## _061511a ## Source details **Canonical URL:** [_061511a](https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/np/pp/eng/2011/_061511a.pdf) ## Other formats - [Markdown version](/-/media/websites/imf/imported-full-text-pdf/external/np/pp/eng/2011/_061511a.pdf.md) - [Structured JSON version](/-/media/websites/imf/imported-full-text-pdf/external/np/pp/eng/2011/_061511a.pdf.json) --- ### Executive Summary — Key Findings and Outcomes - Fragile states share common features: institutions seen to be weak, lack of legitimacy, and a fractious political setting that elevates the risk of violence. - Fragilities impose large costs and hardships on local populations and can spill over to neighboring countries through conflict, crime, disease, and economic linkages. - The international community is developing engagement approaches emphasizing peacebuilding, social cohesion, and statebuilding, with sustained engagement, calculated risk-taking, attention to political economy and capacity constraints, and donor coordination. - The World Bank is adapting operational modalities in fragile states, drawing on the 2011 World Development Report: Conflict, Security, and Development. - The Fund has engaged extensively in fragile states through Fund-supported programs, technical assistance, and training. - Outcomes of Fund engagement: - Macroeconomic policy frameworks have been strengthened; economic outcomes have improved over time; institutional and human capacity has gradually been built up. - Fifteen LICs in fragile situations have received debt relief under the HIPC and MDRI Initiatives. - Implementation of Fund-supported programs in fragile LICs has been bumpy, possibly reflecting too bold reform agendas or too optimistic assessments of implementation abilities. - Mode of engagement with LICs in fragile situations has overwhelmingly been through the PRGF/ECF; conditionality has been relatively ambitious; programs have been affected by frequent interruptions. - Engagement with fragile MICs has generally been beneficial; early capacity building often allowed transition to upper-credit-tranche arrangements, though capacity constraints produced delays in some reviews. ### Proposed Changes to Fund Policies and Practices — Summary of Recommendations - For fragile LICs: - Fuller use of the Rapid Credit Facility (RCF) to support a more flexible approach to adjustment and reforms, consistent with the 2009 reform of LIC facilities. - The RCF would continue to serve as a bridge to ECF arrangements. - For fragile MICs: - Establish a unified, RCF-like, nonconcessional facility for emergency assistance to provide greater flexibility than existing GRA emergency facilities and permit sequencing of Fund financial support in MICs similar to LICs. - Access and duration: - A moderate increase in the cumulative access limit for the RCF and comparable access limits for the nonconcessional facility for emergency assistance to permit more extended use when warranted with appropriate safeguards. - Program design: - Greater flexibility in program design, mindful of applicable conditionality standards, to reflect limited implementation capacity in fragile states and the importance of delivering “quick wins.” - Programs should pay particular attention to job creation, the need for inclusive growth, and contingency planning. - Catalyzing donor resources: - Promote mechanisms to strengthen the catalytic role of Fund engagement; financing needs of fragile states should largely be met by highly concessional donor resources over the medium to long term, with Fund financing tapering out. - One option: incorporate a budget support component linked to Fund-supported programs (or Fund monitoring) in country-specific Multi-Donor Trust Funds (MDTFs). - Political context and donor coordination: - Staff reports should explain how program design has been tailored to the political and social context, informed by an assessment of the political situation. - Closer coordination with donors, particularly in the field, to foster prioritization on key objectives, identify “quick wins,” and assess financial implications and financing gaps. - Technical assistance, capacity building, and human resources: - Continue efforts to plan technical assistance over a medium-term horizon and to provide “boots-on-the-ground.” - Continued training of country officials is essential. - Attention to staff resources devoted to fragile states: allocation of resources and incentives for suitably talented staff merit further consideration. ### Characteristics of Fragility — Resources, Aid, Volatility, Growth, and Political Context - Key resource and aid facts: - Per capita GDP in fragile LICs is roughly 60 percent lower than that of other LICs. - Domestic revenues in fragile LICs lag by some 5 percentage points of GDP. - Aid to fragile LICs: increased in recent years but, in per capita terms, these countries received less aid than other LICs during the last decade; the distribution is highly skewed to a few countries; aid to fragile LICs is typically more volatile and peaks about two years after the end of conflict, tapering after about five years. - Costs of conflict: - The cost of a typical civil conflict on the country and its neighbors is about $64 billion. - The cost to the typical fragile state and its neighbors, over the entire history of its fragility, has been estimated to be about $100 billion. - Selected exact figures on aid to LICs, 2000–2009 (Table 1): - Net ODA in percent of GNI — Average16.29.8; Maximum57.726.3; Minimum2.80.2 - Per Capita Net ODA — US $ average 2000-2009 per country73.186.0; US $ median40.753.1; Average growth rate27.416.0 - Aid Volatility — Average volatility - growth rates of per capita net ODA60.948.2; Average volatility - per capita net ODA34.631.5 - Growth, shocks, and conflict: - Fragile LICs have experienced lower real GDP growth than other LICs, especially since the mid-1990s. - Fragile LICs have broadly similar numbers of growth accelerations but considerably more and more persistent downturns. - Fragile LICs were nearly twice as likely as other LICs to experience civil conflicts. - Economic shocks (food and energy price shocks) can increase the risk of conflict; mitigation by appropriate political institutions reduces conflict risk. - The reform process itself can temporarily elevate the risk of violence. - Political legitimacy and windows for reform: - Loss of state legitimacy complicates launching transitions; following major conflict there may be a “window of opportunity” to pursue major reforms and re-establish credibility. - Fragile states produce adverse spillovers on neighbors through economic collapse, law-and-order breakdowns, and disease; these are not confined to periods of active conflict. ### Principles and Guidelines for Effective Engagement - Multidimensional engagement is needed: improve security, establish political institutions, improve governance, rebuild infrastructure and human capital, and set up institutions for macroeconomic management and sustained growth. - Transition is typically lengthy: - Improving institutional quality from the level of a country like Haiti to that of Ghana took in the range of 15–30 years. - Collier (2007) estimates the probability of a sustained turnaround starting in any year to be 1.6 percent, implying an average time of 59 years to transition from fragility. - Pace and sequencing: - Pace of reforms must be calibrated to country capacity to avoid “isomorphic mimicry.” - Strict prioritization to deliver “quick wins” is critical; early initiatives focused on jobs, security, and justice can have high payoffs and must benefit poor, middle class, and elites. - Work through the state to build legitimacy, but donors may need to work through non-state channels short term where state capacity is insufficient. - External assistance to improve governance and PFM is important to manage heightened security, program, and fiduciary risks. ### Evidence on Content and Sequencing of External Interventions and PFM Lessons - Recent research suggests TA, financial assistance, and a relatively stable macroeconomic environment are all needed for successful reform; sequencing matters: - Heavy involvement of international community in providing TA early is recommended. - Focus on sound macroeconomic policies early. - Some financial assistance early to build initial support; larger assistance useful after basic capacity and macro stability are achieved. - Delivering “quick wins” requires donor support; financial assistance likely required to meet routine government expenditures to avoid adverse trade-offs. - Box 1 — Practical PFM lessons: - Keep reforms simple and “do the basics first”; initial emphasis on budget execution. - Use capacity substitution and supplementation (TA experts performing routine functions) as fiduciary measures. - Initiate transparency and accountability reforms early; participation in revenue certification initiatives helpful where natural resources exist. - Target PFM reforms across ministries and subnational governments; legal reform is not essential at the start. - Recognize links between PFM reforms and civil service salaries. ### Role of the Fund: Engagement Modalities, Outcomes, and Quantitative Findings - Fund roles: - Promote macroeconomic stability, build capacity (PFM, revenue, central banking, statistics), catalyze donor support, and provide financial assistance including debt relief. - Program engagement with fragile LICs: - Some 37 Fund-supported arrangements with 21 fragile LICs over the last decade; emergency assistance provided on 11 occasions. - Engagement mainly via PRGF/ECF; SMPs and informal arrangements used where borrowing not feasible. - The Fund devoted considerable staff resources to fragile LICs, increasing through 2008 and declining since 2008. - Program outcomes: - Fund-supported programs associated with improved real GDP growth, inflation, overall government balance, exports and current account balances, external reserves, and FDI over the last two decades. - Improvement fastest in countries with engagement totaling more than 10 years during 1988–2010. - Around fifteen LICs in fragile situations received HIPC/MDRI debt relief; inclusion of UCT-quality SMPs among qualifying programs aided outcomes. - Program implementation statistics and implications: - Fund programs in LICs have on average some 30 structural conditions. - Fragile LICs were, on average, required to observe 8.8 structural conditions, compared to 6.8 for other LICs. - About 33 percent of structural benchmarks were met (including on time, with delay, or partially) in fragile LICs; about 39 percent in non-fragile LICs. - Less than half of UCT-standard programs with fragile LICs were completed successfully (all six reviews completed), versus about 56 percent for non-fragile LICs. - More than one-third of programs in fragile LICs went off-track almost immediately (one or fewer reviews completed), compared to 13 percent for non-fragile LICs. - In programs with weakest outcomes, interruptions largely explained by policy slippages; only a quarter of such interruptions were due to actual political instability. - Review delays: a review is considered not completed when seven months have elapsed since the test date. - Median number of years a fragile LIC received a disbursement under a Fund-supported program was 8 years (1988–2010), compared to 15 years for non-fragile LICs; excluding countries that never had Fund-supported programs raises fragile-LIC median slightly to 10 years. ### Evidence on Technical Assistance, Training, and Donor Coordination - TA and training: - LICs in fragile situations received on average about one person year of TA per country in recent years; a larger share of TA delivered by resident advisors relative to other LICs. - Over the past five years, more than 2,500 officials attended Fund training courses; INS activity in MENA: nearly 1,800 officials from 2005 to April 2011; 12 national courses attracted nearly 350 officials. - Empirical evidence: TA significantly increases probability of sustained turnarounds and lowers probability of growth down breaks; TA is a strong predictor of successful turnarounds. - Ad hoc consultations pointed to need for more “on the ground” help to implement policies. - Donor coordination: - Fund collaboration with donors is more intensive in fragile states, mainly information sharing rather than integrated strategy formulation. - Closest collaboration with World Bank and RDBs includes joint HQ work, strategy formulation, and formal assessments for donor operations. - Resident representatives play a key role in coordination and information provision. ### Criteria for Applying the Proposed Approach - Proposed approach applies where members meet: - (a) significant institutional and policy implementation weaknesses (using World Bank’s CPIA or other information); - (b) a fractious political context (recent political conflict or elevated risk of political instability); - (c) severe domestic resource constraints; and - (d) vulnerability to shocks. - Second condition for effective engagement: effective engagement reasonably anticipated, evidenced by: - (a) authorities’ firm commitment to policy reform and ownership; and - (b) concerted international support. - Assessment requires substantial judgment; fragility exists on a continuum and evolves over time. - World Bank CPIA threshold: average score of 3.2 and below classifies a state as fragile; teams could present need for a flexible approach even if CPIA is higher. ### Use of the RCF and Proposal for a Nonconcessional RCF-like Facility (Access Policy and Design) - RCF design and suggested uses: - The RCF is designed for circumstances where UCT conditionality is “not feasible, for instance in cases where institutional and policy capacity is highly constrained.” - Greater use of the RCF could meet urgent balance of payments needs during initial transition phases and tailor conditionality to implementation capacity, facilitating capacity build-up before transition to UCT arrangements. - RCF disbursements may take place even in the context of arrears to bilateral creditors; arrears should not impede grant assistance from donors. - On a case-by-case basis, the Board may approve RCF-supported programs to count toward HIPC decision point track record. - Current RCF parameters: - Annual access ceiling: 25 percent of quota. - Current cumulative access limit: 75 percent of quota. - At annual access at ceiling, support under RCF limited to three years. - Proposed modification: - Modest increase in cumulative RCF access limit to "100 or 125 percent of quota" would allow more time for transition to ECF while keeping unchanged annual access limit. - Total Fund financing not expected to increase, but phasing would better align with implementation capacity; annual RCF access typically lower than ECF. - If full higher access under RCF is utilized, access norm under subsequent ECF would be 75 percent of quota (instead of 120 percent of quota that could apply with lower outstanding RCF access). - For non-LICs: - Consider doubling cumulative EPCA access limit to 100 percent of quota as an example to provide flexibility to move to a UCT arrangement; modifying annual access limits could be worth considering. - Safeguards and risk mitigation: - Increases should not significantly enhance Fund risks given limited size and phasing; safeguards include concerted international response, track record requirement, and assessment that higher access does not pose serious debt sustainability risks. ### Greater Flexibility and Program Design Priorities - Key tradeoffs: - Medium-term macro stability is vital, but short-term needs (security-related expenditures, “quick wins”) may be urgent. - Program design implications: - RCF or a GRA emergency facility (not requiring UCT conditionality) may better manage trade-offs. - Even after transition to an ECF, maintain gradual, realistic reforms consistent with capacity while adhering to UCT standards. - In MICs where fragility may be overcome quicker, prioritize identifying and delivering “quick wins.” - Where capacity is severely depleted, engagement strategies should resemble those for LICs. - Program priorities: - Emphasize job creation and inclusive growth; leverage World Bank expertise. - Include contingency planning to address economic and political shocks and policy slippages. - Aggressive prioritization implies fewer structural benchmarks during initial transition. - Recognize “windows of opportunity” permitting more ambitious reforms when conditions align. ### Catalyzing Donor Resources and MDTF Options - Fragile states often have higher financing needs; donors face obstacles (country risk, weak institutions). - Fund can enhance catalytic role by: - Facilitating donor budget support through Fund engagement by guarding macro management and monitoring/improving PFM. - Replacing overlapping donor conditionality with a uniform set of actions tied to Fund-supported programs. - Option: incorporate budget support component linked to Fund-supported programs in country-specific MDTFs (similar to ARTF Recurrent Window): - MDTF Recurrent Window finances recurrent budget expenditures based on GoA macroeconomic and budget framework reviewed by IMF and World Bank; disbursements based on agreed eligibility criteria and broadly successful program implementation. - Budget support likely phases in after stabilization and PFM improvement and complements continuing Fund assistance. - To avoid aid flow disruption from program slippages, MDTF funds for budget support could be disbursed through other channels with a possible lag. - Where country-specific MDTFs absent: - Use standard options that loosely associate donor financing with Fund programs (e.g., West Bank and Gaza model), but design carefully to avoid aid volatility risks. - Fund staff, in coordination with the World Bank, should proactively inform donors about risks to sustaining adjustment from inadequate financing. ### Political Context, Monitoring Fragility, and Staff Reporting - Proper understanding of political context necessary to judge engagement risks; ensuring parties to transition acquiesce lowers conflict risk. - Staff reports should clearly explain how program design has been tailored to political and social context: - How political settlement influenced main structural measures; - Main fault lines in society and broad social expectations; - Capacity of the state and implications for financing vs adjustment. - Track progress on indicators of fragility in staff reports (measures of violence, perception surveys, higher-frequency data); collaborate with ILO and others to improve labor market and employment data. ### Human Resources, TA, and Field Presence - TA planning: - Coherent, adequately resourced medium-term TA plans essential; TA needs assessments should identify when boots-on-the-ground are needed. - Resident advisors can assist with day-to-day implementation and intensive capacity transfer. - Continue donor-financed resident advisor initiatives and topical trust funds; consider a new Topical Trust Fund for Fragile States and expansion of country-specific TA trust funds. - Human resources: - Increase size of staff teams for fragile states; prioritize resident representatives; attract high-quality staff with local-context skills and political economy knowledge. - Consider guidance, training modules, incentive changes (compensatory leave, career incentives), and favorable recognition in promotions to attract staff to fragile assignments. - Obstacles include insecure environments, adverse working conditions, high stress, and perceived lack of recognition. ### Appendix 2 — Analytical Work (Macro Fragility), Key Quantitative Results - Sample: 72 countries (40 fragile). - Growth performance: - Mean growth rate of real per capita GDP, 1970–2009: Non-fragile LICs: 1.7 percent; Fragile states: 0.6 percent. - Growth difference during 1980–1994: 0.8 percent; during 1995–2009: 2.4 percent. - Fragile states have almost double the number of down breaks: 21 (fragile) vs 12 (non-fragile LICs). - Preconditions and levels (selected figures preserved as presented): - CPIA 2009: 3.0 (Fragile State) ; 1.2 (Non-Fragile LIC) - PIMI: 3.7 (Fragile State) ; 1.8 (Non-Fragile LIC) - Percent of Coastal Countries: 46 (Fragile State) ; 44 (Non-Fragile LIC) - Civil Conflict, average: 25% (Fragile State) ; 11 % (Non-Fragile LIC) - Herfindahl index, average (Exports diversification): 0.43 (Fragile State) ; 0.31 (Non-Fragile LIC) - Infant Mortality rate, per 1,000 live births, average: 96 (Fragile State) ; 71 (Non-Fragile LIC) - Percent of Attending Secondary School, average: 10 (Fragile State) ; 11 (Non-Fragile LIC) - WDI Real GDP per capita 2007, Constant 2000 US$, average: 378018 (Fragile State) ; 524963 (Non-Fragile LIC) - investment over gdp, percent, average: 21 (Fragile State) ; 24 (Non-Fragile LIC) - Central Government Debt Ratio to GDP, in percent, average: 225 (Fragile State) ; 70 (Non-Fragile LIC) - Reserves Assets, US. Dollars millions, average: -63 (Fragile State) ; -53 (Non-Fragile LIC) - Inflation Rate, in percent, average (period 1970–2007): 15 (Fragile State) ; 14 (Non-Fragile LIC) - Impulse-response results (selected): - Terms of trade shock (four years after shock): Fragile states: about a 5 percent output loss; Non-fragile LICs: close to 2 percent output loss. - FDI shock: Fragile states: around 10 percent output decline (sharp and persistent). - Political shock (rise in unconstrained executive power): Fragile states: 15 percent output loss; Non-fragile LICs: 5 percent output loss. - Note on sample sizes: Fragile states panel — Number of countries: 34; Number of observations: 1063. Non-fragile LICs panel — Number of countries: 17; Number of observations: 391. - Probit regression (selected coefficient estimates preserved): - Dependent variables: Start of Sustained Turnaround (From 2.5 to 3.5) ; Downbreak - Secondary schooling: 0.161*** ; -0.0445 (standard errors (0.0645) ; (0.0390)) - Resource rent (% GDP): -4.565** ; 1.696 (standard errors (2.589) ; (1.320)) - Ln population: 0.298** ; -0.0491 (standard errors (0.158) ; (0.0914)) - Aid (% GDP), lagged: -0.0583* ; -0.00495 (standard errors (0.0359) ; (0.0217)) - Tech. assist. (% GDP), lagged: 0.219** ; -0.225*** (standard errors (0.127) ; (0.0974)) - Constant: -4.884**** ; -1.112 (standard errors (1.533) ; (0.895)) - Observations: 344579 - Robust standard errors in parentheses; significance: **** p<0.01, *** p<0.05, ** p<0.1, * p<0.15 - Interpretation: - TA significantly increases the probability of escaping political fragility and reduces the probability of down breaks; results are robust to controls. Aid may be ineffective or harmful if not sequenced properly. ### Case Studies and Country Examples — Highlights - Liberia (2003–2010): - Civil war caused income per capita to decline by about 80 percent; debt-to-GDP ratio over 700 percent at transition to LIC. - Fund re-engaged in 2003; SMP in 2006; PRGF/EFF in 2008; HIPC decision and completion point led to comprehensive debt relief by mid-2010. - Factors aiding engagement: quick response, arrival of 2006 administration, GEMAP governance measures, resident advisers, wide-ranging TA. - Impediments: large arrears, debt overhang, need for financing assurances including SDR 550 million from international community, inability to provide financial support in first two years postconflict, balanced budget constraints. - Sudan: - SMPs supported fiscal control, reduced money supply growth, and brought down inflation; over 1998–2010, SMPs carried heavy reform agendas (1998 SMP had 52 structural benchmarks). - Over 100 TA missions visited Sudan; capacity improved but progress slow and uneven; inability to receive debt relief caused social toll and “adjustment fatigue.” - Executive Directors preferred close program-like engagement moving forward. - West Bank and Gaza: - IMF engagement since 1994 focused on policy advice and TA; could not provide financial support. - PA able to conduct many policies of a future state; Fund analysis used extensively by donors; coordination with World Bank and donors important. - Shortfalls: donor disbursement delays, delayed FMIS and cash management, limited Arabic-speaking TA on the ground. - Iraq: - IMF engaged since 2003 with EPCA in 2004 and successive precautionary SBAs; new two-year SBA approved February 24, 2010, allowing disbursements of about US$3.8 billion (SDR 2,376.8 million, or 200 percent of quota). - Progress included low single-digit inflation, improved reserves, fuel price reform, pension reform, PFM strengthening, and Paris Club debt reduction of 80 percent NPV in 2004 with final tranche after December 2008 review. - Constraints: security prevented in-country missions and resident advisors; data weaknesses; high costs of security. - Central African Republic: - Total government spending constrained to about 15 percent of GDP; wages about 5 percent of GDP; capital spending roughly 5 percent of GDP. - Yemen: - Exhaustion of oil reserves in medium term requires sharp expenditure adjustment; IMF Country Report No. 10/300 indicates low identified external financing of 0.7 of GDP in 2010, leading to higher domestic financing, lower public investment, and lower priority spending. ### Coordination, Bank Initiatives, and World Bank Common Approach Paper (CAP) - World Bank actions: - Adopting fragile states procedures, greater risk tolerance, emphasis on inclusive growth and jobs, human resources changes, Fragile States Hub in Nairobi, and flexible financial instruments. - World Bank–AfDB Common Approach Paper (CAP) core messages: - Reframe budget aid as part of a package (policy dialogue, analytical work, TA, capacity building, and transfers) geared to address root causes of fragility. - Deeper risk analysis and risk pooling among institutions. - Systematic consideration of instrument mix and complementarity (policy-based budget support, grants, MDTFs); improve donor coordination, political economy knowledge, risk analysis, monitoring and evaluation. ### Conclusions and Next Steps Identified - The Fund must change its mindset about engagement in fragile settings: effective engagement is lengthy and risky, but the Fund has an important role. - Macro-criticality should be informed by political economy rather than narrowly defined macro issues alone. - Learning-by-doing and acceptance of mistakes required; issues for Executive Directors: assessment of Fund engagement, proposed enhancements (greater RCF reliance, reformed emergency facility, access modifications, flexible program design, MDTF use, political context focus, donor coordination, TA, HR). - Possible next steps: Board papers on RCF access and reformed emergency facility; operational guidance note; further internal work on incentives to work on fragile states. *Source: _061511a (IMF staff discussion and analytical material extracted from the referenced PDF).* ### Executive Summary ...................................................................................................... ### _061511a - Executive Summary ...................................................................................................... ### Executive Summary — Key Findings - Fragile states share common features: institutions seen to be weak, lack of legitimacy, and a fractious political setting that elevates the risk of violence. - Fragilities impose large costs and hardships on local populations and can spill over to neighboring countries through conflict, crime, disease, and economic linkages. - The international community is developing engagement approaches emphasizing peacebuilding, social cohesion, and statebuilding, with sustained engagement, calculated risk-taking, attention to political economy and capacity constraints, and donor coordination. - The World Bank is adapting operational modalities in fragile states, drawing on the 2011 World Development Report: Conflict, Security, and Development. - The Fund has engaged extensively in fragile states through Fund-supported programs, technical assistance, and training. ### Executive Summary — Outcomes of Fund Engagement - Engagement with the Fund has, on the whole, been beneficial for fragile low-income countries (LICs): - Macroeconomic policy frameworks have been strengthened. - Economic outcomes have improved over time. - Institutional and human capacity has gradually been built up. - Fifteen LICs in fragile situations have received debt relief under the Heavily Indebted Poor Countries (HIPC) and Multilateral Debt Relief (MDRI) Initiatives. - Implementation of Fund-supported programs in fragile LICs has been bumpy, possibly reflecting: - Too bold reform agendas, or - Too optimistic assessments of implementation abilities. - Mode of engagement with LICs in fragile situations has overwhelmingly been through the Poverty Reduction and Growth Facility (PRGF)/Extended Credit Facility (ECF); conditionality has been relatively ambitious; programs have been affected by frequent interruptions. - Engagement with fragile middle-income countries (MICs) has generally been beneficial: - Early capacity building often allowed transition to upper-credit-tranche arrangements, fostering improved macroeconomic prospects. - Capacity constraints were severe in some cases; program reviews experienced significant delays in some instances. ### Proposed Changes to Fund Policies and Practices — Summary of Recommendations - For fragile LICs: - Fuller use of the Rapid Credit Facility (RCF) to support a more flexible approach to adjustment and reforms, consistent with the 2009 reform of LIC facilities. - The RCF would continue to serve as a bridge to ECF arrangements. - For fragile MICs: - Establishment of a unified, RCF-like, nonconcessional facility for emergency assistance to provide greater flexibility than existing GRA emergency facilities and to permit sequencing of Fund financial support in MICs similar to LICs. - Access and duration: - A moderate increase in the cumulative access limit for the RCF and comparable access limits for the nonconcessional facility for emergency assistance to permit more extended use when warranted with appropriate safeguards. - Program design: - Greater flexibility in program design, mindful of applicable conditionality standards, to reflect limited implementation capacity in fragile states and the importance of delivering “quick wins” to populations. - Programs should pay particular attention to job creation, the need for inclusive growth, and contingency planning. - Catalyzing donor resources: - Promote mechanisms to strengthen the catalytic role of Fund engagement. - Over the medium to long term, financing needs of fragile states should largely be met by highly concessional donor resources, with Fund financing tapering out. - One option: incorporate a budget support component linked to Fund-supported programs (or Fund monitoring) in country-specific Multi-Donor Trust Funds (MDTFs). - Political context: - Staff reports should explain how program design has been tailored to the political and social context, informed by an assessment of the political situation. - Donor coordination: - Closer coordination with donors, particularly in the field, to foster prioritization on key objectives, identify “quick wins,” and assess financial implications and financing gaps. - Technical assistance and capacity building: - Continue efforts to plan technical assistance over a medium-term horizon and to provide “boots-on-the-ground.” - Recent initiatives, including topical trust funds and programmatic management of externally financed projects, have moved in that direction. - Continued training of country officials is essential. - Human resources: - Attention to staff resources devoted to fragile states: allocation of resources to fragile states and incentives for suitably talented staff to work on fragile states merit further consideration within the Fund’s overall budget envelope. ### Introduction — Scope and Structure of the Paper - The paper identifies how the Fund’s engagement with fragile states may be strengthened, taking into account recent experience and evolving thinking in the international community. - Structure: - Section II: characteristics of fragility. - Section III: principles and guidelines for effective engagement. - Section IV: assessment of Fund effectiveness in fragile situations. - Section V: areas for enhancing Fund support. - Section VI: conclusions, issues for discussion, and next steps. - Appendices: - Definitions of fragility. - Characteristics of real GDP growth in fragile LICs. - Work of the international community in fragile states. - Case studies: detailed LIC (Liberia) and MIC (Iraq); engagement without financial support (Sudan and West Bank and Gaza); engagement where donor financing has been limited (Yemen and the Central African Republic). ### Characteristics of Fragility — Analytical Approach and Definitions - Fragility is multidimensional; engagement emphasizes peacebuilding, social cohesion, and statebuilding. - Fragile states differ in financial endowments and capacity: some face severe financial and capacity constraints, others are natural-resource endowed, and some MICs possess substantial administrative capacity. - The analytical work in the paper uses the group of LICs identified by the World Bank as fragile under its Fragile and Conflict-Affected States (FCS) Initiative, based on low Country Policy and Institutional Assessment (CPIA) scores and the existence of conflict in recent years. - The paper does not construct a Fund-specific list of fragile states; the proposed engagement approach applies to countries exhibiting the characteristics of fragility as described. *Source: _061511a - Executive Summary ......................................................................................................* ### 7. Fragile LICs are often but not always characterized by severe domestic resource ### 7. Fragile LICs are often but not always characterized by severe domestic resource ### Key facts on resources, aid, and volatility - Per capita GDP in fragile LICs is roughly 60 percent lower than that of other LICs. - Domestic revenues in fragile LICs lag by some 5 percentage points of GDP. - Aid to fragile LICs: - Aid provided to fragile LICs has increased in recent years but, in per capita terms, these countries received less aid than other LICs during the last decade. - The distribution of such aid is highly skewed to a few countries. - Aid provided to fragile LICs is typically more volatile than aid to other LICs; post-conflict LICs typically receive the most aid in the period immediately following a conflict, aid appears to peak about two years after the end of the conflict and then tapers off after about five years. - Costs: - The cost of a typical civil conflict on the country and its neighbors is about $64 billion. - The cost to the typical fragile state and its neighbors, over the entire history of its fragility, has been estimated to be about $100 billion. ### Table 1: Some results on aid to LICs, 2000–2009 (selected exact figures) - Net ODA in percent of GNI - Average16.29.8 - Maximum57.726.3 - Minimum2.80.2 - Per Capita Net ODA - US $ average 2000-2009 per country73.186.0 - US $ median40.753.1 - Average growth rate27.416.0 - Aid Volatility - Average volatility - growth rates of per capita net ODA60.948.2 - Average volatility - per capita net ODA34.631.5 ### Growth, shocks, and conflict - Fragile LICs have experienced lower real GDP growth than other LICs, especially since the mid-1990s. - Fragile LICs have experienced a broadly similar number of growth accelerations as non-fragile LICs, but: - Downturns in growth in fragile LICs have occurred considerably more often than in non-fragile LICs. - Downturns in fragile LICs are significantly more persistent than in non-fragile LICs. - Fragile LICs were nearly twice as likely as other LICs to experience civil conflicts. - Economic shocks, in particular food and energy price shocks, can increase the risk of conflict. - Where economic shocks are mitigated by appropriate political institutions, the risk of conflict is reduced. - The reform process itself can temporarily elevate the risk of violence, as reforms often shift balances of power and may provoke violent resistance from entrenched interests. ### Political legitimacy, windows for reform, and spillovers - Where the state has lost legitimacy because it cannot meet pressing needs, launching an initial transition is complicated by low trust in the state’s capacity to deliver benefits. - Following major conflict there may be a “window of opportunity” to pursue major reforms and re-establish the state’s credibility. - Fragile states produce adverse spillover effects on neighbors through economic collapse, law-and-order breakdowns, and disease; these effects are not confined to periods of active conflict. ### Principles and guidelines for effective engagement in fragile situations - Multidimensional engagement is needed: improve security, establish political institutions, improve governance, rebuild infrastructure and human capital, and set up institutions for macroeconomic management and sustained growth. - Transition from entrenched fragility is typically lengthy: - Improving institutional quality from the level of a country like Haiti to that of Ghana took in the range of 15–30 years. - Collier (2007) estimates the probability of a sustained turnaround starting in any year to be 1.6 percent, implying an average time of 59 years to transition from fragility. - Pace and sequencing: - Pace of reforms must be calibrated to country capacity; overly ambitious strategies risk creating unrealistic expectations and damaging state legitimacy. - Forcing the pace of reform can produce de jure policy changes with little impact on actual performance (“isomorphic mimicry”). - The international community needs to be prepared to engage continuously over long timeframes; disengaging too early is not conducive to effective engagement. - Strict prioritization to deliver “quick wins” is critical; early initiatives focused on jobs, security, and justice (e.g., public works programs, demobilization) can have high payoffs and must benefit the poor, middle class, and elites. - Working through the state is crucial to build legitimacy, though in the short run donors may need to work through non-state channels (e.g., local CSOs) where state capacity is insufficient. - External assistance to improve governance and public financial management (PFM) is important to manage heightened security, program, and fiduciary risks associated with fragile states. ### Evidence on content and sequencing of external interventions - Recent research suggests technical assistance (TA), financial assistance, and a relatively stable macroeconomic environment are all needed for successful reform. - Sequencing evidence: - Heavy involvement of the international community in providing TA early on is recommended. - Focus on sound macroeconomic policies early. - Some financial assistance early to build initial support for transition; higher financial assistance is particularly useful once basic capacity building has taken place and a modicum of macroeconomic stability has been achieved. - Delivering “quick wins” (e.g., unemployment programs, demobilization) requires donor support; financial assistance is likely required to meet routine government expenditures (e.g., civil service wages) to avoid adverse trade-offs with macroeconomic stabilization. ### Box 1 — Improving PFM in fragile situations: practical lessons - PFM reform is context specific; keep reforms simple and “do the basics first.” - Initial emphasis should be on budget execution to establish credibility, ensure development programs are executed, and keep the money moving (example: Kosovo’s establishment of a Treasury single account and integrated financial management system). - Capacity substitution and supplementation (e.g., TA experts performing routine civil service functions) supported by donors have been pivotal to PFM reform implementation and act as fiduciary measures (examples: Afghanistan, Kosovo, Liberia). - Reforms to enhance transparency and accountability need to be initiated early; state audit institutions, parliamentary accountability, and transparent publication of budgetary data are crucial. Participation in international initiatives that certify government revenues is helpful where natural resource wealth exists. - PFM reforms should target not just the Ministry of Finance but also line ministries and subnational governments responsible for service delivery; simple PFM mechanisms to track local-level spending are needed. - Legal framework reform for PFM is not an essential starting point; legal reforms typically occur three to four years after start of reforms and take a minimum of two years to complete. Administrative procedures can solve many problems when legal and implementation capacity are limited. - There are close links between PFM reforms and civil service salaries; without competitive salaries, retaining qualified staff is difficult. *Source: IMF staff discussion — "7. Fragile LICs are often but not always characterized by severe domestic resource" (extracted content).* ### 24. Successful engagement in fragile states requires that support to reform efforts be ### 24. Successful engagement in fragile states requires that support to reform efforts be well coordinated across all donors. ### Coordination challenges among donors - Lack of prioritization of initiatives results from donors working individually and has led to less progress on concrete goals given the capacity constraints of fragile LICs. - Proliferation of disaggregated funding arrangements: - Risks distorting political processes and developing tensions among national partners. - Places a great administrative burden on authorities of recipient countries. - Persistently high levels of earmarking in situations of conflict and fragility largely limit the flexibility of donor funding. ### Evidence on what helps turnarounds (Box 2) - Chauvet and Collier (2008) empirical findings: - Technical assistance (TA) in the early years of turnaround has a statistically positive and significant effect on the probability of transitioning from fragility. - Intensive TA prior to the start of a turnaround has little effect on the probability of transition. - Donor aid is helpful when a minimum level of human, economic, and political capital has been reached—there is weak evidence of negative effects of early external financing on turnarounds. - Paper’s additional probit-based results: - Financial aid is insignificant in influencing growth down breaks. - TA significantly reduces the probability of having downturns in fragile states. - Result is robust to adding structural variables such as education and macroeconomic variables such as inflation, which are also significant. ### Role of the Fund in fragile states - The Fund’s roles include: - Promoting macroeconomic stability: Fund program support plays an essential role in helping countries establish a stable macroeconomic environment conducive to private-sector employment generation. - Building capacity: TA on PFM, revenue mobilization, central banking and payment systems operations, and basic macroeconomic statistics; training on macroeconomic, fiscal, and financial issues. - Catalyzing donor support: Fund assessments of good macroeconomic performance help trigger donor budget aid and are closely linked to multilateral and bilateral debt relief. - Financial assistance: Fund financial assistance helps meet balance of payments needs and can quickly scale up support in case of shocks; the Fund has provided debt relief to eligible LICs, including many fragile states. ### Program engagement with fragile LICs - Scale and modalities: - Some 37 Fund-supported arrangements with 21 fragile LICs over the last decade. - Emergency assistance provided on 11 occasions. - Support via staff-monitored programs (SMPs) and other informal arrangements when borrowing arrangements were not feasible. - The Fund devoted considerable staff resources to fragile LICs, with an increase through 2008 and a decline since 2008. - Instrument use: - Program engagement has overwhelmingly been through PRGF/ECF. - EPCA use was typically limited to one or two disbursements in the immediate post-conflict period; thereafter support shifted to PRGF for LICs and GRA for non-LICs. - SMPs: - SMPs served important roles where arrears prevented access to Fund financial facilities (notably Sudan and Liberia). - SMPs were used to provide policy advice, organize TA, and help establish track records for moving to Fund-supported programs. ### Program outcomes and state capacity - Macroeconomic outcomes: - Fund-supported programs have been associated with improved real GDP growth, inflation, overall government balance, exports and current account balances, external reserves, and FDI over the last two decades. - Improvement has been fastest in countries with the most intensive program engagement (intensive program engagement defined as engagement totaling more than 10 years during the period 1988–2010). - State capacity: - Programs emphasized fiscal (PFM and revenue mobilization) reforms and central banking reforms; recent studies found evidence of improvements in PFM capacity in several fragile states. - Debt relief: - Around fifteen LICs in fragile situations received debt relief under the HIPC Initiative and the MDRI. - Flexibility, including Fund amendments to include UCT-quality SMPs among qualifying programs to reach the decision point, aided this outcome. ### Program implementation: quantitative findings - Conditionality and reviews: - Fund programs in LICs have had on average some 30 structural conditions. - Fragile LICs were, on average, required to observe 8.8 structural conditions, compared to 6.8 structural conditions for other LICs. - The number of conditions per Fund program has been similar in fragile and non-fragile LICs, but the average number of conditions per review was higher in fragile LICs due to fewer reviews completed. - Achievement of structural objectives: - About 33 percent of structural benchmarks were met (including on time, with delay, or partially) in fragile LICs. - About 39 percent of benchmarks were met in non-fragile LICs. - Program completion and interruptions: - Less than half of UCT-standard programs with fragile LICs were completed successfully (i.e., with all six reviews completed), compared with about 56 percent for non-fragile LICs. - In fragile LICs, more than one-third of the programs went off-track almost immediately (i.e., one or fewer program reviews could be completed), compared to just 13 percent for non-fragile LICs. - In programs with the weakest outcomes (where less than half of scheduled reviews were completed), interruptions are largely explained by policy slippages; an on-track program was interrupted because of actual political instability in just a quarter of such cases. - External economic shocks do not appear to have been an important reason for program interruption in these cases. - In the last decade, only two fragile LICs had successive PRGF arrangements without an interruption. - Program reviews for active arrangements were often delayed; a review is considered not completed when seven months have elapsed since the test date associated with that review. - Disbursements and access: - Initial access under PRGF-supported programs followed indicative norms of 90 percent of quota for first time users and 65 percent of quota for second time users during most of the period. - During 1988–2010, the median number of years that a fragile LIC received a disbursement under a Fund-supported program was 8 years, compared to 15 years for non-fragile LICs. - Excluding countries that never had Fund-supported programs raises the fragile-LIC median disbursement years slightly to 10 years. ### Implications and assessment - The Fund’s engagement in fragile LICs has been beneficial in improving macroeconomic outcomes and building capacity in the Fund’s domain. - However, reliance on PRGF/ECF (the Fund’s “work horse”) with UCT conditionality standards—despite capacity constraints in fragile states—has led to frequent non-completion of programs and less continuous policy engagement than desirable. - The Fund has recognized risks of engaging in fragile states and has sought to manage such risks through ambitious programs; the mismatch between program ambition and capacity has contributed to interrupted program implementation. - These findings indicate that forms of Fund engagement may not have sufficiently accounted for specific characteristics of fragile situations; implications for future operations are to be addressed in subsequent sections. *Source: _061511a - 24. Successful engagement in fragile states requires that support to reform efforts be* ### 37. The Fund has also engaged in fragile middle-income states. Ethnic divisions, ### 37. The Fund has also engaged in fragile middle-income states. Ethnic divisions, ### Fragile middle-income states — key observations - Ethnic divisions, regimes perceived to lack legitimacy, and economic disenfranchisement have been reasons for instability in MICs. - In some fragile states, it has been possible to resolve relatively quickly the underlying reasons that led to sudden and acute episodes of political instability or violence; in other instances, addressing the cause of fragility has been challenging and the risk of violence has remained elevated for a longer period of time. - Economic development has been perceived to be an important component of the process of transition from fragility (as in LICs). ### Performance and Fund engagement in middle-income fragile states - Performance in middle-income fragile states supported by the Fund has been broadly satisfactory. - Examples of programs with fragile MICs: Bosnia and Herzegovina (since 1995), Federal Republic of Yugoslavia (2000), Iraq (2004), Lebanon (2007–2008). - Initial Fund engagement commonly took the form of one or more disbursements under EPCA; progress in building policy capacity allowed transition to support under a UCT arrangement in general. - Performance under successor arrangements has typically been satisfactory, contributing to improved macroeconomic prospects and in some cases a more stable political context. - Implementation challenges observed: - Some program reviews were completed with very substantial delays. - In some cases program design had to be adapted to prevailing capacity constraints. - Special engagements: - West Bank and Gaza: Fund helped establish and improve capacity at the Palestinian Monetary Authority, in revenue administration and PFM reforms, and in setting the macroeconomic framework; IMF staff reports on macroeconomic and fiscal reform progress were taken into account by donors in their disbursement decisions. - Kosovo (2000–2008): Fund participated in international effort providing macroeconomic policy advice and TA; Kosovo became a Fund member in 2009 and its first SBA was approved in 2010. ### Capacity constraints and coordination - Institutional and human capacity building was a particularly important objective of Fund engagement in Iraq, West Bank and Gaza, and Bosnia and Herzegovina. - Good coordination among area and functional departments, as well as with donors, was particularly important. - A more flexible approach to program design helped; recognition that in very difficult security environments the scope of reforms would need to be limited. ### Technical Assistance and Training — findings - Building institutional capacity of the state is a key element of Fund engagement in fragile states; TA focuses on macroeconomic management including central banking and fiscal operations. - Assistance in the PFM area is particularly important to address governance problems that compromise state legitimacy. - Fund TA is provided as part of a broader international effort; post-conflict TA from the Fund tends to be smaller and more focused than large-scale bilateral and multilateral donor interventions. - Effectiveness of Fund TA often depends on complementary assistance provided by other donors and on training offered; a significant proportion of Fund TA is financed by major donors. - LICs in fragile situations received broadly similar levels of TA as other LICs in recent years: on average, about one person year per country. - Relative to other LICs, a larger share of TA to LICs in fragile situations has been delivered by resident advisors. - Empirical evidence indicates TA is a strong predictor of sustained turnarounds and lowers the probability of growth down breaks; fragile states face constraints on absorptive capacity. - Ad hoc consultations suggested Fund TA was highly valued but pointed to the need for additional help “on the ground,” especially support to implement policies (not just advise). - Example: in early transition years in Bosnia and Herzegovina, appointment of an international expert as central bank governor was crucial to successful currency introduction. - Donor-financed resident advisors initiative: UK’s DFID financing to place advisors in MCD countries; to date, some five advisors have taken up their posts. Role: work with mission teams and resident representatives to coordinate and follow-up on TA delivered by functional departments and other donors. - Training delivered: - Over the past five years, more than 2,500 officials have attended Fund training courses offered by INS, FAD, MCM, and STA. - INS activity in MENA: from 2005 to April 2011, nearly 1,800 officials attended courses offered by the INS. - During the same period, 12 national courses (for officials from Afghanistan, Iraq, and West Bank and Gaza, among others) attracted nearly 350 officials. ### Donor coordination — practices and roles - Fund collaboration with donors in fragile states is broadly similar but more intensive than in other LICs or MICs; collaboration mainly consists of information sharing rather than joint formulation of an integrated strategy. - Fund mission chiefs report spending significantly more time collaborating with donors in fragile states, particularly where engagement has been in the context of an EPCA. - Closest collaboration: World Bank and regional development banks (RDBs): - Interaction includes joint work at headquarters (JSANs of PRSPs, DSAs, HIPC-related work), strategy formulation, and information sharing on progress. - Representatives of RDBs sometimes participate in Fund missions, focusing on specific issues. - World Bank and RDBs request formal assessment of satisfactory macroeconomic policy implementation from the Fund before approving new operations. - Contacts with bilateral donors are more informal: missions visit donors to collect disbursement plans; mission chiefs brief donors at end of missions; Fund participates in consultative group meetings and may brief bilateral donor headquarters. - Resident representatives have an especially important role in donor coordination: regular contact with multilateral and donor agencies, participation in local donor meetings, provision of timely information on donors’ activities and local political situation. ### What the Fund can do to improve its engagement — strategic lessons - Effective support requires engaging early and being prepared to stay engaged over the long haul. - Embrace a philosophy of carefully sequenced reforms tailored to improvements in capacity. - Help authorities deliver “quick wins” to the population and build the legitimacy of the state (i.e., build citizens’ confidence in ability of state institutions to deliver expected services). - Risks must be managed taking account of realistic timeframes and capacity, while respecting applicable conditionality standards and Fund policy requirements. - Risks of too timid international support include limiting the chance of helping countries emerge from fragility and causing negative spillovers to other countries. - Successful engagement entails multidimensional efforts (security, political stability, economic development); each partner, including the Fund, must act within a coherent international framework. - International initiatives referenced: - International Network on Conflict and Fragility (INCAF) finalizing guidance for coordinated international responses. - World Bank and AfDB Common Approach Paper (CAP) on budget support modalities. - Most proposed changes would not require modifications of Fund policies but better use of flexibility allowed under existing policies. - The Fund should focus on core competencies and apply tools recognizing unique challenges of fragile states: low capacity, risk of domestic instability, and large/long-lasting financing needs. - The Fund is not well placed to meet statebuilding and longer-term development financing needs; it should leverage unique tools and collaborate effectively with other institutions and donors. ### Criteria for applying the proposed approach - The approach would apply to Fund members assessed to meet the following criteria: - (a) significant institutional and policy implementation weaknesses, assessed using the World Bank’s CPIA or other relevant information; - (b) a fractious political context, as evidenced by recent political conflict or instability, or where pertinent information supports an assessment of an elevated risk of political instability; - (c) severe domestic resource constraints; and - (d) vulnerability to shocks. - Second condition for effective engagement: effective engagement can reasonably be anticipated, evidenced by: - (a) the authorities’ firm commitment to policy reform and strengthening capacity, including government ownership of the reform package; and - (b) the concerted support of the international community. - Assessment entails substantial judgment; fragility exists on a continuum and characteristics evolve over time. - Note on CPIA threshold: World Bank uses an average score of 3.2 and below of the CPIAs produced by itself and the AfDB to classify a state as fragile; teams could present need for more flexible approach even if CPIA is higher; where CPIA is not available (e.g., MICs) the assessment is case-by-case. ### Use of the Rapid Credit Facility (RCF) and a reformed nonconcessional emergency facility - Recent overhaul of the Fund’s concessional-lending toolkit and conditionality framework enhances Fund ability to engage more flexibly in fragile situations among LICs; the newly created RCF can help where a traditional ECF-type medium-term arrangement is not yet suitable. - RCF design and suggested uses: - The RCF was designed inter alia for circumstances where UCT conditionality is “not feasible, for instance in cases where institutional and policy capacity is highly constrained (as may be the case in countries emerging from conflict or other episodes of fragility or instability).” In such cases, member countries “would be expected to make efforts to move to a UCT program (typically under the ECF), in which case the transition could be supported through repeated use of the RCF.” - Greater use could be made of the RCF to help meet urgent balance of payments needs during initial transition phases in many cases of entrenched fragility in LICs (consistent with policy, and contrary to past rapid switches from subsidized EPCA support to PRGF arrangements). - Fuller use of the RCF could tailor conditionality more closely to implementation capacity of fragile members, facilitating capacity build-up before transition to arrangements with UCT conditionality and reducing likelihood of breaks in program engagement. - Further use of the RCF could help in situations where prior attempts to transition out of fragility failed and a renewed attempt is made with concerted international support. - As with the EPCA previously, RCF disbursements may take place in appropriate cases even in the context of arrears to bilateral creditors. - Such arrears should not impede grant assistance from donors, the most appropriate form of financing for fragile LICs. - On a case-by-case basis, the Board may approve implementation of an RCF-supported program to count toward members’ track-record for the HIPC Initiative’s decision point. *Source: IMF staff report content in content unit "_061511a - 37. The Fund has also engaged in fragile middle-income states. Ethnic divisions,"* ### 57. Under such an approach, the RCF would continue to serve as a bridge to the ### _061511a - 57. Under such an approach, the RCF would continue to serve as a bridge to the ### Role of RCF, EPCA, and proposed nonconcessional RCF-like facility - RCF would continue to serve as a bridge to the ECF, which would remain the “workhorse” of the Fund’s engagement in fragile states. - Duration of RCF use depends on country circumstances; sequences of RCFs may be needed where severe policy implementation constraints exist. - Transition to an ECF may still leave fragile states with capacity constraints greater than in non-fragile LICs; program design must aim for UCT-quality policies while being mindful of country realities. - For non-LICs, an RCF-like facility for general emergency assistance could enhance GRA emergency facilities and allow similar sequencing of Fund support. - EPCA was retained in unsubsidized form mainly for members not eligible for concessional facilities (i.e., non-LICs), but its usefulness is limited by its confinement to post-conflict situations. - A nonconcessional RCF-like facility could: - (i) cover a broader range of qualifying circumstances; - (ii) permit higher access; - (iii) be rebranded to clarify purposes; - (iv) provide outright disbursements with safeguards for capacity or political economy concerns; - (v) use standard GRA lending terms. ### Implications for Access Policy - Current RCF parameters and practical implications: - Annual access ceiling: 25 percent of quota. - Current cumulative access limit: 75 percent of quota. - At annual access at ceiling, support under RCF would be limited to three years. - Proposed modest increase in cumulative RCF access limit to "100 or 125 percent of quota" would: - Allow more time for transition to ECF while keeping unchanged annual access limit. - Be consistent with principles governing Fund financial support to LICs from the 2009 LIC facilities reform. - Keep RCF access sublimits significantly below global annual and cumulative PRGT limits, given absence of UCT-quality program. - Under the proposed modification: - Total Fund financing would not be expected to increase, but phasing would better align with implementation capacity. - Annual access under RCF is typically lower than under the ECF. - If full (higher) access under RCF is utilized, the access norm under the subsequent ECF would amount to 75 percent of quota (instead of 120 percent of quota that could apply with lower outstanding RCF access). - For non-LICs, considerations include: - Doubling the current cumulative EPCA access limit to 100 percent of quota as an example to provide members flexibility to move to a UCT arrangement. - Modifying annual access limits may be worth considering, reflecting factors generating BOP needs in MICs. - Risk mitigation and safeguards: - The proposed increases should not significantly enhance Fund risks, given limited size of increases and more appropriate phasing. - Safeguards include: acting within a concerted international response, requirement for track record of adequate macroeconomic policies for repeated use, and demonstrating higher access does not pose serious debt sustainability risks. ### Greater Flexibility and Realism in Policy Design - Key tradeoffs: - Medium-term macroeconomic stability is vital for transition from fragility, but short-term needs (security-related expenditures, “quick wins”) may be urgent. - Policy advice should consider pace of progress toward macro stability and urgent short-term needs. - Program design implications: - RCF or a GRA emergency facility (not requiring UCT conditionality) may better manage these trade-offs. - Even after transition to an ECF, a gradual and realistic approach to reforms consistent with country capacity should be maintained, while adhering to UCT conditionality standard. - In MICs where fragility may be overcome quicker, programs should prioritize identifying and delivering “quick wins.” - Where capacity is severely depleted, engagement strategies should resemble those for LICs. - Program priorities and implementation capacity: - Emphasize job creation and inclusive growth; quality, sources, and distribution of growth and employment are critical to sustaining political stability. - Leverage expertise of other institutions, particularly the World Bank, in job creation and inclusive growth analysis and policy advice. - Include contingency planning in Fund-supported programs to address common economic and political shocks and policy slippages. - Aggressive prioritization of structural reforms is imperative due to scarce implementation capacity; typically imply fewer structural benchmarks during initial transition phase. - Recognize that “windows of opportunity” may permit more ambitious reforms when conditions align (authorities’ commitment, public acceptance, concerted donor effort). ### Additional modalities to catalyze donor resources - Fragile states often have financing needs higher than peers due to protracted macro imbalances and higher vulnerability to shocks; donors face obstacles in providing aid due to country risk, weak institutions, and difficult policy dialogue. - The Fund could enhance its catalytic role for donor budget support by: - Facilitating donor budget support through Fund program engagement by guarding against poor macroeconomic management and helping monitor and improve PFM. - Replacing overlapping donor conditionality with a uniform set of policy actions tied to a Fund-supported program. - Option: incorporate a budget support component linked to Fund-supported programs in country-specific MDTFs (similar to ARTF Recurrent Window): - MDTF Recurrent Window finances recurrent budget expenditures based on GoA macroeconomic and budget framework reviewed by IMF and World Bank; disbursements based on agreed eligibility criteria and broadly successful program implementation. - Budget support from MDTFs would likely phase in after stabilization and PFM improvement and complement continuing Fund assistance. - As Fund financing needs diminish, MDTF budget support could be linked to low-access or precautionary Fund arrangements, surveillance, or a PSI. - To avoid aid flow disruption from program slippages, MDTF funds allocated for budget support could be disbursed through other channels (e.g., sectoral/program support or to NGOs) with a possible lag. - Where country-specific MDTFs are absent: - Use standard options that loosely associate donor financing with Fund programs (e.g., the West Bank and Gaza model). - Such mechanisms need careful design to avoid introducing excessive aid volatility; delays or insufficiency of donor disbursements can have particularly severe adverse effects in fragile states. - Fund staff, in coordination with the World Bank, should proactively inform donors about risks to sustaining adjustment from inadequate financing. ### Understanding the Political Context and Monitoring fragility - Proper understanding of political context is necessary to judge engagement risks; ensuring parties to transition acquiesce lowers conflict risk and improves prospects for success. - Fund engagement should be informed by deeper understanding of political nuances and a country’s recent history. - Tracking progress on indicators of fragility in staff reports could be helpful: - Indicators could include measures of violence, survey reports on perception of the state, and higher-frequency availability of such data. - Collaborate with ILO and other institutions to improve labor market statistics and production of reliable employment data. - Tracking employment in addition to GDP growth is important. *Source: _061511a - 57. Under such an approach, the RCF would continue to serve as a bridge to the (IMF PDF chapter/section).* ### 73. Staff reports should clearly explain how the design of the policy program has ### _061511a - 73. Staff reports should clearly explain how the design of the policy program has ### Tailoring policy programs to political and social context - Staff reports should clearly explain how the design of the policy program has been tailored to the political and social context, discussing: - how the political settlement has influenced main structural measures of the program; - the main fault lines in society and broad social expectations; - the capacity of the state and how it has shaped the mix between financing and adjustment. - Staff should draw on published analysis conducted by donors and resident representatives are encouraged to conduct their own evaluations of the political situation and report regularly to headquarters. - Not all political analyses may be reportable in Board papers because of sensitive material. ### Boosting cooperation with donors - The proposed model of engagement requires very close coordination with the donor community. - The Fund can play the following roles within donor coordination frameworks: - Prioritization: Fund staff can keep donors focused on the resource envelope and help ensure that a few key objectives are prioritized with a view to facilitating achievement of such objectives. - Quick wins: The Fund should participate in decision processes where key measures outside its core responsibilities are decided to ensure financing implications are taken into account. - Closer coordination with donors would help the Fund better appreciate the political context; resident representatives already play a critical role, and structured discussions on political-economy initiatives will sharpen knowledge of political constraints. - Donors (e.g., INCAF) are considering mechanisms to improve coordination at the country level; modalities for more effective coordination will need to be developed by donors themselves. - For full engagement with donor modalities in fragile states, the Fund will need a more effective field presence: - More frequent presence in the field by mission chiefs than quarterly or semi-annual missions may be required. - Resident representatives may need to work more proactively with donors to develop creative solutions. ### Technical Assistance (TA) - In fragile states, coherent and adequately-resourced plans for capacity building are essential to support Fund-supported programs or surveillance adoption. - Plans should recognize that the pace of adopting recommendations may be slower given serious capacity constraints. - TA needs assessments should identify when boots-on-the-ground are needed early in transition; resident advisors can: - assist country officials with day-to-day implementation; - transfer knowledge and build capacity more intensively than mission-based support. - The Fund has placed donor-financed resident advisors in fragile states; efforts to expand such donor-financed advisors should continue. - Recent initiatives adopting a medium-term horizon for Fund TA should continue, including: - Topical Trust Funds; - Fiscal Affairs Department’s (FAD) management of externally financed projects on a medium-term programmatic approach. - Considerations: - Adoption of a multiyear Regional Allocation Plan (RAP)/Regional Strategy Note (RSN) horizon should be considered. - Reduction of internal TA resources has cut flexible funding available when political dynamics change; a new Topical Trust Fund for Fragile States could help fill this gap. - Further expansion of country-specific TA trust funds could be considered. ### Human resources issues - Internal operating-procedure changes could strengthen the Fund’s capacity in fragile states, including: - increasing the size of staff teams assigned to fragile states; - prioritizing resident representatives’ assignments in fragile states, including provision of hands-on advice to help policy implementation; - attracting high quality staff to work on and be located in fragile situations. - The skill set for fragile situations may go beyond standard macroeconomic and interpersonal skills and require: - knowledge and appreciation of the local context; - ability to appreciate subtleties and nuances of alternative political contexts. - The Fund should consider preparing guidance and developing training modules for staff working in fragile contexts. - Attracting talented personnel may require changes in incentives: - A review of the Fund’s benefits system may be warranted to ensure suitable incentives for assignments in difficult circumstances. - Additional incentives for headquarters-based staff could include additional compensatory leave for travel to less safe destinations or career-related incentives. - Favorably recognizing work on fragile states in promotion decisions is essential. - Factors often cited as obstacles to attracting staff to fragile states include insecure environments, adverse working conditions, high levels of stress, and the perception of a lack of recognition and career prospects. ### Conclusions, issues for discussion, and next steps - The Fund must change its mindset about engagement in fragile settings: effective engagement is a lengthy process with risks that cannot easily be shed, but the Fund has an important role in realizing benefits of successful transition. - In fragile situations, macro-criticality should be informed by the political economy of reforms rather than narrowly defined macroeconomic issues alone. - Broad institutional support and acceptance of learning-by-doing (and that mistakes will be made) are required. - Issues for Executive Directors’ views include: - the assessment of the Fund’s engagement in fragile states presented in Section IV; - the paper’s proposals to enhance effectiveness in fragile states (Section V), which include greater reliance on the RCF and a reformed nonconcessional emergency finance facility, modifications to access limits under the RCF and the reformed GRA facility for emergency assistance, greater flexibility in program design, better use of MDTFs to catalyze donor resources, greater focus on the political context, closer coordination with donors, provision of TA, and human resource issues. - Possible next steps depending on Directors’ views: - (i) Board papers presenting specific proposals and decisions on RCF access and a reformed nonconcessional emergency finance facility; - (ii) an operational guidance note on the proposals endorsed by the Board; - (iii) further internal work on incentives to work on fragile states. ### Definitions of fragility, cross-country indices, and country classifications - Fragility is conceptually complex and multidimensional; many definitions differ but share a common notion summarized in OECD (2007): “States are fragile when state structures lack political will and/or capacity to provide the basic functions needed for poverty reduction, development and to safeguard the security and human rights of their populations.” - Representative producer definitions excerpted in the text include: - WB (2011b): “Fragile states” are countries facing particularly severe development challenges: weak institutional capacity, poor governance, and political instability. Often these countries experience ongoing violence as the residue of past severe conflict. - OECD (2008): A fragile state [is] unable to meet its population’s expectations or manage changes in expectations and capacity through the political process [...]. Questions of legitimacy, in embedded or historical forms, will influence these expectations, while performance against expectations and the quality of participation/the political process will also produce (or reduce) legitimacy. - EC (2007): Fragility refers to weak or failing structures and to situations where the social contract is broken due to the State’s incapacity or unwillingness to deal with its basic functions, meet its obligations and responsibilities regarding service delivery, management of resources, rule of law, equitable access to power, security and safety of the populace and protection and promotion of citizens' rights and freedoms. - DFID (2005): DFID’s working definition of fragile states covers those where the government cannot or will not deliver core functions to the majority of its people, including the poor. [...] DFID does not limit its definition of fragile states to those affected by conflict. - USAID (2005): USAID uses the term fragile states to refer generally to a broad range of failing, failed, and recovering states. [...] the strategy distinguishes between fragile states that are vulnerable from those that are already in crisis. - Cross-country fragility indices operationalize definitions by measuring state attributes such as (i) effectiveness; (ii) authority; and (iii) legitimacy. Different indices include different conceptual dimensions (security, political, economic, social, environmental) and use different aggregation methods. - Despite differences, fragile state classifications are broadly similar and lists based on index scores show large overlap. - Example list excerpts and notes: - The World Bank’s criteria include: (a) a harmonized average CPIA score of 3.2 or less; (b) the presence of a UN and/or regional peacebuilding mission during the previous three years. - Compilations referenced include OECD DAC, EC SSA lists, and World Bank Fragile and Conflict Affected Countries list. - Numeric figures shown in the original exhibit include: 1.7%, 0.6%, 1.1%, 0.0%, 0.5%, 1.0%, 1.5%, 2.0% with labels Non-Fragile States LICs, Fragile States LICs, All LICs. *Source: _061511a - 73. Staff reports should clearly explain how the design of the policy program has* ### Appendix 2. Analytical Work with Emphasis on Macro Fragility ### Appendix 2. Analytical Work with Emphasis on Macro Fragility ### Overview and sample - Sample: 72 countries (of which 40 are fragile states). - Fragile states suffer from political fragility (weak institutional capacity, poor governance, conflict) and severe macro fragility (slow and abrupt growth patterns). ### Growth performance and dynamics - Mean growth rate of real per capita GDP, 1970–2009: - Non-fragile LICs: 1.7 percent - Fragile states: 0.6 percent - Change in growth gap across globalization periods: - Growth difference during 1980–1994: 0.8 percent - Growth difference during 1995–2009: 2.4 percent - Character of low growth in fragile states: - Fragile states have broadly the same number of up-breaks as non-fragile LICs, but almost double the number of down breaks: 21 (fragile states) compared to 12 (non-fragile LICs). - Conclusion: Low average growth in fragile states is driven primarily by sharp and sustained periods of deceleration or negative growth rather than being stuck in a persistently slow-growing equilibrium. ### Preconditions of growth: initial conditions, development, and macro stability (figure data preserved as presented) - Initial Conditions / Institutions / Geography / Conflict / Exports diversification: - CPIA 2009: 3.0 (Fragile State) ; 1.2 (Non-Fragile LIC) - PIMI: 3.7 (Fragile State) ; 1.8 (Non-Fragile LIC) - Percent of Coastal Countries: 46 (Fragile State) ; 44 (Non-Fragile LIC) - Civil Conflict, average: 25% (Fragile State) ; 11 % (Non-Fragile LIC) - Herfindahl index, average (Exports diversification): 0.43 (Fragile State) ; 0.31 (Non-Fragile LIC) - Level of Development / Health / Education / GDP per capita / Investment: - Infant Mortality rate, per 1,000 live births, average: 96 (Fragile State) ; 71 (Non-Fragile LIC) - Percent of Attending Secondary School, average: 10 (Fragile State) ; 11 (Non-Fragile LIC) - WDI Real GDP per capita 2007, Constant 2000 US$, average: 378018 (Fragile State) ; 524963 (Non-Fragile LIC) - investment over gdp, percent, average: 21 (Fragile State) ; 24 (Non-Fragile LIC) - Level of Macro Stability / Debt / Reserves / Inflation: - Central Government Debt Ratio to GDP, in percent, average: 225 (Fragile State) ; 70 (Non-Fragile LIC) - Reserves Assets, US. Dollars millions, average: -63 (Fragile State) ; -53 (Non-Fragile LIC) - Inflation Rate, in percent, average (period 1970–2007): 15 (Fragile State) ; 14 (Non-Fragile LIC) ### Response to shocks (impulse-response analysis) - Method: autoregressive model of output growth rates augmented by shock dummies; impulse response functions with one-standard-error bands from 1,000 Monte Carlo simulations. - Key impulse-response results (fragile states vs non-fragile LICs): - Terms of trade shock (four years after shock): - Fragile states: about a 5 percent output loss - Non-fragile LICs: close to 2 percent output loss - FDI shock: - Fragile states: around 10 percent output decline (sharp and persistent) - Political shock (rise in unconstrained executive power): - Fragile states: 15 percent output loss - Non-fragile LICs: 5 percent output loss - Note on sample sizes reported in figures: - Note 1: Number of countries: 34; Number of observations: 1063 (fragile states panel) - Note 1: Number of countries: 17; Number of observations: 391 (non-fragile states LICs panel) ### Role of aid, technical assistance (TA), and sequencing - Sequencing matters: Technical assistance, financial aid, and macroeconomic policy reform can contribute to turnarounds in fragile states, but must be correctly sequenced. - Evidence from related literature (Chauvet and Collier (2008)): - Probit analysis of turnarounds (dependent variable: probability of commencement of a turnaround) finds TA can radically shorten state failure, whereas large volumes of financial aid could have the opposite effect if not sequenced appropriately. - Donors should phase in aid gradually during the first four years after conflict rather than providing large amounts immediately and tapering out too soon. ### Probit regression analysis (Tabulated results as presented) - Purpose: Test determinants of probability of start of sustained turnaround and probability of down breaks; examine effects of financial aid and TA. - Selected coefficient estimates (table layout preserved): - VARIABLES: Start of Sustained Turnaround (From 2.5 to 3.5) ; Downbreak - Secondary schooling: 0.161*** ; -0.0445 - (0.0645) ; (0.0390) - Resource rent (% GDP): -4.565** ; 1.696 - (2.589) ; (1.320) - Ln population: 0.298** ; -0.0491 - (0.158) ; (0.0914) - Aid (% GDP), lagged: -0.0583* ; -0.00495 - (0.0359) ; (0.0217) - Tech. assist. (% GDP), lagged: 0.219** ; -0.225*** - (0.127) ; (0.0974) - Constant: -4.884**** ; -1.112 - (1.533) ; (0.895) - Observations: 344579 - Robust standard errors in parentheses - Significance: **** p<0.01, *** p<0.05, ** p<0.1, * p<0.15 - Interpretation preserved from analysis: - TA significantly increases the probability of escaping political fragility (measured as a jump in the CPIA index) and TA can reduce the probability of having a down break in fragile states. - These results are robust to inclusion of conflict, education, and population growth, indicating TA may be the most powerful form of aid to initiate turnarounds in fragile states. ### Policy implications emphasized - Technical assistance (TA) appears particularly effective in increasing the probability of political and macrofragility turnarounds. - Sequencing of interventions is critical: prioritize TA and careful sequencing of financial aid and policy reforms to avoid adverse effects of large, poorly sequenced aid flows. - Strengthened donor coordination, strict prioritization and sequencing of objectives, and risk-tolerant approaches to transition financing are recommended to support statebuilding and recovery in fragile contexts. *Source: Appendix 2. Analytical Work with Emphasis on Macro Fragility (IMF PDF content).* ### 103. The World Bank has recently adopted procedures to implement the approach to ### _061511a - 103. The World Bank has recently adopted procedures to implement the approach to ### World Bank implementation of engagement in fragile states - The Bank has adopted procedures to implement the approach to engagement in fragile states outlined in WB (2011). Implementation is expected to be a long-term effort, though some actions can be taken in the near term (next 12 months). - Managing Risk: - The Bank aims to be more tolerant of the risk inherent in operating in fragile states (including by adopting fiduciary standards in procurement that are better suited to fragile contexts). - It will seek to ensure that there is greater awareness of the political context, and that risks in this regard are conveyed to the Board in order to promote better informed decision making. - Inclusive growth: - The Bank recognizes the particular importance of inclusive growth and the need to create jobs. - The International Finance Corporation (IFC) is expected to increase investment in fragile states and the Multilateral Investment Guarantee Agency (MIGA) is developing an instrument to insure against risks in these situations. - Human Resources: - The Bank recognizes the need to adopt changes to its human resources policy to implement an approach adapted to the needs of fragile states. - It sees a need to offer appropriate career incentives and training (including on areas such as political economy, diplomacy, and security) to staff working in fragile states, while emphasizing knowledge of the local context and political economy skills in its recruitment efforts. - Improved Coordination: - The Bank has initiated the establishment of a Fragile States Hub in Nairobi to better coordinate across its areas of engagement and with other actors engaged in fragile states. - Flexible Financial Instruments: - The Bank is moving to adapt and expand the scope of its financial instruments for FCS, and in the medium term to introduce more flexible rules for financial allocations to FCS. ### Providing Budget Aid in Situations of Fragility: World Bank–AfDB Common Approach Paper (CAP) — objectives and core messages - Objective: - The CAP sets out a “common approach” to improve coordination and the pooling of risk management in the provision of ‘budget aid’ in situations of fragility, among the World Bank and AfDB, in collaboration with the European Commission and IMF. - The goal is to better help countries in fragile situations to embark on a path of stability and resilience, with more predictable and targeted budget aid aimed at addressing the root causes of fragility and conflict. - Three main messages conveyed by the paper: - Reframe budget aid: - Budget aid should not be viewed simply as a transfer of financial resources to the country’s budget with a narrow focus on PFM. - It should be considered as a key element of an aid package consisting of evidence-based policy dialogue, analytical work, TA, capacity building activities, and financial transfers. - The package should be explicitly geared at addressing underlying causes of fragility and supporting transition toward resilience by: stabilizing the macrobudgetary framework to allow the state to carry out basic functions and cement legitimacy; supporting peace and statebuilding; and strengthening recipient capacity by channeling aid through national systems. - Risk analysis and pooling: - Risk elements surrounding the provision of budget aid need deeper analysis and wider sharing among the three institutions. - Working together to pool risk is a critical source of added value from improved coordination. - The risk of not engaging should be set against benefits from successfully stabilizing a country, including positive regional (and global) externalities. - Instrument mix and complementarity: - Consider more systematically the choice and complementary nature of policy-based budget support lending and grants, and other instruments to support recurrent expenditures, such as MDTFs. - Donors could fine tune the mix of instruments and sources of financing depending on their exposure to risk to avoid negative consequences from delay or withdrawal of disbursements through one mechanism. - Recommendations included in the paper: - Improve donor coordination. - Reinforce the rationale of budget aid. - Improve knowledge of the political economy. - Undertake a more comprehensive analysis of risk. - Consider nontraditional focus areas, e.g., security sector reform, rule of law and justice. - Address aid predictability and effectiveness (use a balanced mix of instruments/sources of financing of the budget, and move toward programmatic support where possible with a series of single-tranche operations). - Improve monitoring and evaluation systems. ### Case study — Fund engagement in Liberia 2003–2010: background and timeline - Background: - Liberia experienced prolonged civil war during 1989–1996 and 2000–2003, which destroyed almost all economic infrastructure and resulted in 250,000 deaths—equivalent to over 5 percent of the population. - Income per capita declined by about 80 percent during the conflict. - Liberia transitioned from a MIC to a LIC with a huge debt-to-GDP ratio of over 700 percent. - A National Transitional Government was appointed after the end of the civil war in 2003; elections were held in October–November 2005 and President Ellen Johnson Sirleaf took office in January 2006. - Timeline of Fund engagement: - The Fund re-engaged quickly after the signature of the 2003 Peace Treaty. - The Fund sent a mission in December 2003, alongside TA needs missions from FAD, MCM (then MFD), and STA. - Immediate postconflict engagement focused on defining TA needs and providing policy advice; staff assisted authorities in crafting fiscal policies for January–June 2004. - An SMP could only be put in place in 2006 after post-2004 slippages and governance issues; following the October 2005 elections, an SMP was initiated in February 2006. - Improvements under the new administration led to clearance of arrears and Fund financial support under a three-year PRGF/Extended Fund Facility (EFF) arrangement in 2008 and reaching the HIPC Initiative decision point; Liberia reached the HIPC completion point and received comprehensive debt relief in mid-2010. - Program features and confidence-building measures: - The Fund-supported program envisaged a balanced central government fiscal budget and a balanced central bank budget, and structural reforms in monetary and financial management and statistics. - Strong focus on fiscal management, with international experts deployed under the Governance and Economic Management Assistance Program (GEMAP). - The administration implemented the “150 Day Action Plan” targeting four pillars: expanding peace and security; revitalizing economic activity; rebuilding infrastructure and providing basic services; and strengthening governance and the rule of law. - TA and resident presence: - TA needs assessments began with the 2003 monitoring mission; TA increased substantially in 2006–07 with the newly elected government and in support of the SMP, including several resident advisers from 2006. - A resident representative has been in place since April 2006. - TA remained substantial during the ECF, including a resident adviser at the Central Bank as part of the GEMAP agreement. ### Factors critical for Fund engagement with Liberia - Quick response when opportunities for policy advice and TA arose (e.g., 1997–2000 brief peace and post-2003 stabilization). - Arrival of the Johnson Sirleaf administration in 2006 was critical for deepening engagement: - Implementation of GEMAP strengthened governance and provided assurances to donors. - Government prioritized comprehensive debt relief and macroeconomic stability, supporting SMP implementation from 2006, the PRGF/EFF from 2008, and HIPC triggers. - Structural reform slippages were mainly due to capacity weaknesses rather than lack of political commitment. - Wide-ranging TA: - Timely delivery across urgent issues with resident advisers to oversee implementation. - Improvements in Central Bank governance, safeguards, and PFM reforms were critical to eventual use of Fund resources and to hastening HIPC triggers and comprehensive debt relief. - Resident representative: - Installation of a resident representative at the outset of the SMP supported confidence building and helped build trust between authorities and the Fund. ### Factors that impeded Fund engagement with Liberia - Clearance of arrears, debt relief, and access to Fund financing required financing assurances and a track record of policy implementation and payments. - Raising SDR 550 million from the international community was required for internal financing as IMF debt relief for arrears cases had not been included in HIPC financing. - Financing assurances from other creditors were necessary; discussions on financing modalities covered much of 2006–2007, with an Executive Board decision in September 2007 and an additional six months to confirm participation. - The Fund’s de-escalation policy normally required about two years of evaluation prior to restoration of voting and related rights, roughly comparable to the time to secure financing assurances, though some policy flexibility existed. - Inability to provide financial support in the first two years postconflict: - Large arrears, massive debt overhang, and lack of HIPC debt relief financing constrained Fund lending. - Many bilateral donors and multilaterals (including the World Bank) provided substantial grant financing from 2006, often disbursed outside the budget process. - Authorities’ financing needs were acute in the immediate post-crisis period; net foreign exchange reserves amounted to only US$5 million in 2006. - Balanced budget policy constraints: - Authorities viewed the balanced budget policy during 2006-10 under the SMP and the PRGF/EFF as a significant fiscal constraint, particularly in 2009 amid the global recession. - Program amendments in 2009 potentially allowed concessional external borrowing for a macrocritical investment (the national port), but domestic financing options were not considered despite considerable build-up of excess liquidity in the banking system. - Authorities supported the balanced budget policy to secure Fund support and withstand creditor pressures; additional flexibility was limited by the difficulty in mobilizing financing for debt relief. - Terms of Fund financial support for acutely fragile states: - Liberia is expected to seek highly concessional external financing after the HIPC completion point to maintain low debt vulnerabilities. - Fund financing under the ECF or other concessional facilities does not meet the minimum 35 percent grant element expected for external financing under the Fund-supported program, and is far from the 50 percent grant element provided by other multilateral agencies. ### Intensive engagement without lending — Sudan (summary) - Background and crisis: - Engagement under the first SMP occurred against a crisis in a heavily managed economy characterized by large fiscal deficits monetized by the Central Bank of Sudan, resulting in triple digit inflation and large spreads between official and free market exchange rates. - A narrow export and revenue base led to large external arrears. - Stabilization outcomes: - Under early SMPs authorities controlled the cash fiscal deficit and reduced lending to public enterprises, containing money supply growth and bringing down inflation. - Real interest rates turned positive, reversing disintermediation and increased velocity trends from the mid-1990s. - Controlled depreciation eliminated the spread between official and free-market exchange rates. - Stabilization, combined with Sudan’s oil resources, increased investor confidence and set the stage for rapid pickup in investment and growth. *Italic: Source: _061511a - 103. The World Bank has recently adopted procedures to implement the approach to (PDF chapter/section).* ### 124. The SMPs also supported a more gradual, but nevertheless important, ### 124. The SMPs also supported a more gradual, but nevertheless important, ### Sudan: SMP-supported modernization and capacity building - Reforms focused on improving revenues, PFM, and tools of monetary management, all described as key capacity building requirements in fragile situations. - Tax policy and administration: - Tax policy reforms addressed inequities and distortions while broadening the tax base. - Reforms to modernize tax administration were undertaken. - Public financial management (PFM): - Significant efforts were directed to improving PFM, though capacity improvements have taken place very slowly and have been marked by periods when progress stalled or reversed. - Central bank and monetary management: - The Bank of Sudan’s operational effectiveness was dramatically improved through capacity enhancements and the introduction of Shariah-compliant instruments of monetary management. - Program design and implementation: - Early SMPs carried a heavy reform agenda—the 1998 SMP had 52 structural benchmarks. - Authorities successfully delivered on most conditions, albeit with delays on occasion. - Program conditionality was appropriately targeted and sequenced and was well supported by extensive TA. - Over the period from 1998–2010, significantly in excess of 100 TA missions visited Sudan. - Finding resident advisors proved more challenging. - Extensive Fund TA was tailored to the local context, including advice on establishing monetary management tools compatible with an Islamic banking setting. ### Sudan: shortcomings and implications - Persistent weaknesses: - Authorities found it difficult to tackle persistently large tax exemptions, which have kept non-oil revenue-to-GDP ratios at a low level. - Delays in forcefully addressing problems in state-owned banks. - After over a decade of reforms, much remains to be done. - Social and political consequences: - Sudan’s inability to receive debt relief has been a source of great frustration for the authorities. - Adjustment efforts occurred against economic sanctions and severe resource constraints. - Failure to achieve early debt relief, or a viable strategy to this end, over the extended period of SMP implementation has taken an enormous social toll and led to “adjustment fatigue.” - Institutional recommendation emerging from Executive Directors: - Executive Directors expressed a preference for close program-like engagement going forward. - They noted that continuing the series of SMPs would provide a macroeconomic framework and structural reform agenda to address remaining vulnerabilities and facilitate arrears clearance and debt relief when financing assurances are received. - By contrast, a surveillance-based relationship without a clearly specified program would entail risks given still-fragile fiscal and monetary positions. *Italic: Source: IMF staff report content unit _061511a - 124. The SMPs also supported a more gradual, but nevertheless important,* ### West Bank and Gaza (WBG): background and institutional progress - IMF engagement: - Mandated to engage with the Palestinian Authority (PA) in 1994 under the Oslo Accords. - Could not provide financial support (not a member state) but provided policy advice and TA on tax administration, public expenditure management, banking supervision and regulation, and macroeconomic statistics. - Fund staff worked with the PA to develop the Palestinian Reform and Development Plan (PRDP) presented at the Paris Donors’ Conference in 2007 and reviewed implementation during 2008, 2009, and 2010. - In 2010–11, staff worked with the PA to develop the Palestinian National Plan (PNP) for 2011–2013. - Political and economic context: - The Oslo Accords assigned the PA the task of institution-building and developing the policy and legal framework for a future Palestinian state. - Considerable progress until the second “Intifada” in 2000; deterioration in 2006 culminating in the election of the Hamas-led government, Israeli blockade, and Hamas control of Gaza. - Since 2007, macroeconomic conditions in the West Bank improved due to PA reforms supported by donor aid; Gaza declined until 2010 when it rebounded following easing of import controls. - Institutional capacity: - Fund staff consider the PA able to conduct policies expected of a future well-functioning Palestinian state given reforms and institution-building in public finance and financial areas. - Reforms enabled the PA to tightly control expenditures, apply rigorous budget preparation and execution, and establish fiscal transparency and accountability in line with international standards. - The Palestine Monetary Authority is able to fulfill the core functions of a central bank. - The Palestinian Central Bureau of Statistics (PCBS) aims to meet all the requirements of the Special Data Dissemination Standard (SDDS) in 2011. ### WBG: what worked - Program ownership and feasibility: - Fund staff worked closely with the PA to ensure envisaged measures were achievable given political and capacity constraints. - Coordination and inputs: - Coordination with Strategy, Policy, and Review Department (SPR) and critical inputs/TA from FAD and MCM improved policy and reform design. - Stakeholder engagement: - Strong simultaneous engagement with Israel, donors, and the PA—a necessary feature given heavy dependence of the Palestinian economy on actions by Israel and donors. - Board and donor interaction: - The Board informally endorsed the PRDP in 2007, raising its credibility with donors. - Semiannual Fund reports provided timely analyses widely disseminated and used by donors. - Donors highly value the Fund’s analysis and use it when pledging and disbursing aid; donors also financed a joint medium-term agenda with DfID for fragile states assistance. - Bank-Fund coordination: - Close coordination with World Bank staff on growth-related issues, pension reform, utility subsidies, PFM, and financial sector development. ### WBG: what could have worked better - Donor-PA coordination: - Shortfalls and delays in disbursements for recurrent and development spending contributed to domestic payment arrears and borrowing from commercial banks; an enhanced donor coordination framework with better follow-up on pledges could address this. - PFM systems: - Faster implementation of a Financial Management Information System (FMIS) and cash management procedures could have stemmed arrears accumulation earlier; delays due to Fatah-Hamas strife in 2006 and early 2007 delayed TA for FMIS until mid-2007. - TA personnel: - Presence on the ground of Arabic-speaking TA experts was limited; authorities preferred Arabic-speaking experts but political and visa-related constraints made attracting such experts difficult. *Italic: Source: IMF staff report content unit _061511a - 124. The SMPs also supported a more gradual, but nevertheless important,* ### Iraq: background, program aims, and outcomes - IMF engagement since 2003: - Initial focus on policy advice (monetary and fiscal) and TA to rebuild economic institutions. - In September 2004, the Fund approved EPCA for Iraq, which—together with a DSA—paved the way for a Paris Club agreement. - Iraq completed two precautionary Stand-By Arrangements (SBAs) focused on macroeconomic stability, growth, and structural/institutional reforms. - Progress and reforms: - Inflation reduced to single digits; international reserves improved markedly. - Domestic fuel prices were raised to eliminate direct fuel subsidies. - Pension system reformed to be sustainable, creating room for priority spending on investment and social sectors. - Steps taken to strengthen PFM, improve oil sector transparency, rebuild central bank capacity, and initiate restructuring of the two largest state-owned banks. - Long-term debt sustainability advances: in 2004, the Paris Club agreed to reduce Iraq’s external debt by 80 percent in net present value terms; the third and final tranche of this debt relief was granted following completion of the last review under the second SBA in December 2008. - Some bilateral debt agreements with non-Paris Club creditors have been concluded, though the process is not yet completed. ### Iraq: current program and financing - New two-year SBA: - IMF Executive Board approved a new two-year SBA on February 24, 2010. - Program allows for disbursements of about US$3.8 billion (SDR 2,376.8 million, or 200 percent of quota). - Program provides a macroeconomic framework supporting reconstruction during the political transition after the March 2010 parliamentary elections. - Program objectives: - Preserve macroeconomic stability and support structural reform to ensure sustainable growth and poverty reduction. - Structural reform agenda based on three pillars: modernizing Iraq’s PFM system, developing the financial sector, and strengthening governance in the fiscal, financial, and oil sectors. ### Iraq: what worked - Program ownership: - Fund-supported programs provided an anchor for macroeconomic policy implementation and structural reforms. - Authorities adopted budgets based on more realistic assumptions and safeguarded central bank independence. - Macroeconomic stability: - Inflation reduced to low single digits, exchange rate stabilized, and reserve position strengthened. - Growth recovered, mainly due to the oil sector. - Flexibility in program assessment: - Program implementation assessed based on performance relative to objectives rather than by counting PCs or structural benchmarks, recognizing capacity weaknesses. - Program reviews under the arrangement are semiannual, reflecting delays in data availability. - Coordination and information: - Early-stage discussions with SPR and LEG were helpful; FAD, FIN, and MCM provided critical inputs for structural reform design. - Fund programs and published documents have been a key source of consistent information on Iraq’s economic developments and policies. - Donor-financed TA: - Donors provided financial support through a country-specific TA trust fund. - Bank-Fund coordination: - Close collaboration with World Bank on PFM, financial sector development, and oil sector transparency; Bank provided parallel budgetary support presented simultaneously to respective Boards. ### Iraq: what could have worked better - In-country TA and presence: - Due to security constraints and the bombing of the UN headquarters in 2003, staff have not traveled to Iraq; missions took place in third countries, hampering TA delivery. - Lack of resident advisors in the central bank and ministry of finance and inability to station the Fund’s resident representative in Baghdad limited effectiveness. - High costs of security mitigation and lack of competitive benefits for staff in risky situations constrained in-country staffing. - Governance focus: - Greater focus on governance issues was desirable as institutions were rebuilt; lack of in-country presence made detecting governance problems harder. - Donor TA coordination: - Coordination with donors other than the World Bank was less frequent than desirable, partly due to lack of in-country Fund presence, sometimes resulting in incomplete information on donors’ plans and activities. - Engagement frequency: - More frequent missions from the area department and TA departments would have helped speed implementation of structural reforms, but frequency was constrained by Fund resource limits and burdens imposed by travel to third countries. - Data weaknesses: - Poor data quality and long lags in availability complicated analysis and policy formulation; stronger emphasis on improving data with additional TA would have been helpful. *Italic: Source: IMF staff report content unit _061511a - 124. The SMPs also supported a more gradual, but nevertheless important,* ### Programs with constrained resources: Central African Republic and Yemen (introductory note) - Donor volatility and development strategies: - Sparse and volatile donor assistance significantly impacts development strategies of many LICs in fragile situations. - Donors pursue multiple objectives (economic development, political reform) and may reduce aid when benchmarks are not met. - Changes in other recipient countries or donor-country economic conditions can also influence aid volumes. - Consequences for recipient countries: - Many countries must meet spending needs from volatile and often meager resource envelopes. - This hinders their ability to meet population needs, including the Millennium Development Goals (MDGs), and to gain legitimacy, impeding statebuilding. *Italic: Source: IMF staff report content unit _061511a - 124. The SMPs also supported a more gradual, but nevertheless important,* ### 138. The two countries considered in this section are all facing such problems ### 138. The two countries considered in this section are all facing such problems ### Central African Republic — fiscal constraints and development needs - Total government spending constrained to about 15 percent of GDP. - Wages and salaries amount to just 5 percent of GDP. - Capital spending is of a similar magnitude (i.e., roughly 5 percent of GDP). - Low per capita GDP makes achieving meaningful transition very difficult. - IMF Country Report No. 10/332 notes: - the need for additional donor assistance in 2010 to support budget implementation; - still more donor assistance is needed for crucial development spending such as the rehabilitation of the critical provision of utility services. ### Yemen — exhaustible resources and financing shortfalls - Exhaustion of oil reserves in the medium term necessitates a sharp adjustment of expenditures. - External assistance would aid adjustment, but political factors impede its ability to attract donor assistance. - IMF Country Report No. 10/300 indicates: - low identified external financing of 0.7 of GDP in 2010; - as a result, programming entailed higher domestic financing (an increase in central bank budgetary support), lower public investment, and lower priority spending. ### Aid and government expenditures (Figure 14) - The section compares aid (grants) and general government revenue and total expenditure for the Central African Republic and Yemen, illustrating constrained spending envelopes and the role of grants in overall revenue. *Source: _061511a - 138. The two countries considered in this section are all facing such problems* --- _Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/np/pp/eng/2011/_061511a.pdf_