economies, implying minimal external pressure on price levels in LIDCs.
- Selected projection vintages and indices (preserved exactly as presented in source):
  - Global Growth (Percent) — October 2014: 3.3 3.8 4.0 4.1; October 2015: 3.4 3.1 3.6 3.8; October 2016: 3.4 3.2 3.1 3.4 (table format in source).
  - Petroleum Price (APSP; US$) — October 2014: 102.8 99.4 97.3 95.4; October 2015: 96.2 51.6 50.4 55.4; October 2016: 96.2 50.8 43.0 50.6 (table format in source).
  - Nonfuel (Commodity) Price (Index, 2013=100) — October 2014: 97.0 93.0 92.3 91.5; October 2015: 96.0 79.8 75.7 76.0; October 2016: 96.0 79.2 77.1 77.7 (table format in source).

### D. Global financial conditions and private capital flows
- Private capital flows to LIDCs declined significantly in 2015; modest pick-up projected in 2016 driven by some recovery in inward direct investment while other inflows remain depressed.
- Frontier market LIDC funding and spreads:
  - Base funding costs, proxied by the EMBI global bond market index, were higher by some 100 basis points (bps) in 2015 (from 2014), but eased significantly over the course of 2016.
  - Bond spreads for LIDC commodity exporters widened sharply in 2015 and even further in early 2016—helped by a further dip in commodity prices—before narrowing over the course of 2016. Current spreads (averaging 700 bps) are up some 240 bps on 2014 levels.
  - Bond spreads for LIDC diversified exporters increased more modestly from 2014 through early 2016—in line with rising EM bond spreads—but have since eased to 2014 levels.
- Figures and indices referenced in source:
  - EMBI Sovereign Spreads (basis points, quarterly averages) and Panel B sovereign bond spreads for sampled frontier market LIDCs (commodity exporters: Bolivia, Mongolia, Mozambique, Nigeria, Zambia; diversified exporters: Cote d’Ivoire, Ghana, Kenya, Senegal, Tanzania, Vietnam).

### E. Non-commercial flows: aid and remittances
- Official Development Assistance (ODA):
  - Aid flows, in nominal dollars, have fluctuated annually with some downward drift from post-global crisis levels.
  - Marked drop in aid flows in 2014 was only partly reversed in 2015; flows to developing countries in 2016 squeezed by diversion of resources to host refugees in many European countries.
  - Note on treatment: Funds spent on hosting refugees for their first year of residence are treated as ODA; outlays after the first year are not included in ODA (OECD DAC).
- Remittances:
  - Remittance flows to LIDCs increased in 2014 and 2015 due to strong growth from non-fuel exporting host countries and a significant decline in remittances from fuel-exporting host countries (notably the Gulf countries and Russia).
  - Country effects depend on migration patterns: LIDCs with migrant workers in fuel-exporting host countries have seen remittances shrink (e.g., Central Asian economies linked to Russia).

### F. Developments within LIDCs: commodity price realignment and growth outcomes
- Commodity price realignment is the main driver of macroeconomic developments across LIDCs in 2016.
- Impact mechanics:
  - Fuel exporters face an unusually large terms of trade shock intensified in 2016; first-round income loss from this price shock was dramatic.
  - Non-fuel commodity exporters have seen export prices decline markedly but benefited from the large drop in fuel prices; first-round income loss limited, but output and investment in commodity sectors were hit and budgetary revenues fell.
  - Diversified exporters experienced a moderate income gain from falling prices, with little adverse effect on export volumes or associated investment levels.
- Growth outcomes by exporter type (PPP GDP weighted averages, preserved per source):
  - Fuel exporters: growth slowed from 5.7 percent in 2014 to 0.9 percent in 2015, and to -1.6 percent in 2016. Some economies positive in 2016 (Bolivia, Republic of Congo); recessions in Chad and Nigeria; South Sudan and Yemen disrupted by civil conflict.
  - Non-fuel commodity exporters: growth slowed from 5.3 percent in 2014 to 4.6 percent in 2015, and set to slow further to 3.8 percent in 2016. Domestic factors affecting growth include fragile political situations (Afghanistan, Burundi, Central African Republic), weak policies (Mongolia, Zambia, Zimbabwe), stabilization programs (Malawi), and adverse natural shocks (Malawi and Zambia).
  - Aggregate LIDC growth variability and medians illustrated in source figures (interquartile ranges, medians for commodity exporters and diversified exporters).

### G. Supply-side shocks and IMF response (Box 2)
- Increasing incidence and macroeconomic effects of adverse non-economic shocks:
  - Natural disasters: frequency of climatic events rose from five per year in 2000–2011 to eight in 2014 and 12 in 2015; examples include droughts attributed to El Niño affecting Ethiopia, Malawi, Zambia, Zimbabwe.
  - Earthquake example: Nepal April 2015 damages and losses estimated at some 30 percent of GDP; realized growth in fiscal year 2014/15 was 1.6 percentage points lower than pre-earthquake projections.
  - Hurricane example: Haiti damages estimated around 23 percent of GDP.
  - Epidemics: Ebola outbreak in West Africa 2014–15 had severe effects on Guinea, Liberia, Sierra Leone; spillovers to Côte d’Ivoire, Ethiopia, Mali, The Gambia (tourism receipts notably affected).
  - Conflict: Despite decline in prevalence since 1990s, civil conflict continues to have significant adverse effects (South Sudan, Yemen, Sahel countries, Nigeria).
- IMF financial and policy response:
  - Fund support via augmentations of existing arrangements (examples in source: Malawi, Sierra Leone), Rapid Credit Facility disbursements (Haiti, Liberia, Nepal), new arrangements where needed.
  - Grants for debt relief from the Catastrophe Containment and Relief Trust provided to the three Ebola-hit countries.
  - Policy priorities to strengthen macroeconomic and risk-management frameworks in small developing countries vulnerable to natural disasters discussed in IMF, 2016d (as referenced in source).

_International Monetary Fund — Macroeconomic Developments and Prospects in LIDCs—2016_

### 11.      Average growth across diversified exporters remains high in 2016 (at 6.1 percent),

### pp5086-macroeconomic-developments-and-prospects-in-low-income-developing-countries-2016 - 11.      Average growth across diversified exporters remains high in 2016 (at 6.1 percent),

### Growth in diversified exporters
- Average growth across diversified exporters in 2016: 6.1 percent (down marginally from 2014–15).
- In the group of 32 diversified exporters:
  - More than half recorded 2015–16 growth at or above longer-term trends.
  - Country-specific drivers sustaining growth include:
    - Scaled-up public investment offsetting slower export growth (Bangladesh, Nicaragua).
    - Catch-up after long periods of civil conflict (Cote d’Ivoire).
  - Cases of significant slowdown despite improved terms of trade:
    - Lagged fall in remittances and financial sector crisis (Kyrgyz Republic, Moldova).
    - Natural disasters (Nepal).
    - Efforts to tackle severe macroeconomic imbalances (Ghana).
  - Ethiopia: growth remains robust despite drought, but down from exceptionally high previous levels.
- Weighted-average vs median disparity: weighted-average growth 6.1 percent in 2016 versus median growth 4.9 percent (footnote detail).

### Fiscal positions: overall weakening
- Budget deficits have risen across all LIDC groups.
- Fuel exporters:
  - Average fiscal deficit: 1.9 percent of GDP in 2014; 5.1 percent of GDP in 2015; 5.5 percent in 2016.
  - Large drops in budgetary revenues account for widening deficits.
  - Spending cuts in 2015–16 (cumulative) about 1½ percent of GDP—focused on public investment in 2015 and current spending in 2016—were overwhelmed by revenue losses.
  - Little progress in boosting non-fuel revenues.
- Non-fuel commodity exporters:
  - Deficits increased from 2.3 percent in 2014 to a projected 3.5 percent in 2016.
  - Revenue-GDP ratio fell by some 1½ percent of GDP over the period.
  - Spending cuts largely delayed to 2016, spread across current and investment outlays, largely reversing 2015 spending increases.
- Diversified exporters:
  - Average fiscal deficit: 3.8 percent in 2014; 4.2 percent in 2015; 4.6 percent in 2016.
  - Driver: higher spending levels—often increased current expenditure; in some cases scaling up of public investment.

### Rising public debt and drivers
- Widening fiscal deficits and sizeable exchange rate depreciations have raised public debt levels.
- Fuel exporters:
  - Average debt-GDP ratio rose by 5½ percentage points since 2014; average debt-GDP ratio remains a modest 22 percent of GDP.
  - Some countries experienced large surges in debt (Republic of Congo).
- Non-fuel commodity exporters:
  - Average debt levels set to increase by some 4 points of GDP from 2014 through 2016, to an average of 40 percent of GDP.
  - Real exchange rate depreciations contributed to marked jumps in debt-GDP ratios in Mozambique and Zambia.
- Diversified exporters:
  - Average debt levels have been drifting upwards, reaching 46 percent in 2016.
  - Sizeable primary deficits are the main driver; real exchange rate depreciation contributed in Kyrgyz Republic and Tajikistan.
  - In some cases, rising debt reflects public investment scaling-up (Bhutan, Ethiopia, Rwanda), but this is not uniform.

### Debt sustainability assessments (DSAs) and risk of debt distress
- Since end-2013, six countries moved into high risk of debt distress: Cameroon, Central African Republic, Ghana, Mauritania, Mongolia, and Yemen; Mozambique experienced debt distress and sought debt rescheduling.
- Drivers: domestic conflict (Central African Republic, Yemen) and high levels of new external borrowing.
- For the “average” low risk country (sample of 15 maintaining low risk over 2013–16):
  - All debt burden indicators increased over 2013–16.
  - Gaps between indicators and thresholds decreased by at least 25 percent.
- For the “average” moderate risk country (sample of 23 maintaining moderate risk over 2013–16):
  - Gaps between debt burden indicators and thresholds declined by at least 20 percent for three of five indicators; broadly unchanged for two indicators.
- Conclusion: debt burden measures are rising across most LIDCs; immediate concern for a sub-group of countries.

### Box 3 — Cases of sharply rising public debt burdens
- Criteria: public debt/GDP increase >10 percentage points between 2014 and 2016 and debt now exceeds 50 percent of GDP.
- Eight countries meeting criteria: Burundi, Republic of Congo, Mongolia, Mozambique, Yemen, Zambia (six commodity exporters) and Bhutan, Kyrgyz Republic (two diversified LIDCs).
- Main drivers:
  - Rising public borrowing (common).
  - Republic of Congo: large drop in oil revenues and large fiscal deficits rather than spending revisions.
  - Mozambique: large external commercial borrowings via state-owned companies.
  - Zambia: large fiscal deficits influenced in part by the political business cycle.
  - Mongolia: large fiscal deficits from elevated spending and sharp revenue falls.
  - Bhutan: public and publicly guaranteed loans linked to hydropower projects with benefits realized over decades.
- Other contributors: real exchange rate depreciation (Kyrgyz Republic, Mozambique, Zambia); civil conflict reducing activity (Burundi, Yemen).
- Debt servicing costs rising:
  - Interest payment costs as a share of budgetary revenues expected to increase by more than 5 percentage points in five of six commodity exporters.
  - External amortization payments set to exceed 10 percent of revenues in some cases (Bhutan, Republic of Congo, Mozambique).
- Policy implication: active public debt management needed as global interest rates rise.

### External positions and balance adjustments
- Sharp currency movements in 2015; further sizeable depreciations in 2016 among commodity exporters under stress (Mozambique, Mongolia, Nigeria).
- Real exchange rate adjustment:
  - Depreciation has contributed to significant, if likely insufficient, real exchange rate adjustment among commodity exporters with flexible regimes.
- Current account positions:
  - Commodity exporters: current account deficits expected to decline somewhat in 2016.
    - Fuel exporters: average current account deficit in 2016 is 1.7 percent of GDP (partial reversal from 2015 deterioration).
    - Non-fuel exporters: current account remains elevated at average levels in excess of 5 percent of GDP.
  - Diversified exporters: current account deficits widened from 3 percent of GDP in 2014 to 4.2 percent of GDP in 2015; little change in 2016.
  - Weighted averages mask discrepancies between large and small countries and across financing patterns, public investment levels, and idiosyncratic factors.
- Foreign reserves:
  - Reserve positions steadily deteriorated in several commodity exporters.
  - Seven commodity exporters had reserves less than three months of prospective imports in 2014; projected to reach 15 (out of 26) by end-2016 (including Mongolia, Mozambique, Zambia).
  - New IMF financing helped support reserve positions in several cases.

### Fund financing for LIDCs: recent trends and near-term outlook (Box 4)
- IMF financial commitments to LIDCs could reach SDR 2.3 billion in 2016 (some expected agreements may not materialize or may slip into 2017).
- New lending commitments approved January–October 2016: SDR 1.7 billion.
  - Major item: SDR 1.1 billion precautionary blended SBA/SCF arrangement (196 percent of quota) for Kenya.
  - Other commitments: SDR 144 million (90 percent of quota) for Rwanda; SDR 32 million (10 percent of quota) for Afghanistan; SDR 84 million (75 percent of quota) for Central African Republic; SDR 220 million (180 percent of quota) for Madagascar.
  - Two augmentations/extensions totaling SDR 103 million for Mali and Malawi.
- Drivers of demand for Fund support in 2016: security-fragility concerns, climate shocks, tighter global liquidity conditions; some programs address drought-related financing gaps affecting agriculture and hydro-power.
- Outlook: demand for Fund financial support could rise in 2017 given difficult economic conditions.

*International Monetary Fund — Macroeconomic Developments and Prospects in LIDCs—2016 (excerpt).*

### 18.      Inflation developments have steadily eased in LIDCs with pegged exchange rate

### pp5086-macroeconomic-developments-and-prospects-in-low-income-developing-countries-2016 - 18.      Inflation developments have steadily eased in LIDCs with pegged exchange rate regimes

### Inflation developments by exchange rate regime
- Median inflation rate for LIDCs with pegged exchange rate regimes:
  - down to 3.2 percent by 2015
  - slowed further to 3.1 percent in 2016
- Median inflation rate for LIDCs with flexible exchange rate regimes:
  - drifted up since 2014, reaching 8.5 percent in 2016
- Drivers of higher inflation in flexible-regime countries:
  - currency pressures and ensuing pass-through effects
  - in a few cases, output disruptions (Haiti, Nepal, South Sudan, Yemen)
- Notable country cases of elevated inflation (double-digits in several cases):
  - Ghana and Malawi: double-digit inflation for several years, easing as stabilization programs take hold
  - Mozambique, Nigeria, Zambia: large exchange rate depreciations were key contributors; drought augmented inflation in Mozambique and Zambia
  - Nepal and Yemen: double-digit inflation reflecting domestic supply disruptions from natural disasters and civil conflict

### Monetary policy and real interest rates
- Monetary policy response:
  - Policy rates (or reserve requirements) have been increased—often belatedly—in most countries where inflation has surged
  - Real market interest rates (adjusted for actual inflation) remain low or negative in several cases
- Policy easing observed where inflation stabilized:
  - Moldova and Uganda have eased policy rates, reversing 2015 tightening

### Broad money, credit growth, and financial sector signals
- Broad money and credit growth:
  - Moved into lower gear in the past two years, much more markedly in commodity exporters
  - Factors: slowing growth, some monetary policy tightening, and emerging financial sector problems in some cases
- Credit growth observations:
  - Credit continues to grow very rapidly in some cases (such as Cambodia), raising concerns about possible erosion of credit quality
  - Credit slowed markedly where financial stress has materialized (Moldova)

### Outlook: growth, inflation, and macro projections (selected figures)
- Global and LIDC growth outlook:
  - LIDC growth projected to increase in 2017 by some 1.2 percentage points (main driver: modest rebound in fuel exporters)
  - Table 2 PPP-GDP weighted medians (Growth, Inflation, Fiscal Balance, Current Account Balance):
    - Growth (Percent) — LIDCs: 2014: 6.0; 2015: 4.6; 2016: 3.7; 2017: 4.9; 2018-2020: 5.4
    - Commodity Exporters Growth (Percent): 2014: 5.6; 2015: 2.3; 2016: 0.5; 2017: 2.7; 2018-2020: 3.9
      - Fuel Exporters Growth (Percent): 2014: 5.7; 2015: 0.9; 2016: -1.6; 2017: 1.6; 2018-2020: 3.1
      - Non-Fuel Exporters Growth (Percent): 2014: 5.3; 2015: 4.6; 2016: 3.8; 2017: 4.2; 2018-2020: 4.9
    - Diversified Exporters Growth (Percent): 2014: 6.4; 2015: 6.4; 2016: 6.1; 2017: 6.5; 2018-2020: 6.5
    - Inflation (Percent) — LIDCs: 2014: 7.4; 2015: 7.5; 2016: 10.2; 2017: 9.3; 2018-2020: 7.8
      - Commodity Exporters Inflation (Percent): 2014: 9.4; 2015: 9.6; 2016: 15.9; 2017: 13.9; 2018-2020: 11.3
        - Fuel Exporters Inflation (Percent): 2014: 7.5; 2015: 11.0; 2016: 20.8; 2017: 17.2; 2018-2020: 14.0
        - Non-Fuel Exporters Inflation (Percent): 2014: 12.4; 2015: 7.6; 2016: 8.5; 2017: 9.1; 2018-2020: 7.6
      - Diversified Exporters Inflation (Percent): 2014: 5.8; 2015: 5.8; 2016: 5.8; 2017: 5.9; 2018-2020: 5.4
    - Fiscal Balance (Percent of GDP) — LIDCs: 2014: -3.0; 2015: -4.2; 2016: -4.6; 2017: -4.1; 2018-2020: -3.6
    - Current Account Balance (Percent of GDP) — LIDCs: 2014: -2.6; 2015: -4.5; 2016: -3.8; 2017: -3.6; 2018-2020: -4.0
- 2017 inflation patterns:
  - Median rate of 5¼ percent projected for most countries
  - Continued double-digit inflation in several large commodity exporters
  - Inflation well above median in several fast-growing large diversified economies (including Bangladesh, Myanmar, and Ethiopia)
- Fiscal and current account outlook for 2017:
  - Commodity exporters: deficits expected to improve somewhat, helped by full-year effects of the recovery in oil prices during 2016 and some reductions in fiscal spending
  - Diversified exporters: fiscal positions broadly unchanged in aggregate, with consolidation in some (Ghana, Tajikistan, Lesotho) and increased spending in others (Bangladesh, Tanzania); current account deficits largely sideways

### Risks to the baseline and domestic vulnerabilities
- General global risks:
  - a) difficulties in ongoing re-balancing of the Chinese economy
  - b) increasing financial market volatility as monetary easing is scaled back in some advanced economies
  - c) entrenched slow growth in advanced economies
- LIDC-specific risk:
  - Risk of major banks scaling back engagement—project finance, trade finance, correspondent banking relations—in poorer/smaller economies
- Domestic risks cited as most significant:
  - Weak economic and financial policies
  - Sluggish adjustment to commodity price declines becoming disorderly if delayed
  - Weak monetary policy response to surging inflation could destabilize expectations
  - Excessive external borrowing could push debt burdens into dangerous territory
  - Financial sector stresses intensifying in many LIDCs, requiring pro-active supervisory handling

### Policy challenges and recommendations
- For commodity exporters (key messages):
  - Fiscal consolidation sufficient to contain debt accumulation, while protecting outlays key to growth prospects
  - Broadening the tax base should be an important component of consolidation
  - Monetary tightening is needed in many countries, either to defend pegged exchange rates or to contain double-digit inflation
  - Exchange rate flexibility has facilitated adjustment, but must be supported by appropriate monetary policy settings if inflation is to be contained
  - Vulnerable segments of the population need support through well-targeted interventions
- For diversified exporters (general messages):
  - Rebuild fiscal positions and foreign reserve holdings where fiscal deficits are high and public debt elevated
  - Scale-up public investment where projects are sensibly selected and well-executed, while carefully tracking future debt burdens and robustness to shocks
  - Tap foreign commercial finance judiciously to avoid serious erosion of debt sustainability
- Broader resilience-building messages:
  - Value of having a diverse export base; promote economic diversification
  - Importance of building large foreign reserve/asset positions during “good times” in countries with concentrated exports
  - Need to build a strong broad-based domestic tax system drawing from diverse sectors and tax instruments

### Vulnerabilities assessment (GDVI and institutional factors)
- Growth Decline Vulnerability Index (GDVI) findings:
  - Macroeconomic vulnerability in LIDCs remains elevated and most severe among commodity exporters
  - Two-thirds of commodity exporters (and all fuel exporters) assessed to be at high risk, based on weakened fiscal and external positions and, for fuel exporters, sharp decline in growth
  - Less than one-quarter of diversified exporters assessed to be at high risk
  - Share of countries with debt levels indicating heightened vulnerability under GDVI has risen to one quarter in both commodity exporters and diversified exporters (up from about 15 percent prior to the commodity price decline)
- Exchange market pressures (sub-component of GDVI):
  - Variation in stress intensity across commodity and diversified exporter groups highlighted by an index combining shifts in exchange rates and foreign reserve holdings
- Institutional factors:
  - Expanded GDVI that includes government effectiveness, regulatory quality, rule of law improves predictive power
  - Commodity exporters recorded significantly higher vulnerability even prior to the commodity price drop, due mainly to weaker institutions
  - Vulnerability in commodity exporters has increased since 2013 because of weakening macroeconomic positions; diversified exporters show more modest changes with some institutional improvements offsetting macro weakening

*Source: Macroeconomic Developments and Prospects in LIDCs—2016, International Monetary Fund.*

### 35.      As in previous reports, we examine the projected impact on LIDCs of selected adverse

### pp5086-macroeconomic-developments-and-prospects-in-low-income-developing-countries-2016 - 35.      As in previous reports, we examine the projected impact on LIDCs of selected adverse

### Shock scenarios analyzed
- Emerging Markets Slowdown
  - Global growth slows by a cumulative 1.6 percent during 2016–19, relative to the Fall 2016 WEO baseline, recovering in later years.
  - Commodity prices fall relative to the baseline by 10 percent for fuel and 6 percent for metals over 2016–19.
- Global Growth Shock (low probability event)
  - Involves a sustained slowdown in global growth of 0.5 percent relative to the Emerging Markets Slowdown shock.
  - Coupled with a 20 percent decline in commodity prices relative to the baseline.

### Impact estimates: Emerging Markets Slowdown (2016–19)
- Macroeconomic performance
  - Growth in LIDCs weakens by ¾ percent (PPP-GDP weighted) relative to baseline.
- Fiscal and debt
  - Increased debt accumulation by about 2 percent of GDP by 2019.
- External sector
  - Current account balances weaken by 1 percent of GDP.
  - Reserves fall by ¾ months of imports.
  - Resulting external financing gaps of USD 59 billion.

### Impact estimates: Global Growth Shock (2016–19)
- Macroeconomic performance
  - Across LIDCs, growth falls by a cumulative 1¾ percent over 2016–19.
- Fiscal and debt
  - Debt levels increase by 4 percent of GDP.
- External sector
  - Current account balances deteriorate by 2½ percent of GDP.
  - Reserves fall by 1¼ months of imports.
  - Resulting financing gap of USD 137 billion.
- Distributional impacts
  - Commodity exporters: debt rising by 6 percent of GDP (from a PPP-GDP weighted debt stock of about 30 percent of GDP).
  - Fuel exporters: debt rising by 8 percent of GDP.

### Emerging financial sector stress: overview
- Context and causes
  - Deterioration in economic conditions since 2014 poses threats to financial sector health in many LIDCs.
  - Large terms of trade shocks have significant impacts on financial sector stability.
  - LIDC financial sectors have, on average, doubled in size during 2000–15 amid often limited regulatory and supervisory capacity.
- Evidence base
  - Analysis draws on a survey of 52 IMF country teams and available financial soundness indicators (FSIs).

### Key characteristics of LIDC financial systems
- Structure and market depth
  - Banks dominate financial intermediation; financial markets are typically underdeveloped.
  - Frontier market economies have higher financial development but limited market liquidity in most cases.
  - Micro-credit institutions play significant roles in a few countries (Bangladesh, Cambodia, Honduras, Rwanda).
- Ownership patterns
  - Majority of banks are privately owned; foreign-owned banks are important in many countries.
  - State-owned banks play lead roles in some large LIDCs (Ethiopia, Vietnam), with potential trade-offs between profitability and policy objectives.
- Asset-side risks
  - High loan concentration: lending concentrated on sectors hard hit in the past two years in 60 percent of commodity exporters and 30 percent of diversified exporters.
  - Foreign-currency denominated lending creates risks for unhedged domestic borrowers when domestic currency depreciates.
- Liability-side features and vulnerabilities
  - Strong stable domestic funding base from household and non-financial corporate deposits, but vulnerabilities include:
    - Reliance on public sector deposits (risk where fiscal positions are pressured).
    - Fiscal pressures leading to government arrears impairing corporate liquidity and loan servicing.
    - Remittance-linked deposits vulnerable where remittance flows decline (e.g., Nepal, Tajikistan).

### Staff assessments of financial sector stress (survey of 52 country teams)
- Current status and near-term risk
  - Emergence of financial sector stress in about one-fifth of LIDCs; countries experiencing significant stress include Burundi, Moldova, Tajikistan, and Zimbabwe.
  - As many as three-fifths of commodity exporters face an elevated risk of encountering financial sector stresses in the next 12–18 months.
- Bank failures and interventions (past two years)
  - Bank failures occurred in 22 (of 52) LIDCs.
  - Supervisory interventions undertaken in 23 countries, including:
    - Placing banks under temporary administration in 15 countries.
    - Mandating recapitalization in 13 countries.
    - Injecting liquidity in six countries.
  - Estimated fiscal cost of interventions modest in most cases; examples:
    - Sao Tome and Principe: cost of resolving insolvent banks approximately 0.5 percent of GDP.
    - Moldova: cost could reach 12 percent of GDP.
- Underlying causes (multifactor)
  - External developments: falling commodity prices, declining remittances, adverse spillovers from neighbors.
  - Domestic policy failures: delayed/poorly managed policy adjustment to lower commodity prices, build-up of large budgetary arrears, failure to contain insider/related party lending.
  - Regulatory factors: regulatory forbearance, gaps in frameworks, and limited supervisory capacity contributed in more than half of LIDCs with emerging concerns.

### Transmission channels affecting financial sector health
- Public sector arrears
  - Rising government arrears to the corporate sector undermine corporate ability to service debt and harm loan performance (example: Central African Republic—close to one third of loans are non-performing, with government arrears accounting for about half of NPLs).
- Funding tightening
  - Declines in private sector and government deposits cited as important contributors to funding stress (survey responses).
  - Example: Chad—banking system highly exposed to government and to companies dependent on government operations; collapse of fiscal oil revenues strongly impacted financial sector health.

### Evolution of Financial Soundness Indicators (FSIs) (2011–15)
- Non-performing loans (NPLs)
  - Deterioration in NPLs is particularly noteworthy in commodity exporters; NPLs have also risen in diversified exporters.
  - Data coverage limitation: lack of 2016 FSI data is a significant weakness; loan quality problems often surface with a lag.
- Capital provisions, regulatory capital, profitability, liquidity
  - Figures show evolution of capital provisions (percent of non-performing loans), regulatory capital to risk-weighted asset ratios (percent), returns on assets (percent), returns on equity (percent), and liquid assets (percent of total assets) across 2011, 2013, 2015 for commodity exporters, diversified exporters, and frontier markets.
- Cross-country distribution
  - Cross-country distribution of NPL ratios shows large variation and an expanding upper tail over time, indicating some countries have recorded sharp asset quality deterioration.
  - Statistical analysis confirms a link between the scale of a country’s terms of trade decline over the past two years and deterioration in banking system asset quality for commodity exporters; no empirical link found between erosion of asset quality and the pace of credit growth during the boom years.

### Banking regulation and supervision: weaknesses and recommendations overview
- Drivers of supervisory concern
  - Rapid growth of financial systems in contexts of under-developed financial infrastructure requires improved regulation and stronger supervisory vigilance.
  - Specific LIDC banking features giving rise to risks: high concentration, currency mismatches, strong public sector links, shallow interbank markets, often weak bank governance and internal controls, deficiencies in business laws and their application.
- Sources of diagnostic information
  - Analysis draws on more than 300 MCM TA missions to LIDCs during 2013–16 and from 7 Financial Sector Stability Assessments of 10 countries prepared during 2012–16.
- Key weaknesses identified
  - (i) Inadequate supervisory powers and resources.
  - (ii) Limited supervisory capacity.
  - (iii) Supervisory approaches insufficiently risk-focused.
  - (iv) Weak enforcement.
- Compliance observations
  - Few FSAPs undertaken in LIDCs during the last four years found a high level of non-compliance with the Basel Core Principles.

_International Monetary Fund — Macroeconomic Developments and Prospects in Low-Income Developing Countries—2016 (chapter excerpt). Canonical source: https://www.imf.org/-/media/files/publications/pp/pp5086-macroeconomic-developments-and-prospects-in-low-income-developing-countries-2016.pdf_

### 54.      The lack of supervisory independence is largely due to deficiencies in the legal

### pp5086-macroeconomic-developments-and-prospects-in-low-income-developing-countries-2016 - 54.      The lack of supervisory independence is largely due to deficiencies in the legal

### Supervisory independence and legal framework
- The lack of supervisory independence is largely due to deficiencies in the legal framework, and lack of transparency and accountability in relationships between supervisors, political institutions, and the industry.
- Lack of independence often translates into:
  - deficiencies in the bank licensing process;
  - inconsistent enforcement of banking laws and regulations;
  - the inability or unwillingness of supervisors to address bank problems in an effective and timely manner.
- The legal framework in some LIDCs does not provide supervisors with sufficient powers to fulfill their duties:
  - Banking laws do not allow supervisors to apply stricter requirements on specific banks that present a higher risk profile or systemic importance.
  - The range of available corrective actions is limited.
  - Lack of supervisory authority to take action can be especially problematic in countries where enforcement of laws is difficult.
- Many countries provide insufficient legal protection for supervisors:
  - Banking laws in a number of LIDCs are deficient in this respect or not properly applied.
  - Misapplication of legal protection provisions reflects lack of practical procedures, weak judicial systems, and misperceptions about the supervisor’s responsibilities.
  - Supervisors have been sued successfully for taking action against problem banks, with a chilling effect on willingness and ability to take appropriate actions.

### Shortcomings in supervisory capacity
- Limited supervisory capacity is one of the main impediments to effective supervision in LIDCs; capacity is weaker in fragile states and other developing markets than in frontier markets.
- Key capacity weaknesses include:
  - Insufficient or non-autonomous supervisory budget allocation, resulting in insufficient resources;
  - Shortage of staff resources, with important positions frequently left vacant for prolonged periods, reflecting slow administrative processes and unattractive remuneration relative to higher paying bank jobs;
  - Lack of technical expertise, leading to supervisory reports that lack depth and analysis; limited understanding of asset classification; overstatement of bank balance sheet strength; poor interpretation of stress testing reports; limited understanding of Basel requirements and risk-based supervision.

### Shortcomings in the supervisory process and approach
- Weaknesses in process and approach:
  - Need to move further to a risk-based approach, focusing on banking risks, qualitative issues such as corporate governance and management, and the systemic nature of banks.
  - A level playing field is needed for supervision of state-owned banks compared to private banks.
  - Improvements needed in consolidated and cross-border supervision of banking groups (the emergence of pan-African banking groups underlines urgency).
  - Practical issues to resolve include better information sharing between on-site and off-site supervision; formalizing supervisory actions; establishing automated supervisory information and reporting systems.
- Technical assistance (TA) uptake:
  - Over seventy percent of LIDCs have requested (and are receiving) TA to improve the supervisory process and approach over the past four years.
  - Close to fifty percent of LIDCs are receiving TA on risk-based supervision and on the Basel II–III framework.
  - Moving from a compliance-based system to a risk-based system is a longer-term process requiring mindset change, reliable reporting systems, and new supervisory tools.

### Inadequate oversight of banks’ risk management and governance
- Bank risk culture and ability to monitor, supervise, and manage risks is weak:
  - Regulations on risk management need to be enhanced and better covered in supervisory analysis.
  - Bank examinations need to assess whether banks have appropriate risk management strategies, adequate risk appetite, and a sound risk management culture.
  - Many LIDC banks face significant liquidity and operational risks that are not sufficiently taken into account; lax loan classification and provisioning regulations overstate capital and understate vulnerabilities.
  - Stress tests are rarely undertaken due to lack of data and know-how.
- TA uptake:
  - Over thirty percent of LIDCs have received TA to improve risk management over the past four years, including work on early warning indicators and stress testing capabilities.
- Governance weaknesses:
  - Corporate governance (ownership structure, internal controls, internal audit and compliance functions) remains weak.
  - Regulations often do not specify the role and qualifications of the board of directors and its composition; supervisors do not engage with governance boards or determine fitness of members.
  - Audits are often not sufficiently transparent or independent.

### Weak enforcement
- Weak enforcement stems from inadequate legal powers and absence of a clear framework specifying enforcement procedures and measures.
- In many cases where corrective actions were ordered, there was no timely and coherent process to follow-up and escalate as needed.
- Lack of enforcement is partly a symptom of insufficient supervisory independence and the dominant role of state-owned institutions.
- Weak enforcement and regulatory forbearance have exacerbated many banking problems in LIDCs.

### Reform agenda and technical assistance priorities
- LIDCs should prioritize measures addressing weaknesses in regulation and supervision that create main macro-financial vulnerabilities.
- Common priorities include:
  - Giving the banking supervisor sufficient powers to acquire information from banks, assess risks, enforce regulations, and take corrective action.
  - Improving supervisory capacity.
  - Enhancing financial safety nets—mainly banking crisis preparedness and resolution frameworks.
- Country-differentiated priorities:
  - Countries facing high banking system pressures (e.g., some commodity exporters) should prioritize enhancing supervisory risk assessment and stress testing skills, and developing bank resolution and crisis management frameworks.
  - Countries with fewer financial strains could benefit most from strengthening foundations for supervision: supervisory independence and powers through legal and process changes.
- TA role:
  - TA should continue to support LIDCs in implementing reform plans and addressing supervisory framework gaps.
  - TA has focused on developing supervisors’ capacity to assess banking risks and develop risk-based supervision.

### Financial Sector Stability Reviews (FSSRs)
- FSSRs are diagnostic tools to build and implement financial sector reform programs.
- FSSRs assess:
  - country-specific risks and vulnerabilities;
  - adequacy of institutional frameworks;
  - capacity in financial regulation and supervision, and crisis prevention and management.
- FSSRs provide recommendations for enhancing prudential frameworks and safety nets; follow-up TA would draw on Fund experience to ensure financial inclusion and deepening consistent with financial stability.
- Training focus: sustainably strengthening capacity to offset high attrition rates in regulatory agency staffing, combining face-to-face training with new online tools.
- FSSR attributes: (i) agile; (ii) integrated with Fund surveillance and lending; (iii) member-focused with targeted, demand-driven advice and strong country ownership.
- Recent activity:
  - Over the past two years, MCM conducted TA missions as precursors to FSSRs (Mongolia, Lesotho, El Salvador, Sri Lanka, Sudan).
  - First FSSR mission was to Honduras in July 2016; a pipeline of requests is developing.
  - Management approved creation of a Financial Sector Stability Fund to scale up provision of FSSRs; consultations with donors are underway.

### Fiscal risks: overview and key vulnerabilities
- Fiscal risks are factors that may cause fiscal outcomes to deviate significantly from expectations or forecasts, stemming from economic shocks or realization of contingent liabilities.
- Conventional fiscal risk analysis and forecasting tend to underplay potential shocks, including:
  - sharp declines in GDP growth;
  - financial sector crises requiring government bailouts;
  - weak fiscal management in sub-national governments and state-owned enterprises (SOEs);
  - natural disasters.
- Key fiscal risk drivers in LIDCs:
  - Higher levels of revenue volatility than advanced and emerging market economies.
  - Contributory factors to revenue volatility:
    - significant dependence on volatile revenues from commodity exports;
    - relative importance of donor grants (subject to delays and suspensions);
    - importance of one-off tax revenues (e.g., mining exploration agreements).
  - Low quality of revenue forecasting as reflected in PEFA assessments.

### Fiscal shocks, contingent liabilities, and PPPs
- Expenditure shocks can be surges in outlays or realization of contingent liabilities:
  - Examples include failure to pass through international price increases for subsidized products and costs of natural disaster responses.
  - Realization of contingent liabilities can have significant budgetary costs: country examples show fiscal outlays ranging from 1 to 14 percent of GDP.
- Selected fiscal cost examples (percent of GDP) from Figure 35:
  - 0.7
  - 0.9
  - 1.2
  - 4.5
  - 5.3
  - 12.0
  - 3.0
  - 0.6
  - 1.2
  - 1.4
  - 4.2
  - 6.0
  - 10.0
  - 11.8
  - 13.6
- Note on Ebola-related outlays: 3.2 percent of GDP for 2015 and 2.1 percent of GDP for 2016; the amount covers only the cost that the government acknowledges.
- Public-private partnerships (PPPs):
  - Sustained growth of capital assets deployed in PPPs suggests ongoing accumulation of contingent liabilities by LIDC governments.
  - PPP contracts often include government guarantees (e.g., minimum revenue guarantees); expected fiscal cost can be modest if contracts are well-designed but could be considerable with unanticipated shocks.
  - Steady growth of PPPs highlights importance of strong domestic capacity to negotiate and monitor PPP contracts.

### Exchange rate and debt risks
- Exchange rate depreciation can have large impacts on debt stocks and debt service capacity.
- LIDCs typically have a large share of public debt denominated in foreign currencies; exchange rate shocks can significantly affect debt-GDP and debt service/budgetary revenue levels.

### Weakness in fiscal risk management capacity
- Many LIDCs have weak capacity to analyze and manage fiscal risks:
  - Few LIDCs provide a qualitative discussion of fiscal risks in budgetary documents; many provide no analysis of macro-fiscal risks.
  - IMF Fiscal Transparency Evaluations (FTEs) and PEFA assessments highlight substantial scope for improving risk analysis, disclosure, and management.
- Weak monitoring of public sector entities outside central government:
  - Central government is usually implicit (or explicit) guarantor of sub-national governments, autonomous agencies, and public enterprises/SOEs and should have formal oversight, monitoring, and management roles.
  - PEFA assessments indicate that the preponderance of LIDCs have only limited oversight and monitoring of public sector entities outside the central government.

*Source: Excerpt from IMF, MACROECONOMIC DEVELOPMENTS AND PROSPECTS IN LIDCS—2016*

### 73.      LIDCs can improve fiscal risk management by building capacity in three areas:

### 73.      LIDCs can improve fiscal risk management by building capacity in three areas: 

### Capacity-building priorities and institutional reforms
- LIDCs should build capacity in three areas: (i) identifying and assessing risks; (ii) controlling risks; and (iii) monitoring and reporting risks.
- Institutional reforms will likely be needed to support risk management.
- Good practices include enacting a risk management policy, defining accountabilities, and establishing a central risk oversight body.
- Many LIDCs can reap economies of scale by centralizing the oversight of PPPs and state-owned enterprises.

*Identify and Assess Risks*

- Policy-makers should deepen awareness of risks to public finances by identifying main sources of fiscal risk and, if feasible, assessing the size of fiscal exposure and the likelihood of individual shocks.
- A starting point: analyze fiscal implications of shocks to prices and output of key export commodities and develop understanding and monitoring of main explicit contingent liabilities (such as guarantees, including to PPPs).
- The IMF, through its Article IV consultations, can provide direct assistance.
- Fiscal stress tests that integrate macroeconomic shocks and realization of contingent liabilities should examine impacts on both flow variables (government revenue, expenditure, and financing) and stock variables (government liabilities).
- As countries collect more information and build capacity, they can develop alternative macro-fiscal scenarios based on plausible shocks to key economic variables in collaboration with IMF staff or other development partners.
- Debt Sustainability Analyses (DSAs) offer a useful tool for assessing medium-term implications of fiscal policy strategies and sensitivity of public debt outlook to plausible macroeconomic shocks.
  - The IMF-World Bank LIC Debt Sustainability Framework (LIC-DSF) offers a standardized methodology for such assessments; use of the DSF by governments is supported through training programs financed via multi-donor trust funds.
- Probabilistic simulation of government debt can complement DSAs in countries with well-developed risk analysis to analyze the distribution of debt under various shocks and to assess the size of the “safety margin” needed to remain beneath chosen debt ceilings.

*Contain Risks (risk mitigation options)*

- Countries can mitigate the impact of plausible shocks by:
  - Build fiscal buffers: accumulate resources in stabilization funds in “good years” to provide space for countercyclical fiscal policies when hit by shocks—particularly important for commodity exporters with volatile export and budgetary revenues.
  - Diversify revenue sources: for commodity exporters, reduce budgetary revenue volatility by gradually increasing tax revenues from other sources—e.g., steadily increasing receipts from indirect taxes (e.g., VAT).
  - Introduce direct controls, ceilings, or caps: LIDCs with weak institutional capacity benefit from strong direct controls—examples include limits on sub-national borrowing, ceilings on the issuance of government guarantees, and centralized clearance for issuance of guarantees.
  - Strengthen regulatory requirements and oversight: improve regulation of entities that contribute to fiscal risks (e.g., the banking system; state-owned enterprises); charging risk-related fees for formal guarantees will limit proliferation of exposures.
- Risk mitigation needs to strike an appropriate balance between its costs and benefits.

*Monitor and Disclose Risks*

- Consistently monitor accumulation of explicit contingent liabilities, such as guarantees and PPPs, and disclose this information in budget documents.
- Effective monitoring is the starting point for providing governments with an accurate picture of the public finances and its risk profile.
- Transparent disclosure on a timely basis allows better monitoring by legislatures, markets, and citizens, which can strengthen risk assessment quality and provide tools for government accountability.

### Infrastructure investment — challenges and stylized facts
- Scaling up infrastructure investment is a key component of national development strategies in LIDCs; quality, quantity, and accessibility of economic infrastructure in LIDCs lag considerably behind advanced and emerging market economies.
- Infrastructure gaps for all developing countries are estimated at $1 to $1.5 trillion per year.
- Public policy choices determine how infrastructure delivery is organized and on levels and composition of investment; expectations about future policy decisions influence private investor willingness to invest or lend to infrastructure providers.
- Most LIDCs traditionally opted for direct state provision of infrastructure services, but use of public-private partnerships and private sector role has been increasing.
- There is no “one-size-fits-all” optimal public/private mix; private investors often require government financial guarantees, blurring the public/private division.

*Trends in public investment and saving (2000–2015)*
- Analysis based on 47 LIDCs with data on public investment and public saving in national accounts.
- Median public investment in LIDCs:
  - rose from 5.5 percent in 2000 to 6.7 percent in 2007,
  - dipped in the wake of the global financial crisis (GFC),
  - subsequently recovered (Figure 41 referenced).
- The current median level of public investment in LIDCs is similar to that observed in present-day emerging markets in the 1980s and is higher than the 1990s EM median of 6 percent of GDP.
- Public investment increases have been accompanied by a broad increase in the stock of infrastructure across LIDCs, though quantity and quality still lag compared to EMs.
- Cross-country variation:
  - For commodity exporters, investment rose notably before the GFC and declined to lower levels since 2014 due to lower commodity prices.
  - In several fragile states, post-conflict reconstruction contributed to rising public investment in the 2000s.
  - After 2007, public investment rose in LIDCs that benefited from debt relief during that period (“late HIPCs”), while remaining substantially unchanged in diversified LIDCs.
  - Average public investment levels exceeded 10 percent of GDP during 2011–15 in 12 LIDCs.
- After the GFC, a wide gap opened between public investment and public saving:
  - In the mid-2000s public saving rose markedly in LIDCs, financing increasing shares of public investment and contributing, with debt relief and strong growth, to a large decline in public debt burdens.
  - Public saving declined markedly with the onset of the GFC, while investment levels were sustained through increasing recourse to debt financing.

*Boxed findings on infrastructure outcomes and country example*
- Infrastructure improved notably in most LIDCs over the past 15 years, with progress most rapid in frontier economies and less perceptible in fragile states.
- Sectoral differences:
  - Information and communication technology expanded dramatically (internet servers grew from near zero in 2000 to average of six servers per million people in 2015).
  - Electricity generation per capita increased by 57 percent on average; some countries had jumps over 300 percent.
  - Access to improved water and sanitation rose on average by around 20 percent from 2000 to 2014.
  - Transport infrastructure improvements were relatively minor despite being a large item in capital budgets.
- The link between average public investment during 2000–2010 and infrastructure improvement between 2010 and 2013 is positive but not tight, reflecting geographic conditions, shares of infrastructure in public investment, and variation in investment efficiency.
- Remaining gaps: electricity generation capacity, reliability (a typical firm in a low-income country faces 18 outages per month on average vs. 8 and 3 in lower middle and upper middle income countries), road density, and mobile phone penetration (72 phones per 100 people in 2014 in LIDCs vs. 118 per 100 people in EMs).

- Case study — Ethiopia:
  - Public investment rose from 14 percent of GDP in FY2008/09 to 18 percent in FY2015/16.
  - From FY2009/10 to FY2014/15: power generating capacity more than doubled, telecom users quadrupled, stock of asphalt roads rose by 30 percent; new light rail and a 750 km electric railway line opened.
  - Electric outages doubled between 2011 and 2015; reliance of manufacturing firms on own electricity generators also doubled (World Bank Enterprise Survey data).
  - Financing sources included compressed current expenditure, debt cancellation under HIPC, external borrowing averaging 5.7 percent of GDP per year over FY2009/10–2014/15, cheap forced lending by private domestic banks, and SOEs’ access to credit from state-owned banks.
  - Public and external debt: domestic and external public debt stood at 24 and 30 percent of GDP, respectively, in FY2015/16 and was expected to increase further with the second GTP implementation.
  - The 2015 debt sustainability analysis raised the risk of debt distress from low to medium.
  - Total debt projected to reach peak at 61 percent of GDP in FY2017/18 and gradually decline as large public investment projects are completed.

*Chapter purpose and next steps*
- The chapter examines recent trends in infrastructure investment in LIDCs, reviews key policy challenges to ensure appropriate investment levels, reviews the role of multilateral institutions in supporting investment and improving public sector management capacity, and concludes with key policy messages.

*Selected data points and metrics preserved from the source*
- Infrastructure gaps estimate: $1 to $1.5 trillion per year.
- Internet servers: average of six servers per million people in 2015 (from near zero in 2000).
- Electricity generation per capita increased by 57 percent on average (2000–2015).
- Access to improved water and sanitation rose on average by around 20 percent from 2000 to 2014.
- Mobile phone penetration: 72 phones per 100 people in 2014 in LIDCs (vs. 118 per 100 people in EMs).
- Median public investment: 5.5 percent in 2000; 6.7 percent in 2007.
- Analysis sample: 47 LIDCs with data on public investment and public saving.
- Ethiopia public investment: 14 percent of GDP in FY2008/09; 18 percent in FY2015/16.
- Ethiopia external borrowing averaged 5.7 percent of GDP per year over FY2009/10–2014/15.
- Ethiopia domestic and external public debt: 24 and 30 percent of GDP, respectively, in FY2015/16.
- Ethiopia total debt projected peak: 61 percent of GDP in FY2017/18.

*Italicized source attribution below as provided in the source content*
*MACROECONOMIC DEVELOPMENTS AND PROSPECTS IN LIDCS—2016, INTERNATIONAL MONETARY FUND*

### 89.      We use information collected from a survey of IMF country teams to compile a picture of

### pp5086-macroeconomic-developments-and-prospects-in-low-income-developing-countries-2016 - 89

### Data and methodology
- Information compiled from a survey of IMF country teams, with data gathered for 32 countries, with assistance from national authorities.
- Caveat: information is not fully standardized across countries—especially because of differences in coverage—but provides useful insights.
- About 80 percent of country teams reported data for the central government.
- The list of 32 countries with survey data can be found in Annex I.

### Public investment levels and recent trends
- Investment in economic infrastructure accounted for about one-half of total public investment in LIDCs.
- The median investment level stood around 3 percent of GDP in 2011–14, but dropped significantly in 2015 as commodity exporters were hit by falling export prices.
- Frontier market economies had somewhat higher levels of investment; fragile states typically had lower-than-average investment levels.

### Sector composition of public infrastructure investment
- Transportation sector accounted for about half of total investment in economic infrastructure.
- Sector shares (Average, 2011–15):
  - Transport: 53%
  - Energy: 19%
  - ICT: 6%
  - Water and Sanitation: 22%
- Low share of public outlays on energy is noted as a concern; low public spending on ICT reflects central role of private firms in mobile telephony.

### Private sector participation and PPPs
- Private sector participation primarily via Public-Private Partnerships (PPPs); “pure” private provision is uncommon in LIDCs, except mobile telecommunications.
- PPPs averaged 0.4 percent of GDP per year on average in the last five years, with large cross-country variation.
- Geographic distribution:
  - Asia attracted more than half of PPP investment in LIDCs; Lao PDR led in volume terms due to hydroelectric projects exporting electricity under long-term power purchasing agreements.
- PPPs concentrated in the energy sector, particularly in Asia; some involvement in transportation (notably in sub-Saharan Africa); little engagement in water/sanitation.
- 87 percent of all PPPs in the last five years financed greenfield projects.
- Central government is the main counterpart; minimal participation by subnational governments.
- About a quarter of PPP projects in LIDCs involve MDB participation and financial support (direct loans and credit enhancements, including political risk coverage and partial credit guarantees).
- Table of countries with most PPPs, 2011–15 (selected entries):
  - Lao PDR: # PPPs 18; Value (mil. US$) 8,075; % of GDP (per year) 15.3
  - Nigeria: # PPPs 5; Value (mil. US$) 5,812; % of GDP (per year) 0.2
  - Vietnam: # PPPs 31; Value (mil. US$) 5,430; % of GDP (per year) 0.6
  - Bangladesh: # PPPs 22; Value (mil. US$) 2,688; % of GDP (per year) 0.3
  - Honduras: # PPPs 18; Value (mil. US$) 2,636; % of GDP (per year) 2.8
  - Ghana: # PPPs 3; Value (mil. US$) 1,466; % of GDP (per year) 0.7
  - Kenya: # PPPs 7; Value (mil. US$) 1,358; % of GDP (per year) 0.5
  - Nepal: # PPPs 12; Value (mil. US$) 1,173; % of GDP (per year) 1.2
  - Zambia: # PPPs 3; Value (mil. US$) 1,170; % of GDP (per year) 0.9
  - Senegal: # PPPs 6; Value (mil. US$) 717; % of GDP (per year) 1.0

### Official development finance and syndicated loans
- Official development finance (ODF) is an important and stable source of infrastructure funding in LIDCs.
- In 2014, LIDCs received nearly $17 billion in project finance from MDBs and OECD members.
- ODF composition (averages for 2013–2014):
  - Grants and concessional loans averaged 88 percent of ODF in 2013–2014 for LIDCs (versus 63 percent for all developing countries).
- Multilateral support accounted for 57 percent of ODF; bilateral for 43 percent. The World Bank is the largest multilateral donor; Japan is the largest bilateral donor.
- ODF disbursements for infrastructure, 2014 (Simple Averages, Percent of GDP):
  - LIDCs total: Grants 1.3; Concessional Loans 0.7; Other Official Flows 0.1; Total 2.0
  - Fragile: Grants 1.9; Concessional Loans 0.4; Other Official Flows 0.1; Total 2.4
  - Non-Fragile: Grants 0.7; Concessional Loans 0.8; Other Official Flows 0.1; Total 1.6
  - Frontier: Grants 0.4; Concessional Loans 0.8; Other Official Flows 0.1; Total 1.4
  - Non-Frontier: Grants 1.5; Concessional Loans 0.6; Other Official Flows 0.1; Total 2.2
  - Commodity Exporters: Grants 0.8; Concessional Loans 0.4; Other Official Flows 0.0; Total 1.3
  - Diversified Exporters: Grants 1.6; Concessional Loans 0.9; Other Official Flows 0.1; Total 2.6
- Sectoral allocation of infrastructure ODF to LIDCs shifted between 2006–2014: share of transportation projects declined from 53 percent in 2006 to about 45 percent in 2013–2014, while the share of energy increased.
- Non-OECD providers (notably China and India) are important:
  - China directs over 70 percent of its development financing to infrastructure (Amusa et al., 2016).
  - China contributes about 20 percent of external finance for infrastructure projects in sub-Saharan Africa (Gutman et al., 2015); most provided by China EXIM Bank.
  - India’s development financing for infrastructure in LIDCs is more modest and mainly to neighboring countries for energy and transportation.
- New multilateral institutions (AIIB and NDB) expected to provide new sources of infrastructure finance over time.
- International syndicated loans are an important source of project finance in some LIDCs. Largest recipients include Vietnam, Uzbekistan, Nigeria, Lao PDR, Ethiopia, and Kenya, with MDBs participating in about one fourth of such loans.
- Cross-border bank lending rose in the late 2000s, peaked in 2013, then fell significantly alongside the drop in commodity prices in 2014–15.
- Sector distribution of syndicated loans: 52 percent to energy and utilities; 19 percent to telecommunications; 17 percent to transportation.
- ODF and syndicated loans are complementary: ODF focused more on transportation; syndicated loans more on energy and utilities.

### Constraints to scaling up infrastructure investment
- Bridging infrastructure gaps remains a challenge; current scale of investment is insufficient to close gaps over the SDG horizon.
- Constraints include rising public debt levels, tightened external financing conditions, and weakened growth prospects (particularly for commodity exporters).
- Large investment scaling-up episodes do not necessarily translate into growth due to limited absorptive capacity (selection and implementation of multiple projects require large technical and managerial resources).
- IMF team survey findings on key obstacles to scaling up public investment in economic infrastructure (based on 46 responses; scores range 1–6 in decreasing order of importance):
  - For LIDCs overall, no single dominant constraint, but availability of external finance and administrative capacity are important.
  - Fragile states: availability of external finance and administrative capacity seen as key barriers.
  - Frontier economies: availability of domestic resources and concerns about debt accumulation were most important.
- Specific factors cited:
  - Availability of external finance
  - Availability of domestic resources
  - Limits on debt accumulation (including debt sustainability concerns, debt ceilings, and lending policies of international institutions)
  - Administrative capacity constraints
  - Human and physical resource constraints

### Policy recommendations and measures to sustain/increase investment
- Measures suggested to sustain and increase infrastructure investment include:
  - Mobilizing public saving by streamlining and prioritizing expenditures and increasing tax revenues. Noted: significant gaps remain in the efficiency of tax collection.
  - Improving the efficiency of public investment.
  - Increasing the supply of concessional external financing.
  - Expanding private sector involvement in provision and financing of infrastructure while maintaining sustainable public finances, through effective leveraging of MDBs and DFIs.
- Increasing public investment efficiency:
  - The average size of the public investment efficiency gap is estimated at 40 percent in LIDCs, indicating large scope for boosting investment returns.
  - Efficiency gap varies: commodity exporting LIDCs estimated at 49 percent; diversified exporters at 36 percent.
  - Median and mean efficiency scores for LIDCs fall behind those for emerging market economies.
  - Efficiency tends to increase with income per capita, but there is greater variation within LIDCs; some frontier-market commodity exporters show significantly larger gaps than income peers.
- Actions to improve public investment efficiency (general guidance):
  - Ensure fiscal sustainability and effective coordination across sectors and levels of government by applying fiscal principles or rules that guide sustainable and adequate levels of public investment.
  - Allocate capital spending to the most productive sectors and projects based on effective cost-benefit analysis, including risk assessments; ensure adequate funds for maintenance.
  - Strengthen institutions related to project implementation. Increase transparency of budget execution and openness of procurement.
  - Ensure transparency and accountability in project management through monitoring and evaluation to deliver projects on time and on budget and ensure value for money and integrity.
  - Strengthen management of PPPs with strong institutional framework; systematically monitor PPP commitments and consider subjecting them to overall limits to contain fiscal risks.
- Survey note: only 40 percent of LIDC country teams indicated that new projects included a budget for maintenance.

*International Monetary Fund — MACROECONOMIC DEVELOPMENTS AND PROSPECTS IN LIDCS—2016 (excerpt pp. 89–61)*

### Box 8. Lessons from PIMA in LIDCs

### Box 8. Lessons from PIMA in LIDCs

### Overview of PIMA use in LIDCs
- The Public Investment Management Assessment (PIMA) framework has been employed in a few pilot LIDCs.
- PIMA provides a comprehensive evaluation of fifteen institutions relevant to public investment at three key stages of the investment cycle—planning, allocation, and implementation.
- Confidential mission-based PIMA assessments have been conducted for four LIDCs.
- Prepared by Olamide Harrison (FAD).

### Key findings from PIMA evaluations
- LIDCs would particularly benefit from strengthening institutions related to project allocation and project implementation.
- To efficiently allocate scarce capital to the most productive areas, developing and applying sound criteria and guidelines for appraisal and selection of projects is essential.
- Establishment of review processes and guidelines for ongoing projects as well as ex-post project evaluation is recommended.
- Measures to reduce uncertainty surrounding the allocation of resources along the project lifecycle would help improve the execution of internally-financed projects and prevent project implementation delays.
- Competitive and transparent tendering would facilitate the timely and cost-effective implementation of public investment projects.
- Commodity exporters exhibit greater institutional strength than diversified exporters in the allocation and implementation stages, but lower strength in the planning stage of the public investment cycle.
- Diversified exporters scored higher than their commodity exporting counterparts in national and sectoral planning (Cameroon and Liberia are examples of countries with good planning institutions), central-local coordination, management of PPPs, and regulation of infrastructure companies.
- Commodity exporters scored higher in institutions related to allocation such as budget comprehensiveness, and budget unity. They also performed better in the implementation stage with protection of investment and availability of funding, although diversified exporters displayed greater transparency of budget execution.

### Institutions assessed by PIMA (fifteen)
- 1. Fiscal Rules
- 2. National & Sectoral Planning
- 3. Central-Local Coordination
- 4. Management of PPPs
- 5. Company Regulation
- 6. Multiyear Budgeting
- 7. Budget Comprehensiveness
- 8. Budget Unity
- 9. Project Appraisal
- 10. Project Selection
- 11. Protection of Investment
- 12. Availability of Funding
- 13. Transparency of Execution
- 14. Project Management
- 15. Monitoring of Assets

### Comparative sample referenced
- The comparison is based on institutional scores available for three commodity exporters and nine diversified exporters among LIDCs as well as nine emerging markets.

*Source: Box 8, MACROECONOMIC DEVELOPMENTS AND PROSPECTS IN LIDCS—2016.*

### 114.      National authorities should be at the center of these efforts. Countries need to strike a

### National authorities should be at the center of these efforts.

### Fiscal balance between development outlays and debt sustainability
- Countries need to strike a careful balance between supporting development outlays and maintaining debt sustainability.
- As fiscal risks limit room for borrowing, additional resources for public investment need to be sought through:
  - domestic revenue mobilization,
  - expenditure prioritization,
  - concessional financing.
- Given the scarcity of resources, improving administrative capacity and investment efficiency is paramount.
- There is scope for PIM and SOE reforms in most LIDCs.

### Private sector involvement and complementary investments
- A major increase in private sector involvement is essential as a complement to government activities.
- Private participation requires concerted efforts to improve:
  - the regulatory and macroeconomic environment,
  - complementary investment in health and education.
- Particular attention should be paid to:
  - strengthening PPP frameworks,
  - developing pipelines of bankable projects,
  - transparent procurement processes,
  - standardizing contracts.
- Footnote reference: The package is described in IMF, 2015g, page 35.

### Role of development partners, MDBs, and DFIs
- Development partners have a large role to play in supporting infrastructure investment.
- MDBs and DFIs have pledged to scale up their infrastructure financing considerably over coming years.
- MDBs are pivoting toward a catalytic role to facilitate private sector involvement by providing:
  - assistance with legal and institutional frameworks (including for PPPs),
  - project preparation facilities,
  - various risk mitigation measures.
- The Addis Ababa Action Agenda recognizes private sector participation as indispensable for achieving ambitious development goals.

### LIDC groupings and selected statistics (Annex highlights)
- LIDC subgroup counts shown in Annex Table 1:
  - Frontier Markets (14)
  - Fragile States (28)
  - Developing Markets (19)
- Note from Annex Table 1: "The number of countries is shown in the parentheses."
- Selected GDP per capita (2015 U.S. Dollars) entries from Annex Table 2:
  - Benin: 780
  - Uganda: 609
  - Burundi: 304
  - Bangladesh: 1,292
  - Bhutan: 2,591
  - Mongolia: 3,946
  - Nigeria: 2,763
  - Bolivia: 3,099
  - Honduras: 2,530
  - Nepal: 748
- Source for Annex figures: World Economic Outlook.

*International Monetary Fund — Macroeconomic Developments and Prospects in Low-Income Developing Countries—2016 (selected excerpts).*

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