## _090208a

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---

### Executive Summary — overall assessment and strengths of bilateral surveillance
- Stakeholders hold the overall quality of Fund surveillance in high regard.
- The Fund adds significant value to country authorities, and even more so to Executive Directors and financial markets.
- Value-added ranking by country type: greatest in, and on, developing economies; next in emerging markets.
- Traditional areas of strength: fiscal policy; analysis of recent developments and short-term outlook.

### Evidence base and scope of the TSR
- TSR focus: bilateral surveillance in the recent past, substance over process.
- Methodology included:
  - review of a random representative sample of 50 staff reports for consultations conducted since mid-2007;
  - wide consultations via anonymous surveys (Executive Directors, country authorities, mission chiefs, market participants) and interviews by independent consultants and staff;
  - in-depth topical case studies, including one by an independent consultant.
- TSR objective: inform medium-term operational priorities and reflected in a draft Statement of Surveillance Priorities (Annex).

### Progress since the 2004 BSR
- Significant progress toward 2004 BSR monitorable objectives:
  - Sharper focus on Fund’s core mandate.
  - Improved coverage and quality of exchange rate analysis.
  - Progress on treatment of spillovers; enhanced multilateral perspective and more cross-country analysis.
  - Increased attention to financial sector surveillance (FSS); progress in identifying financial sector vulnerabilities, notably thanks to the FSAP.

### Follow-up to past advice (Box 1 findings)
- Staff reports’ review on follow-up:
  - In most cases, countries’ actions were “mostly” or “partly” consistent with past Fund advice; in only about 10 percent cases was Fund advice found mostly not followed.
  - Among consistent cases: a quarter each related to fiscal policy and structural reform in core areas; 15 percent to monetary policy; 5 percent to exchange rate policies.
  - Reasons for partial/non-following: about half—countries agreed but wanted slower pace; a quarter—agreed but needed technical assistance; remainder—countries did not agree with advice.
- Staff proposal (not endorsed by the Board): discontinue requirement to report in each Article IV on follow-up to past staff advice.

### Four highest-priority areas for future focus
- Identified as areas where value-added is weakest yet central to the Fund’s mandate.

Risk assessment
- Findings:
  - Surveillance pays insufficient attention to risks around the baseline; sometimes “star-struck” by good performance.
  - Experience in the runup to the subprime crisis: need to “connect the dots,” think the unthinkable, highlight known unknowns.
- Recommendations:
  - More systematic assessments and effective presentation of risks around the baseline.
  - More emphasis on insuring against low-probability but high-cost risks.
  - Better incorporation of multilateral/regional risk analysis.

Integration of macroeconomic and financial sector surveillance
- Findings:
  - Need better analysis of two-way transmission channels between financial and real sectors and more specific financial sector advice.
  - Resource constraints and tradeoffs.
- Recommendations:
  - Develop a framework for systematic macro-financial surveillance, supported by guidance.
  - Build and deploy financial expertise strategically; continue methodology/toolkit development.

Multilateral perspective
- Findings:
  - Large unmet demand for analysis of inward and outward cross-border spillovers and cross-country analysis.
- Recommendations:
  - Leverage WEO and GFSR analytical findings.
  - Improve cross-country information sharing.
  - Reward cross-country work based on value-added to policy discussion.

Exchange rate assessments
- Findings:
  - Need better integration into overall macroeconomic assessment and more transparent presentation.
  - Underlying methodologies need improvement in challenging cases; candor and evenhandedness needed.
- Note: recent steps taken to address issues; further progress achievable without new initiatives.

### Other key areas for improvement and preservation
Communicating effectively
- Issues:
  - Proliferation of vehicles is counterproductive.
  - Need brevity, timeliness, clarity, and strategic delivery of few key messages.
- Recommendations:
  - Rationalize and modernize communications vehicles; encourage publication of end-of-mission statements; give countries option to release executive summary and summing up together; rewrite summings up in reader-friendly form.
  - Tailor messages to audiences and emphasize context over volume.

Preserving existing strengths
- Vigilance required not to backtrack on fiscal focus and other established strengths.

Ensuring similar quality of surveillance across countries
- Quality dimensions affected by factors that should not be relevant (size, geographic location), calling for continued attention.

---

### Detailed findings and statistics (selected)
- SIPs devoted to Surveillance Decision issues increased by 9 percentage points between second half of 2006 and first half of 2008 to 86 percent.
- Close to 90 percent of country officials perceived surveillance as rightly focused.
- Exchange rate coverage:
  - IEO 2006 sample: less than two thirds provided an assessment of the exchange rate; TSR sample: more than 90 percent did.
  - Share of SIPs on exchange rate and competitiveness doubled from 2006 to 2008, to 20 percent.
  - More than half of reports in TSR sample provide a robust assessment of exchange rate level using multiple techniques.
- Financial sector surveillance:
  - 80 percent of reports analyzed financial stability indicators.
  - Close to 60 percent—and 75 percent for advanced economies—provided a clear diagnostic of financial sector vulnerabilities.
  - 40 percent of reports do not allow readers to form a clear view on degree of financial sector vulnerabilities.
  - About a quarter of reports had financial sector policy recommendations either not clearly justified or too generic.
  - Two thirds of Executive Directors and three-quarters of country officials noted better coverage of financial sector issues.
- Risk assessment coverage:
  - Only about 60 percent of staff reports presented the short-term economic outlook, including risks, in a substantiated way.
  - Close to three-quarters of reports offer a well-articulated medium-term scenario.
  - Only about half of reports whose baseline MT/LT scenario was identifiable (36 percent of total) were considered to include a satisfactory discussion of baseline risks.
  - About a third of reports suffered from limited risk analysis issues (e.g., not seeing beyond obvious risks).
  - 8 percent of all reports did not discuss risks to the outlook at all.
  - Only about a third of Executive Directors thought most staff reports took as baseline a medium-term and long-term outlook that was neither too optimistic, nor pessimistic.
- Macro-financial integration:
  - Only about a quarter of reports clearly identified key risk transmission channels between financial sector and real economy.
  - 40 percent of reports do not allow a clear view on financial sector vulnerabilities due to lack of quantitative evidence or overly hedged language.
  - About a quarter of reports with diagnosed vulnerabilities had recommendations that were not clearly justified or were too generic.

### Box 2 — Case study: Bilateral surveillance in the run-up to the subprime crisis (summary)
- Scope: surveillance assessed in four countries (U.S., U.K., Switzerland, Germany) up to August 2007.
- Observations:
  - Vulnerabilities recognized and individually investigated (housing market, securitization, increased leverage, lack of transparency).
  - FSAPs and MCM participation were invaluable in identifying emerging risks.
  - Failures: wrong calls on U.S. housing bubble and aggregate implications; impact of risks often underestimated or not quantified; reassuring headline messages obscured concerns.
  - “Known unknowns”: lack of information on exposures and complexity of securities.
  - “Unthinkables”: features like interbank money market freeze.
- Lessons:
  - Need to “connect the dots,” think the unthinkable, highlight known unknowns, and be bolder in communicating concerns and taking clear positions.

---

### Three key recommendations to promote further progress

A clearer organizing framework for macro‑financial surveillance
- Develop a framework to:
  - Systematically analyze financial sector issues and implications in Article IV consultations.
  - Motivate policy advice and leverage FSAPs and technical assistance.
  - Focus judgment on likelihood and impact of key financial stability risks, vulnerabilities, development issues, integration into macro analysis, and analysis of tail event risks.
  - Guide further research and disseminate best-practice examples.

Fund’s FSS toolkit and methodological development
- Continuously refresh the FSS toolkit and prioritize:
  - Financial stability assessments (advanced stress testing and risk modeling).
  - Macro-financial linkages.
  - Cross-border spillovers.
- Improve mechanisms for early warning of risks to global financial stability and prioritize analysis of financial channels at regional and global levels.

Macro‑financial expertise: build and deploy strategically
- Address supply shortfall via:
  - New training programs and HR policies facilitating training assignments, swaps, and recruitment of financial sector specialists.
  - Deploy existing expertise on a risk-based basis, prioritizing systemic/regional importance, importance of vulnerabilities, and importance of financial development issues for macro or external stability.

---

### Multilateral perspective and cross‑country spillovers — findings and steps
- Perceptions and evidence:
  - Only a minority of Executive Directors felt many or most staff reports met expectations on inward spillovers; even fewer for outward spillovers.
  - Majority of country officials noted staff’s analysis of inward spillovers did not improve understanding.
  - Most reports refer to some external factors, but only about a third explicitly discuss how global trends impact their countries.
  - Coverage of outward spillovers for systemic countries remains limited.
- Good practices: SIP chapters on cross-border spillovers; country examples (Chile, Uruguay, Colombia, Mexico) and regional studies (Nordic-Baltic).
- To strengthen multilateral perspective:
  - Better leverage WEO and GFSR findings; use regional surveillance to bridge gaps.
  - Design cross-country work explicitly to inform bilateral surveillance in multiple countries.
  - Improve access/sharing of cross-country knowledge and adjust incentives to reward value-added cross-country work.

### Exchange rate assessments — key issues and way forward
- Issues:
  - Need better integration into macro assessments and transparency on assumptions/techniques.
  - Instances of inconsistent policy advice versus assessed alignment.
  - Widespread dissatisfaction among country authorities and Executive Directors; wariness about techniques; assessments sometimes a “black box.”
  - Methodological challenges for specific economy types and global consistency.
- Candor and evenhandedness:
  - Post-2007 Decision: most post-Decision reports included a clear bottom line assessment vs. most pre-Decision did not.
  - Since adoption, a very large proportion of exchange rates assessed “broadly in line with fundamentals” despite large current account imbalances.
  - In 15 of 22 post-Decision consultations where staff expressed over- or undervaluation, corresponding summings up were less clear-cut.
- Way forward:
  - Use recent operational guidance to strengthen integration, transparency, and consistency.
  - Disseminate methodological guidance and best practices; continue research.
  - Include exchange rate assessments among monitorable surveillance priorities, broadened to encompass external stability risks.

---

### Communicating effectively — findings and recommended trade-offs
- Assets: policy dialogue highly valued; oral communication adds most value; main conclusions judged comprehensible in 90 percent of cases.
- Problems:
  - Proliferation of vehicles; 60 percent of staff reports lacked a clear, small set of priority messages.
  - Jargon/overly long sentences hindered communication in about one-third of reviewed reports.
  - 54 percent of reports assessed as good or very good in overall communication value.
  - Only 43 percent of Directors thought most reports were well-argued and convincing.
- Recommendations and trade-offs:
  - Encourage greater candor with safeguards; rationalize vehicles; tailor messages; emphasize conciseness vs. coverage trade-offs; accept risk of getting things wrong versus producing overly hedged reports.

---

### Quality-of-surveillance findings (paragraphs 40–41) and governance prompts
- Factors influencing quality measures: income level, size, geographic location, exchange rate regime.
- Reports more likely to meet good practice for:
  - advanced economies;
  - countries with flexible exchange rates;
  - big and very small economies;
  - countries in Asia-Pacific, Europe, and the Western Hemisphere.
- Observations:
  - Differences sometimes reflect expectations for resource allocation to systemically important countries or exogenous constraints (data availability).
  - Quality for very small (mostly poor) countries appears at par with largest (mostly rich) countries.
  - Conclusion: findings “not alarming” but call for continued attention; review process can minimize unwarranted differences.
- Questions for Directors (selected):
  - Do Directors agree the evidence suggests surveillance adds significant value and that significant—albeit uneven—progress has been made toward 2004 BSR objectives?
  - Do Directors agree with the priority areas identified and recommendations highlighted?
  - Do Directors consider the TSR methodology establishes a consistent and robust framework for future TSRs?

---

### Annex: Statement of Surveillance Priorities (SSP) — overview and priorities
- Purpose and scope:
  - Proposal for IMF’s first SSP to guide surveillance work through a three-year horizon; draws on WEO, GFSR, and TSR findings.
  - Operational priorities reflect TSR recommendations and are consistent with Article IV and the 2007 Surveillance Decision.
  - Priorities revisitable as circumstances change; management and staff responsible for meeting operational priorities.
- Progress reporting and governance:
  - Regular progress reporting on SSP priorities; detailed assessment at next TSR.
  - Progress reports and planned actions to appear in Work Program statements and semi-annual briefings.
- Overarching objective (guiding through 2011):
  - Early warnings and rapid response. Provide clear, advance warning of developments and risks in the global economy, to help members take actions needed to support their economies during a period of global adjustment.
- Economic priorities (intertwined):
  - Adjusting to global financial and commodity booms and busts.
  - Reducing global imbalances in an orderly manner while minimizing adverse real and financial repercussions.
  - Optimizing potential of global capital flows while forestalling disruptive patterns; strengthen global financial system with emphasis on regulation and supervision, including across borders.
- Operational priorities:
  - Risk assessment: refine tools for clear early warnings; systematic analysis of major risks to baseline projections, including high-cost tail risks, and policy implications.
  - Real-financial linkages: improve financial stability diagnostics, deepen understanding of linkages between markets and institutions, ensure adequate discussion in surveillance reports.
  - Multilateral perspective: bilateral surveillance to be informed systematically by inward spillovers, outward spillovers (where relevant), and cross-country knowledge.
  - Exchange rate analysis and external stability risks: clearer and more robust discussions underpinned by methodological progress.
- Final version note:
  - Final version adopted by Executive Directors on October 2, 2008, restating economic and operational priorities and assigning responsibility to Executive Board, management, and staff.

### Motivation, key questions and modification prompts (selected examples)
- Motivation: global economy faced severe financial distress, slower growth, sharp commodity price changes, and global imbalances; restoring sustainable noninflationary growth requires shared solutions and improved policy frameworks.
- Sample questions verbatim:
  - “What is the right policy mix, globally and domestically, between monetary, fiscal, and exchange rate policies, to sustain aggregate demand in line with capacity?”
  - “How should monetary policy respond to rapid commodity and asset price changes?”
  - “How should the burden of rebalancing global demand be shared across regions, and at what pace? How can this rebalancing be coordinated? What role should exchange rate policies play?”
  - “What steps are needed to stabilize and restore confidence in the global financial system? How can negative repercussions on the real economy be minimized? What role is there for policy coordination?”
  - “What tools can we use to identify developing risks to financial stability, including global financial market bubbles, and prevent their leading to global downturns when they burst?”
  - “How can the Fund help promote sustainable lending and borrowing, and avoid new build-up of excess debt in LICs?”
  - “What is the best means of communicating developing risks to country authorities to gain maximum traction?”
- Broader analytical prompts:
  - Assess policy responses to commodity price adjustments and implications for capital stocks and shifting global demand.
  - Identify how the Fund can help members sustain improvements in policy frameworks and implementation when tested; identify early potential reversal of recent gains in institutional quality (e.g., central bank independence, medium-term fiscal frameworks).

*Source: Executive Summary of the Triennial Surveillance Review (TSR) and selected excerpts from the IMF Triennial Surveillance Review and draft/final Statements of Surveillance Priorities (2008).*

### Executive Summary ......................................................................................................

### Executive Summary

### Overall assessment and strengths of bilateral surveillance
- Stakeholders hold the overall quality of Fund surveillance in high regard.
- The Fund adds significant value to country authorities, and even more so to Executive Directors and financial markets.
- Fund surveillance is seen as adding the greatest value in, and on, developing economies, and next in emerging markets.
- Traditional areas of strength, notably fiscal policy, remain primary areas of value-added.
- The analysis of recent economic and policy developments and short-term outlook provided by Fund surveillance is highly valued.

### Evidence base and scope of the TSR
- The TSR focuses on bilateral surveillance in the recent past and on substance rather than process.
- Methodology included:
  - a review of a random representative sample of 50 staff reports for consultations conducted since mid-2007;
  - wide consultations of stakeholders through anonymous surveys (Executive Directors, country authorities, mission chiefs, market participants) and interviews by independent consultants and staff;
  - in-depth topical case studies, including one by an independent consultant.
- The TSR seeks to inform medium-term operational priorities and is reflected in a draft Statement of Surveillance Priorities (Annex).

### Progress since the 2004 BSR
- Significant progress was made toward meeting the 2004 BSR’s monitorable objectives:
  - The focus of surveillance on the Fund’s core mandate has sharpened significantly.
  - The coverage and quality of analysis of exchange rate issues has improved.
  - Progress on the treatment of spillovers, albeit uneven, enhanced the multilateral perspective in bilateral surveillance, together with more cross-country analysis.
  - Financial sector surveillance has received increasing attention, leading to considerable progress in identifying financial sector vulnerabilities, notably thanks to the FSAP.

### Follow-up to past advice (Box 1 findings)
- The review of staff reports’ sections on follow up to past surveillance advice suggests a broadly positive record.
  - In most cases, countries’ actions were “mostly” or “partly” consistent with past Fund advice. In only about 10 percent cases was Fund advice found mostly not followed.
  - Among the cases where countries’ actions were consistent with Fund advice, a quarter each related to fiscal policy and structural reform in core areas, and 15 percent to monetary policy. Only 5 percent related to exchange rate policies.
  - When reasons for not following Fund advice were identified, in about half of the cases countries broadly agreed with the advice but wanted to proceed at a slower pace. In a quarter of cases, they also agreed, but needed technical assistance. In other cases, countries did not agree with the advice.
- Staff proposal: discontinue the requirement to report in each Article IV on follow-up to staff past advice (this proposal was not endorsed by the Board).

### Four highest-priority areas for future focus
These are areas where value-added is currently weakest yet central to the Fund’s surveillance mandate.

- Risk assessment
  - Surveillance is overall paying insufficient attention to risks surrounding the baseline, and has seemed, at times, star-struck by good performance.
  - Experience in the runup to the subprime crisis highlighted that surveillance should strive to “connect the dots” better, think the unthinkable, and highlight known unknowns more forcefully.
  - More could be achieved by more systematic assessments and effective presentation of risks around the baseline; more emphasis on how to insure against low-probability but high-cost risks; and better incorporation of the risk analysis conducted at the multilateral or regional levels.

- Integration of macroeconomic and financial sector surveillance
  - Further improvements are needed regarding the analysis of two-way transmission channels between financial and real sectors, and the specificity of advice on financial sector issues.
  - Resource constraints impose sharp tradeoffs in addressing these needs.
  - Key recommendations include: developing a framework for more systematic macro-financial surveillance, supported by guidance; further building financial expertise and using it strategically; and continuing to develop methodologies and toolkits.

- Multilateral perspective
  - There is still a large unmet demand for analysis of inward, and even more so outward, cross-border spillover effects, as well as for cross-country analysis informing the policy dialogue.
  - Progress could be achieved through: better leveraging the analytical findings of the WEO and GFSR; improving cross-country information sharing; and rewarding cross-country work on the basis of their value-added to the policy discussion.

- Exchange rate assessments
  - Exchange rate analysis still needs to be better integrated into the overall macroeconomic assessment and presented more transparently.
  - Underlying methodologies need to improve in the most challenging cases. Attention to candor and evenhandedness in this area is also needed.
  - Given steps recently taken to remedy these emerging issues, further progress can be achieved with effort but without new initiatives.

### Other key areas for improvement and preservation
- Communicating effectively
  - Surveillance communication has many assets to build on, but the proliferation of vehicles is counterproductive.
  - Improvements in brevity, timeliness and clarity, and a strategic delivery of few key messages are needed.

- Preserving existing strengths
  - Vigilance is required not to backtrack on previously well established or recently achieved areas of strength (e.g., fiscal focus).

- Ensuring similar quality of surveillance across countries
  - Key quality dimensions of surveillance reports appear to be affected by factors that should not be relevant (such as size or geographic location), suggesting a continued need for attention.

*Source: Executive Summary of the Triennial Surveillance Review (TSR).*

### 10.      The value-added of surveillance also reflects improvement in the priority areas

### 10.      The value-added of surveillance also reflects improvement in the priority areas

### Overall progress against 2004 BSR priorities
- The 2004 BSR set monitorable objectives: sharpening the focus of Article IV consultations (including deeper treatment of exchange rate issues), enhancing financial sector surveillance (FSS), and deepening coverage of regional and global spillovers in bilateral surveillance.
- The Fund launched initiatives under the 2006 Medium-Term Strategy and the refocusing exercise; “to a large extent, these efforts have paid off.”

### Sharper focus on the Fund’s core mandate
- The share of Selected Issues Papers (SIPs) devoted to issues identified by the Surveillance Decision—exchange rate, monetary, fiscal, and financial sector policies (macroeconomic and macro-economically relevant structural aspects)—increased by 9 percentage points between the second half of 2006 and the first half of 2008 to 86 percent.
- Close to 90 percent of country officials consulted perceived surveillance as rightly focused.
- Almost all mission chiefs, with hindsight, felt recent consultations focused on the most relevant issues.
- Executive Directors were fairly critical for advanced economies: about half thought only some reports for these countries focused on the right issues and noted no improvement in recent years.
- More effort is needed to deliver focused key messages effectively.

### Exchange rate coverage and analysis
- Improvement in coverage and quality of exchange rate analysis:
  - IEO found less than two thirds of a 2006 sample provided an assessment of the exchange rate; in this TSR’s sample, more than 90 percent of reports did.
  - The share of SIPs dealing with exchange rate and competitiveness issues doubled from 2006 to 2008, to 20 percent.
  - More than half the reports in the TSR sample provide a robust assessment of exchange rate level using multiple techniques (basic indicators, PPP-approaches, econometric techniques including CGER tools).
  - The improvement is particularly marked in the more recent period.

### Spillovers and multilateral perspective
- Progress was uneven but cross-country analysis and inward spillover analysis reinforced the multilateral perspective:
  - Over half of mission chiefs noted paying more attention to analyzing inward spillovers.
  - More staff reports refer to the influence of at least one global factor, often backed by a Selected Issues Paper.
  - Discussions of outward spillovers for systemic countries remain limited.
  - Cross-country analysis now features in the vast majority of staff reports.
  - For Executive Directors, cross-country analysis is among the three highest areas of value-added.

### Financial sector surveillance (FSS)
- Increasing attention in Article IV consultations has led to substantial progress in identifying vulnerabilities:
  - Most mission chiefs indicated they paid more attention to financial sector issues and devoted more resources, including MCM specialist participation; budgetary information broadly validated this trend.
  - Review of staff reports:
    - 80 percent of reports analyzed financial stability indicators.
    - Close to 60 percent—and 75 percent for advanced economies—provided a clear diagnostic of financial sector vulnerabilities.
    - 40 percent of reports still do not allow readers to form a clear view on the degree of financial sector vulnerabilities.
    - About a quarter of reports had financial sector policy recommendations that were either not clearly justified or too generic.
  - Significant progress in integrating FSAP findings into Article IV reports; FSAPs seen as systematically adding value.
  - Stakeholder perceptions:
    - Two thirds of Executive Directors and three-quarters of country officials noted better coverage of financial sector issues.
    - Most country officials stated surveillance generally contributed to improved understanding of financial sector issues.
    - Financial market participants ranked the Fund’s analysis of financial sector risks and vulnerabilities much higher on average than other institutions.

### Where to focus efforts next (summary)
- Despite progress, Fund surveillance overall does not fully meet expectations; further progress will require:
  - Better alignment of processes and resources and mainstreaming good practices where tools and data exist.
  - Extending the analytical frontier in other areas.
  - Recognizing that goals (e.g., in financial sector surveillance) move as the analyzed world becomes more complex.
  - Managing tighter resource constraints through better leverage of multilateral and cross-country work and sharper focus on key issues, acknowledging inevitable trade-offs.

### The highest priority areas for the period ahead
- Four areas merit priority attention because stakeholders consider the Fund’s value-added weakest there; they are proposed as operational priorities in the SSP. Two highlighted in this section:

Risk assessment
- Key findings on risk coverage:
  - Only about 60 percent of staff reports presented the short-term economic outlook, including risks to this outlook, in a substantiated way.
  - Close to three-quarters of reports offer a well-articulated, medium-term scenario.
  - Only about half of reports whose baseline MT/LT scenario was identifiable (36 percent of total) were considered to include a satisfactory discussion of baseline risks.
  - About a third of reports suffered from: not seeing beyond the most obvious risks, missing crucial external risks, providing long lists of risks without explaining relative importance, and excessive hedging that blunted messages.
  - 8 percent of all reports did not discuss risks to the outlook at all.
  - Only about a third of Executive Directors thought that most staff reports took as baseline a medium-term and long-term outlook that was neither too optimistic, nor pessimistic.
- Lessons from the subprime crisis case study:
  - Good economic performance can lead to relaxed vigilance about vulnerabilities and risks, including low-probability but high-cost ones.
  - Failures included not “connecting the dots” between different risks and vulnerabilities and not articulating tail risks that eventually materialized.
- Recommendations to strengthen risk assessment:
  - Press for more systematic assessments and effective presentation of risks around the baseline; encourage selective use of “fan charts” to describe risks.
  - Emphasize tail events with potentially seriously damaging implications, even if unquantifiable; staff should ask more “what if” questions and policy recommendations should account for insurance against low-probability but high-cost events.
  - Leverage multilateral or regional risk analysis better in Article IV consultations; discuss how risks identified at these levels could be transmitted domestically.
- Caution:
  - Avoid repeatedly raising false alarms; prioritize which risks to analyze more closely to prevent excessive hedging and loss of credibility.

Integration of macroeconomic and financial sector surveillance
- Principles from the 2007 Financial Sector Task Force:
  - Staff reports should form a view on interaction channels between real and financial sectors, the role of the financial sector in disturbing the real economy, and—where relevant for external stability—its role in facilitating growth, exploiting financial market information.
- Key gaps:
  - Only about a quarter of reports reviewed for the TSR clearly identified key risk transmission channels between the financial sector and real economy and assessed whether financial sector risks may materially contribute to real domestic or external instability.
  - This shortfall aligns with Executive Directors’ fairly critical opinions and mission chiefs’ view that assessing macro- or external stability implications of financial developments is the most challenging aspect of FSS.
  - The subprime crisis case study corroborates these weaknesses.
- Strengthening diagnosis and advice:
  - 40 percent of reports do not allow a clear view on financial sector vulnerabilities due to lack of quantitative evidence or overly hedged language.
  - Not all reports that diagnose vulnerabilities offer recommendations; about a quarter have recommendations that are not clearly justified or are too generic.
  - Constraints include mission teams’ limited specialist expertise or experience.
- Impediments to mainstreaming good practice:
  - Three main difficulties cited by mission chiefs:
    (i) the lack of a clear analytical framework for macro-financial linkages,
    (ii) the lack of clarity on what is expected in terms of integrating financial sector issues into macroeconomic analysis,
    (iii) limitations in data or access to information.
  - Availability of special resources or expertise (e.g., MCM staff participation or experts working in area departments) is key; major advances are achieved when such resources are deployed.

### Box 2 — Case study: Bilateral surveillance in the run-up to the subprime crisis (summary)
- Scope: Assessed surveillance in four countries (U.S., U.K., Switzerland, Germany) up to August 2007.
- What was seen:
  - Vulnerabilities and risks were recognized and individually investigated (housing market, securitization, increased leverage, lack of transparency on exposures); potential spillover channels were identified (e.g., outward financial spillovers from the U.S.).
  - FSAPs and MCM participation provided invaluable support in identifying emerging risks.
  - Comprehensive documentation of macroeconomic and financial sector trends assisted assessment; institutional and prudential issues were correctly diagnosed in many instances.
- What might have been done better:
  - Surveillance made wrong calls on the U.S. housing bubble and growing fragility; aggregate implications of individually identified risks were not recognized.
  - Impact of risks was often underestimated or not assessed quantitatively; past good performance biased overall favorable assessments.
  - Some institutional weaknesses might have been uncovered via FSAPs (e.g., U.S. lacked an FSAP).
  - Policy advice was often given to mitigate flagged risks but consequences of risks materializing were not always drawn, limiting calls for action.
  - Surveillance tended to obscure concern through reassuring headline messages—bilateral and multilateral surveillance needed better integration.
- What was not seen and why:
  - Lack of information on exposures and complexity of securities were “known unknowns.”
  - Some crisis features were “unthinkables,” such as the interbank money market freeze.
- What can be done better:
  - Strive to “connect the dots,” think the unthinkable, and highlight known unknowns more forcefully.
  - Recognize prioritization challenges: keeping institutional framework assessments up to date and selecting appropriate tail risks are resource intensive and must be selective.
  - The Fund needs to learn to be bolder in communicating concerns and to take clear and defensible positions rather than fully hedged assessments.

*Source: _090208a - 10.      The value-added of surveillance also reflects improvement in the priority areas*

### 25.      Three key recommendations would promote further progress:

### 25.      Three key recommendations would promote further progress:

### A clearer organizing framework for macro-financial surveillance
- Develop a clearer organizing framework for more rigorous and systematic macro-financial surveillance to:
  - Systematically analyze financial sector issues and their implications in Article IV consultations.
  - Motivate policy advice and leverage analyses from FSAPs and technical assistance.
  - Focus attention on judgment about the relative likelihood and impact of key financial stability risks, on vulnerabilities and development issues, and on integration of financial sector issues into the macroeconomic analysis, including through risk-based scenarios and the analysis of tail event risks.
  - Guide further research in these areas.
- Disseminate examples of best practice more widely.

### Fund’s FSS toolkit and methodological development
- Continuously refresh the Fund’s FSS toolkit and continue quantitative modeling and methodological development.
- Prioritize work on:
  - Financial stability assessments (including development of advanced stress testing and risk modeling approaches).
  - Macro-financial linkages.
  - Cross-border spillovers.
- Improve mechanisms for early warning of risks to global financial stability (already part of staff’s work program).
- Prioritize analysis of financial channels of risk transmission at the regional and global levels.

### Macro-financial expertise: build and deploy strategically
- Address a supply shortfall in macro-financial expertise given institutional budget constraints with a twofold response:
  - Develop financial capacity through new training programs and HR policies facilitating training assignments, swaps and the recruitment of financial sector specialists.
  - Deploy existing expertise on a risk-based basis, prioritizing according to:
    - systemic/regional importance,
    - importance of vulnerabilities,
    - importance of financial development issues for present or prospective macroeconomic or external stability.

### Multilateral perspective and cross-country spillovers
- Stakeholders expect more explicit treatment of inward and outward cross-country spillovers; staff reports often pay too little explicit attention to placing the country in the global context.
- Perceptions and evidence:
  - Only a minority of Executive Directors felt many or most staff reports met expectations on inward spillovers; even fewer for outward spillovers.
  - A majority of country officials noted staff’s analysis of inward spillovers did not improve their understanding or bring new insights.
  - Market participants viewed this as among the weakest Fund contributions, though staff analysis was on average better than elsewhere.
  - Most reports refer to some external factors, but only about a third explicitly discuss how global trends impact their countries.
  - Coverage of outward spillovers in reports for systemic countries remains spotty.
- Good practice examples:
  - SIP chapters on cross-border spillovers; reports on Chile and Uruguay quantified banking system impacts from risks identified in the 2007 WEO and GFSR; reports for Colombia and Mexico quantified growth impacts.
  - Regional studies (e.g., Nordic-Baltic regional financial sector study) useful for exploring spillovers within regions and informing bilateral surveillance.
- Demand and shortcomings in cross-country analysis:
  - Only about a third of authorities found cross-country analysis in surveillance provided new insights to at least “a large extent.”
  - Three types of cross-country analysis: narrative lessons, comparator indicator comparisons, and quantitative studies; narratives are least frequent yet highly valued.
  - In over half the cases, links between analysis and policy recommendations are not clear, producing vague recommendations with little operational content.
  - Few Article IV reports draw on relevant WEO and GFSR analytical chapters.
- To be persuasive, cross-country analysis needs to:
  - (i) draw clear policy conclusions well-grounded in the analysis;
  - (ii) be based on appropriate comparator(s);
  - (iii) be sufficiently deep.
- Steps to strengthen multilateral perspective in bilateral surveillance:
  - Better leverage WEO and GFSR findings by drawing out policy implications in bilateral surveillance; the surveillance committee can foster progress where risks are judged systemic.
  - Use regional surveillance to bridge gaps; design cross-country work explicitly to inform bilateral surveillance in more than one country.
  - Improve access to and sharing of cross-country knowledge; functional departments and the review process should point to relevant experiences and good examples.
  - Change incentives by rewarding cross-country work based on value-added to the policy dialogue rather than degree of methodological sophistication.

### Exchange rate assessments
- Remaining issues:
  - Exchange rate analysis needs better integration into overall macroeconomic assessment and more transparent presentation, sometimes backed by further methodological work.
  - Instances of inconsistency: discussions urging competitiveness improvements despite assessments the real exchange rate is broadly in line with fundamentals, without reconciling the inconsistency.
  - For surplus countries, links between potential undervaluation and inflationary pressures were not always adequately discussed.
  - Widespread dissatisfaction among country authorities and Executive Directors with the Fund’s exchange rate analysis; wariness about quantitative techniques used by staff.
  - Assessments often presented as a “black box,” lacking documentation of underlying assumptions.
  - Mission chiefs frustrated by lack of adequate analytical tools and guidance.
  - Methodological challenges remain, e.g., global consistency across country teams and analysis for specific economy types (non renewable commodity exporters, large financial centers, countries with large and sustained capital inflows).
- Candor and evenhandedness:
  - Clarity on exchange rate issues increased on average with the new Surveillance Decision; most post-Decision reports included a clear bottom line assessment versus most pre-Decision reports did not.
  - Since adoption of the 2007 Decision, a very large proportion of exchange rates were assessed “broadly in line with fundamentals” despite large current account imbalances.
  - A tendency to attribute large imbalances to temporary factors suggests possible bias in staff assessments and potential “fear of labeling.”
  - Mission chief survey and long delays in completing Article IV consultations where possible “fundamental misalignment” was discussed lend credibility to this concern.
  - In 15 of the 22 cases of post-Decision consultations where staff expressed that the exchange rate was over- or undervalued, the corresponding summings up were less clear-cut.
- Way forward:
  - Recent guidance on operational aspects of the new surveillance Decision should help strengthen integration of exchange rate assessments into macroeconomic assessments, foster transparency on assumptions and techniques, and achieve more consistent candor.
  - Disseminate methodological guidance on basic assessment techniques, critical reference datasets, and best practices to enhance quality and consistency.
  - Continue research on exchange rate analyses using current techniques.
  - Keep incentives aligned by including exchange rate assessments among monitorable surveillance priorities, broadened to encompass assessments of external stability risks.

### Communicating effectively
- Assets:
  - Policy dialogue is highly valued; oral communication adds most value.
  - Mission chiefs and country authorities expressed overall large satisfaction with candor of policy dialogue.
  - Staff reports present clear and candid assessments overall, though less uniformly than policy dialogue; communications considered credible and newsworthy.
  - Main conclusions in executive summaries and staff appraisal were judged comprehensible to the average college-educated adult in 90 percent of cases.
  - While clarity of bottom line assessments was lacking in a fifth of reports, authorities are almost universally satisfied with candor of reports on their own countries.
  - Executive Directors are more circumspect about candor in reports outside their constituency.
- Problems:
  - Proliferation of vehicles—mission concluding statements, PINs, staff reports, SIPs—viewed as confusing and counterproductive.
  - Different audiences have different needs and preferences across vehicles; many find concluding statements effective, while summing up/PIN is often found inscrutable.
  - Few outside the Fund understand differences among vehicles or what each adds.
  - Shorter reports would increase readership and impact, though Executive Directors warned brevity should not sacrifice analytical persuasiveness.
  - Timeliness is an issue for some audiences; Directors welcomed narrowing the gap between mission end and issuance of staff reports.
  - In the review of staff reports:
    - 60 percent were judged to lack a clear, small set of priority messages.
    - Frequent use of jargon or overly long sentences hindered communication quality in about one-third of reviewed staff reports.
    - 54 percent of reports were assessed as good or very good in overall communication value.
    - Only 43 percent of Directors thought most reports were well-argued and convincing.
  - Country-specific surveillance agendas often focus on process without specificity about messages or audiences.
- Recommended purposeful approach to enhance effectiveness:
  - Encourage greater candor in staff reporting to the Executive Board, with appropriate safeguards, to ensure candor in the policy dialogue between the Fund and members.
  - Rationalize and modernize key communications vehicles:
    - Further encourage publication of end-of-mission statements as a prelude to post-Board products.
    - Better use summary information from executive summaries and summings up.
    - Give countries the option of releasing the staff report’s executive summary and the summing up (together) on a country web page, augmented with the rest of the staff report when countries consent to publication—this would eliminate the need for PINs and clarify relationships among elements released to the public.
    - Rewrite summings up in a more reader-friendly way.
  - Tailor surveillance communication to emphasize a few key messages and match message and medium to the target audience.
  - Emphasize context over volume; selectively use instruments such as easier external access to Fund “experts,” background briefings on key topics, and more use of tailored instruments.
- Trade-offs:
  - Conciseness versus coverage: striving for conciseness while seeking greater coverage increases premium on effective drafting and presentation.
  - Focusing on a few clear messages raises the risk of getting things wrong versus producing overly hedged reports; acknowledge trade-offs to set proper incentives.

### Preserving existing strengths
- Maintain vigilance not to backtrack on established strengths while emphasizing new priorities.
- Risks identified:
  - Monetary policy discussions sometimes add limited value: very high value for about 40 percent of members (mostly LICs), but limited for another 30 percent (mostly advanced countries), suggesting a need for strengthening amid growing inflationary pressures.
  - Short-term fiscal stance recommendations not always backed by sufficient rationale.
  - Gains in sharpening surveillance focus on core mandate topics may not be firmly entrenched.
  - Recent gains (e.g., more attention to financial sector issues) may partly reflect changes in the economic environment and could be prone to reversal.
- Recommendation: continue emphasis on these core areas in the review process and periodic performance monitoring.

*Source: _090208a - 25.      Three key recommendations would promote further progress:*

### 40.      Some quality dimensions of surveillance reports appear to be affected by factors

### _090208a - 40.      Some quality dimensions of surveillance reports appear to be affected by factors

### Quality-of-surveillance findings (paragraphs 40–41)
- Review of staff reports found that factors such as income level, size, geographic location and exchange rate regime have some influence on rough measures of:
  - the sharpness of the focus,
  - the quality of analysis in key areas (financial sector, health check, multilateral perspective),
  - and the candor of surveillance.
- In general, reports were more likely to meet good practice for:
  - advanced economies;
  - countries with flexible exchange rates;
  - big and very small economies;
  - and countries in Asia-Pacific, Europe, and the Western Hemisphere.
- The review notes that in many cases the differences are statistically significant.
- Explanatory observations:
  - Some differences reflect expectations that more resources be devoted to countries with systemic importance.
  - Surveillance generally appears of similar quality within each group, as well as between countries with or without a Fund-supported program.
  - In many cases, differences across groups reflect exogenous constraints (for example, the availability of data and analytical material prepared by third parties).
  - The quality of assessment of very small (mostly poor) countries seems at par with the largest (mostly rich) countries.
- Conclusion: Findings are “not alarming” but indicate a need for continued attention; the review process has a key role in minimizing differences of treatment not called for by country circumstances. Continued monitoring might help create positive incentives.

### Issues for Board discussion (paragraphs 42–44)
- Question prompts for Directors include:
  - Do Directors agree that the evidence collected for this TSR suggests that surveillance adds significant value to members and the public at large, and that significant —albeit uneven—progress has been made toward the monitorable objectives set in the 2004 BSR?
  - Do Directors consider that the discussion in section III.A appropriately identifies key priority areas where further progress would significantly increase the effectiveness of surveillance and section III.B other important areas for improvement?
  - Do Directors agree with the recommendations highlighted in these sections and in Box 1, as elaborated in Supplement 1?
  - What are Directors’ views on the trade-offs flagged in these sections? Do Directors have additional suggestions to further enhance the effectiveness of surveillance?
  - Do Directors consider that the methodology used to conduct this TSR and laid out in detail in Supplement 2 establishes a consistent and robust framework for assessing the effectiveness of surveillance, to be used (subject to continued improvements) in future TSRs?

### Annex: Statement of Surveillance Priorities (SSP) — overview (paragraphs 45–50)
- Purpose and scope:
  - Proposal for the IMF’s first Statement of Surveillance Priorities (SSP), intended to guide all surveillance work.
  - Draft SSP draws on recent discussions on multilateral surveillance and TSR findings.
  - Economic priorities reflect main global concerns as reflected in the latest WEO, GFSR, and the Board discussion of Common Themes in Systemic Consultations, with a three-year horizon.
  - Operational priorities reflect the main recommendations of the TSR.
  - Priorities are consistent with Article IV and the 2007 Surveillance Decision and do not imply neglect of traditional aspects of surveillance.
  - Priorities can be revisited as circumstances change; management and staff are responsible for meeting operational priorities, subject to members’ cooperation.
- Progress reporting and governance:
  - Progress reporting on SSP priorities will occur regularly, with detailed assessment of performance as part of the next TSR.
  - Progress reports on actions and readily visible results will be provided at frequent intervals (for example in proposed semi-annual briefings on policy issues arising from Article IV consultations, and the Managing Director’s reports on the IMF’s policy agenda).
  - Planned actions towards these priorities will be reported in the statements on the Work Program.
  - In-depth assessment of performance will occur at the time of the next TSR.
- Questions for Directors:
  - Do Directors agree with the proposed economic and operational priorities, and their discussion, in the draft SSP?
  - Do Directors agree that the final SSP should be published (without the more detailed Box on priorities, which would only appear in the TSR documents, with revisions if necessary to take into account the Board’s discussion)?

### SSP — Overarching objective and priorities (draft and final excerpts)
- Overarching objective:
  - To foster multilateral collaboration, and provide timely and relevant advice to member countries and the public, IMF surveillance will be guided through 2011 by the objective: Early warnings and rapid response. Provide clear, advance warning of developments and risks in the global economy, to help members take actions needed to support their economies during a period of global adjustment.
- Economic priorities (intertwined objectives):
  - Adjusting to global financial and commodity booms and busts.
  - Reducing global imbalances in an orderly manner while minimizing adverse real and financial repercussions.
  - Optimizing the potential of global capital flows while forestalling disruptive patterns; strengthen the global financial system with emphasis on upgrading regulation and supervision, including across borders.
- Operational priorities:
  - Risk assessment. Refine the tools necessary to provide clear early warnings to members. Thorough analysis of major risks to baseline projections (including, where appropriate, high-cost tail risks) and their policy implications should become more systematic.
  - Real-financial linkages. Improve financial stability diagnostic tools, deepen understanding of linkages, including between markets and institutions, and ensure adequate discussion in surveillance reports.
  - Multilateral perspective. Bilateral surveillance to be informed systematically by analysis of inward spillovers; outward spillovers (where relevant); and cross-country knowledge (as useful).
  - Exchange rate analysis and external stability risks. Provide clearer and more robust discussions in all staff reports, underpinned by further progress in refining assessment methodologies.
- Final version note:
  - The document indicates a final version adopted by Executive Directors on October 2, 2008, restating the economic and operational priorities and assigning responsibility to the Executive Board, management, and staff for conducting, guiding, evaluating, and delivering on these priorities.

### Motivation, key questions and modification prompts (selected examples)
- Motivation summary:
  - The global economy faces severe financial distress and slower growth alongside sharp commodity price changes and global imbalances. Restoring conditions for sustainable noninflationary growth requires shared solutions and improved policy frameworks.
- Select examples of questions to pursue (verbatim phrasing preserved where present):
  - “What is the right policy mix, globally and domestically, between monetary, fiscal, and exchange rate policies, to sustain aggregate demand in line with capacity?”
  - “How should monetary policy respond to rapid commodity and asset price changes?”
  - “How should the burden of rebalancing global demand be shared across regions, and at what pace? How can this rebalancing be coordinated? What role should exchange rate policies play?”
  - “What steps are needed to stabilize and restore confidence in the global financial system? How can negative repercussions on the real economy be minimized? What role is there for policy coordination?”
  - “What tools can we use to identify developing risks to financial stability, including global financial market bubbles, and prevent their leading to global downturns when they burst?”
  - “How can the Fund help promote sustainable lending and borrowing, and avoid new build-up of excess debt in LICs?”
  - “What is the best means of communicating developing risks to country authorities to gain maximum traction?”
- Broader analytical prompts:
  - Assess policy responses to commodity price adjustments and implications for capital stocks and shifting global demand.
  - Identify how the Fund can help members sustain improvements in policy frameworks and implementation when those improvements are tested by current challenges; identify early potential reversal of recent gains in institutional quality (e.g., central bank independence, medium-term fiscal frameworks).

*Source: Excerpt from the IMF Triennial Surveillance Review and draft/final Statements of Surveillance Priorities (2008).*

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_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/np/pp/eng/2008/_090208a.pdf_