## _100616a - EXECUTIVE SUMMARY

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### Introduction
- Reviews the interest rate mechanism established in 2009 and proposes rates that would apply to PRGT loans in 2017–18.
- Notes the mechanism differentiates among two PRGT facilities (ECF and SCF), is subject to periodic review (currently at two-year intervals), and was modified in July 2015.
- Proposes a modification to accommodate a very low interest rate environment and a waiver of interest rate charges on outstanding legacy ESF credits until the next review.

### Background and rationale
- Objectives of the 2009 mechanism included:
  - increase concessionality of PRGT financing;
  - preserve the Trust’s scarce resources;
  - avoid permanently zero interest rates;
  - tailor financial terms to LICs’ needs and capacity;
  - limit fluctuations in concessionality of PRGT instruments and subsidy costs.
- Mechanism coverage and exceptions:
  - Applies to interest rates on loans under the SCF and ECF.
  - Does not apply to ESF loans (flat rate of 0.25 percent) or to the RCF (set permanently to zero in July 2015).
- Under the mechanism:
  - Interest rates on SCF and ECF outstanding balances are set for two years based on the average SDR interest rate in the preceding 12 months.
  - The SCF rate is set at 25 basis points above the ECF rate.
- The PRGT interest rate mechanism has been deferred several times; the most recent waiver extension was through end-December 2016.
- Directors called for an exit strategy from the waiver and re-examination of the mechanism given the possibility of a prolonged period of very low interest rates.

### Current application and observed impacts
- Since January 2010 an exceptional interest rate waiver set all interest rates charged on outstanding Fund concessional credit at zero percent.
- Impact of the Interest Rate Waivers, 2010–16:
  - Total estimated savings from the waiver: SDR 19.4 million.
  - Composition: SDR 17.3 million (foregone interest payments on ESF loans), SDR 0.8 million (ENDA/EPCA credits), SDR 1.2 million (SCF loans).
  - Members with outstanding ECF or RCF credit did not accrue additional gains, as the mechanism would have set those rates at zero (the 12-month average SDR rate ranged from 5 to 44 basis points over that period).
  - Of total savings, 39 percent were provided to the lowest income quartile of the PRGT-eligible group and 13 percent to fragile states.
  - The foregone interest income reduced the PRGT’s permanent annual lending capacity by SDR 4–5 million or less than ½ percent.
  - Interest savings by facility (total in thousands of SDRs): SCF 1,207; ESF 17,347; ENDA/EPCA 829; Total 19,383.
- SDR interest rate developments:
  - The 3-month SDR rate declined from 0.23 percent (January 2010) to 0.05 percent (end-June 2016).
  - The SDR rate remained flat at 0.05 percent—the floor for this rate—since the last interest rate review in 2014.
  - The 12-month average SDR rate declined slightly to 0.05 percent, from 0.09 percent since the 2014 review.

### Proposed modification to the interest rate mechanism (way forward)
- Core proposal:
  - Introduce a new threshold whereby both the ECF and the SCF rate would be set at zero when the 12-month average SDR rate is less than or equal to 0.75 percent.
- Expected outcomes:
  - Likely keep all PRGT interest rates under the mechanism at zero through at least 2020 given current market expectations.
  - Incur only minimal subsidy costs and eliminate the need for continual waivers.
  - Maintain zero rates on all PRGT obligations for another two years, and possibly until 2020 for the ECF and the SCF, while allowing rates to be set using the agreed mechanism for the first time.
- Additional staff proposal:
  - Waive interest rate charges on outstanding legacy balances under the ESF until the next review.

### Institutional and procedural notes
- The current two-year extension of the interest waiver of PRGT loans is due to expire at the end of the year of the paper.
- Paper includes proposed decisions to revise the mechanism and establish interest rates using this revised mechanism for the period through end-2018.
- Existing PRGT mapping (from source table prior to proposed amendment):
  - SDR rate < 2: ECF = 0, SCF = 0.25
  - 2 ≤ SDR rate ≤ 5: ECF = 0.25, SCF = 0.50
  - SDR rate > 5: ECF = 0.50, SCF = 0.75
  - RCF rate set permanently to zero as of July 2015
- July 2015 modification: RCF interest rate set permanently to zero; PRGT access norms increased by 50 percent; rebalancing of funding mix under blended arrangements from 1:1 to 1:2.

### Conclusions and implications
- Maintains that a strong case remains for zero rates on Fund concessional credit given that the global outlook for LICs had not significantly improved and downside risks remained significant.
- The threshold-based amendment would:
  - address anomalies created by prolonged very low interest rates;
  - preserve PRGT self-sustainability;
  - reduce the need for repeated waivers;
  - keep subsidy costs minimal.

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### 10. Given low global interest rates, the application of the PRGT interest rate mechanism

### Current application and immediate implications
- Under the existing PRGT interest rate mechanism, the ECF would carry a zero interest rate for 2017–18 given low global interest rates.
- Upon expiration of the temporary interest waiver at end-2016:
  - An interest rate of 0.25 percent would apply to outstanding credit under the SCF.
  - Charges for outstanding ESF balances (SDR 0.7 billion as of end-July 2016) would be 0.25 percent (the standard ESF rate).

### PRGT credit composition and rates (as of mid-2016)
- PRGT credit outstanding, as of end-June 2016 (in millions of SDRs):
  - ECF: 5,050
  - RCF: 428
  - SCF: 240
  - ESF: 717
- For about 85 percent of outstanding PRGT loans, an interest rate of zero would apply (including outstanding credits under the ECF and the RCF).
- Outstanding credits under the SCF amounted to SDR 240 million as of end-June 2016; an interest rate of 0.25 percent would apply under the current mechanism.
- For January–June 30, 2016, total new PRGT commitments amounted to SDR 0.6 billion:
  - SDR 0.5 billion under the SCF
  - SDR 0.1 billion under the ECF
- Availability and commitment fees:
  - An availability fee of 0.15 percent is charged on available but undrawn balances.
  - For GRA resources, an up-front commitment fee (15 basis points on committed amounts of up to 115 percent of quota; 30 basis points for amounts in excess of 115 percent and up to 575 percent of quota; and 60 basis points for amounts in excess of 575 percent of quota) applies and is refunded proportionately as subsequent drawings are made.

### Economic context and rationale
- Global growth expected in 2016: 3.1 percent.
- Drivers of LIC vulnerabilities: lower commodity prices, weak external demand, tighter financial conditions; short-term economic vulnerabilities among LICs have increased.
- Global interest rates remain close to zero; market expectations for normalization have been substantially revised down.
- Inclusion of the renminbi in the SDR basket (October 2016) is expected to initially lead to a slight increase in the SDR rate and funding costs; staff estimate this inclusion would increase PRGT funding costs and associated SDR rates ceteris paribus by about 22 basis points.
- The current mechanism can produce an anomaly where the PRGT lending rate on some facilities could exceed the PRGT’s funding cost when global rates are very low.

### Proposed modification to the PRGT interest rate mechanism
- Objective: preserve concessionality in periods of very low global interest rates and avoid successive waivers.
- Core proposal: add an additional lower threshold for the SDR reference rate below which the SCF interest rate would be set at zero, alongside the ECF zero rate and the permanently zero RCF rate.
- Intended outcomes:
  - Ensure all PRGT credit would have a zero interest rate when the SDR rate is very low, except legacy ESF loans unless separately addressed.
  - Provide a predictable path for adjusting rates and better safeguard PRGT self-sustaining capacity.
  - Maintain differentiation across facilities during normal times, unify rates when rates are very low, and preserve scarce concessional resources for poorer PRGT-eligible members.

### Proposed thresholds and rate schedule
- Definitions:
  - SDR rate 1/: Average SDR rate for the latest 12 months.
  - RCF 2/: Rate set permanently to zero as of July 2015.
- Proposed interest rates by SDR rate range (In percent):
  - SDR rate ≤ 0.75:
    - ECF: 0.00
    - RCF: 0.00
    - SCF: 0.00
  - 0.75 < SDR rate < 2:
    - ECF: 0.00
    - RCF: 0.00
    - SCF: 0.25
  - 2 ≤ SDR rate ≤ 5:
    - ECF: 0.25
    - RCF: 0.00
    - SCF: 0.50
  - SDR rate > 5:
    - ECF: 0.50
    - RCF: 0.00
    - SCF: 0.75

### Expected fiscal/subsidy impacts (summary)
- Staff estimates of annual subsidy cost to PRGT under proposed modifications (In millions of SDRs) depend on assumed SDR rate paths; illustrative impacts for interest lost on SCF loans relative to baseline:
  - 2017–18: 5.5
  - 2019–20: 10.2
  - 2021–22: 13.5
  - 2023–24: 29.4
- Example scenario totals and impacts (illustrative in source):
  - 2017–24 totals shown in scenarios (e.g., 5.5; 15.7; 29.1; 58.6 depending on assumed SDR rate rises).
- Memo item: Impact on the self-sustained PRGT capacity relative to baseline (million SDRs): -1, -3, -6, -14 across alternative scenarios.
- Assumptions:
  - Assumes SDR rates rising above 0.5% in 2018, above 1% in 2021 and above 1.5% in 2023.
  - PRGT capacity without modification estimated as SDR 1.23 billion based on assumptions consistent with the April 2016 Update.
  - Staff indicate the PRGT self-sustained lending capacity would remain close to its target of SDR 1¼ billion under the proposed modification.

### ESF outstanding balances and proposed treatment
- ESF outstanding as of end-July 2016: SDR 698 million, comprising:
  - ESF-HAC: SDR 449 million
  - ESF-RAC: SDR 249 million
- Under current rules, ESF loans are not covered by the PRGT interest rate mechanism; upon waiver expiration they would be charged 0.25 percent.
- Staff proposal: waive the interest rate on outstanding balances under the ESF until the next review.
  - Rationale: ESF loans are legacy; most will be repaid in the next few years; ESF facilities were broadly superseded by RCF (ESF-RAC) and SCF (ESF-HAC).
  - Estimated interest savings: SDR 2.0 million for 14 PRGT-eligible countries that have outstanding credit under the ESF.
  - All ESF loans are expected to be repaid by November 2020.

### Conclusions and implementation timetable
- Under the modified mechanism:
  - The interest rate on the SCF and the ECF would be set at zero for the period 2017–18.
  - Staff also recommends waiving interest rate charges on outstanding ESF balances until the next review.
- Expected benefits:
  - Broadly maintain the capacity of the self-sustaining PRGT.
  - Allow the rules-based interest rate mechanism to function and provide an exit from successive waivers.
  - Provide continued support to LICs amid the current challenging global environment.
- Next review: the next review of the PRGT interest rate structure would be completed by December 31, 2018 (consistent with Section II, Paragraph 4(b) of the PRGT Instrument).

*Source: EXECUTIVE SUMMARY and Section 10, REVIEW OF INTEREST RATE (IMF), August 24, 2016; IMF Finance Department analysis and staff proposals (content unit: “10. Given low global interest rates, the application of the PRGT interest rate mechanism”).*

### EXECUTIVE SUMMARY

### _100616a - EXECUTIVE SUMMARY

### Introduction
- The paper reviews the interest rate mechanism established in 2009 and proposes rates that would apply to PRGT loans in 2017–18.
- The interest rate structure for PRGT loans and the mechanism for setting interest rates on PRGT facilities formed part of the 2009 reforms of the Fund’s concessional lending facilities for LICs.
- Following changes introduced in July 2015, the mechanism differentiates among two PRGT facilities (ECF and SCF) and is subject to periodic review—currently at two-year intervals—to reflect developments in world interest rates.
- The paper proposes a modification of the interest rate mechanism to accommodate a very low interest rate environment and proposes to waive interest rate charges on outstanding legacy ESF credits until the next review.

### Background and rationale
- Objectives of the 2009 mechanism included:
  - increase concessionality of PRGT financing;
  - preserve the Trust’s scarce resources;
  - avoid permanently zero interest rates;
  - tailor financial terms to LICs’ needs and capacity;
  - limit fluctuations in concessionality of PRGT instruments and subsidy costs.
- The mechanism applies to interest rates on loans under the SCF and ECF; it does not apply to loans under the ESF (flat rate of 0.25 percent) or to the RCF (set permanently to zero in July 2015).
- Under the mechanism, interest rates on SCF and ECF outstanding balances are set for two years based on the average SDR interest rate in the preceding 12 months; the SCF rate is set at 25 basis points above the ECF rate.
- The PRGT interest rate mechanism has been deferred several times; the most recent waiver extension was through end-December 2016.
- Many Directors called for an exit strategy from the waiver and for re-examination of the mechanism given the possibility of a prolonged period of very low interest rates, to safeguard the self-sustaining capacity of the PRGT.

### Current application and observed impacts
- Since January 2010 an exceptional interest rate waiver has set all interest rates charged on outstanding Fund concessional credit at zero percent.
- Box 1 — Impact of the Interest Rate Waivers, 2010–16:
  - Total estimated savings from the waiver: SDR 19.4 million.
  - Composition: SDR 17.3 million in foregone interest payments on ESF loans, SDR 0.8 million on ENDA/EPCA credits, and SDR 1.2 million on SCF loans.
  - Members with outstanding ECF or RCF credit did not accrue additional gains, as the mechanism would have set those rates at zero (the 12-month average SDR rate ranged from 5 to 44 basis points over that period).
  - Of total savings, 39 percent were provided to the lowest income quartile of the PRGT-eligible group and 13 percent to fragile states.
  - The foregone interest income reduced the PRGT’s permanent annual lending capacity by SDR 4–5 million or less than ½ percent.
  - Interest savings by country and facility listed (total in thousands of SDRs): Total 1,207 (SCF), 17,347 (ESF), 829 (ENDA/EPCA) = 19,383.
- SDR interest rate developments:
  - The 3-month SDR rate declined from 0.23 percent at the time of the first waiver in January 2010 to 0.05 percent as of end-June 2016.
  - The SDR rate has remained flat at 0.05 percent—the floor for this rate—since the last interest rate review in 2014.
  - The 12-month average SDR rate declined slightly to 0.05 percent, from 0.09 percent since the 2014 review.

### Proposed modification to the interest rate mechanism (way forward)
- Core proposal:
  - Introduce a new threshold whereby both the ECF and the SCF rate would be set at zero when the 12-month average SDR rate is less than or equal to 0.75 percent.
- Expected outcomes of the proposal:
  - This proposal will likely keep all PRGT interest rates under the mechanism at zero through at least 2020 given current market expectations.
  - It would incur only minimal subsidy costs and eliminate the need for continual waivers.
  - It would maintain zero rates on all PRGT obligations for another two years, and possibly until 2020 for the ECF and the SCF, while allowing rates to be set using the agreed mechanism for the first time.
- Additional staff proposal:
  - Waive interest rate charges on outstanding legacy balances under the Exogenous Shocks Facility (ESF), which are not determined via the interest rate mechanism, until the next review.

### Institutional and procedural notes
- The current two-year extension of the interest waiver of PRGT loans is due to expire at the end of the year of the paper.
- The paper includes proposed decisions to revise the mechanism and establish interest rates using this revised mechanism for the period through end-2018.
- The PRGT interest rate mechanism applies a 12-month average SDR rate as the reference rate; table in source indicates mapping:
  - SDR rate < 2: ECF = 0, SCF = 0.25
  - 2 ≤ SDR rate ≤ 5: ECF = 0.25, SCF = 0.50
  - SDR rate > 5: ECF = 0.50, SCF = 0.75
  - (RCF rate set permanently to zero as of July 2015)
- July 2015 modification: RCF interest rate set permanently to zero; PRGT access norms increased by 50 percent; rebalancing of funding mix under blended arrangements from 1:1 to 1:2 for better-positioned PRGT-eligible countries.

### Conclusions and implications
- A strong case remains for maintaining zero rates on Fund concessional credit at the current global economic juncture given that the global outlook for LICs has not significantly improved since the last review and downside risks remain significant.
- The proposed threshold-based amendment would address anomalies created by prolonged very low interest rates, preserve PRGT self-sustainability, reduce the need for repeated waivers, and keep subsidy costs minimal.

*Source: EXECUTIVE SUMMARY, REVIEW OF INTEREST RATE (IMF), August 24, 2016.*

### 10. Given low global interest rates, the application of the PRGT interest rate mechanism

### 10. Given low global interest rates, the application of the PRGT interest rate mechanism

### Current application and immediate implications
- Under the existing PRGT interest rate mechanism, the ECF would carry a zero interest rate for 2017–18 given low global interest rates.
- Upon expiration of the temporary interest waiver at end-2016:
  - An interest rate of 0.25 percent would apply to outstanding credit under the SCF.
  - Charges for outstanding ESF balances (SDR 0.7 billion as of end-July 2016) would be 0.25 percent (the standard ESF rate).

### PRGT credit composition and rates (as of mid-2016)
- PRGT credit outstanding, as of end-June 2016 (in millions of SDRs):
  - ECF: 5,050
  - RCF: 428
  - SCF: 240
  - ESF: 717
- For most PRGT borrowers (about 85 percent of outstanding PRGT loans), an interest rate of zero would apply, including outstanding credits under the ECF and the RCF (RCF rate permanently set to zero).
- Outstanding credits under the SCF amounted to SDR 240 million as of end-June 2016; an interest rate of 0.25 percent would apply under the current mechanism.
- For the period January–June 30, 2016, total new PRGT commitments amounted to SDR 0.6 billion:
  - SDR 0.5 billion under the SCF
  - SDR 0.1 billion under the ECF
- Availability and commitment fees referenced:
  - An availability fee of 0.15 percent is charged on available but undrawn balances.
  - For GRA resources, an up-front commitment fee (15 basis points on committed amounts of up to 115 percent of quota; 30 basis points for amounts in excess of 115 percent and up to 575 percent of quota; and 60 basis points for amounts in excess of 575 percent of quota) applies to the amount that may be drawn during each annual period under an SBA, FCL, PLL, or EFF. This fee is refunded on a proportionate basis as subsequent drawings are made under the arrangement.

### Economic context and rationale
- Global growth expected in 2016: 3.1 percent.
- Drivers of LIC vulnerabilities: lower commodity prices, weak external demand, tighter financial conditions; short-term economic vulnerabilities among LICs have increased.
- Global interest rates remain close to zero; market expectations for normalization have been substantially revised down.
- Inclusion of the renminbi in the SDR basket (October 2016) is expected to initially lead to a slight increase in the SDR rate and funding costs; staff estimates this inclusion would increase PRGT funding costs and associated SDR rates ceteris paribus by about 22 basis points.
- The current mechanism can produce an anomaly where the PRGT lending rate on some facilities could exceed the PRGT’s funding cost when global rates are very low.

### Proposed modification to the PRGT interest rate mechanism
- Objective: preserve the concessional nature of PRGT financing in periods of very low global interest rates and avoid successive waivers.
- Core proposal: add an additional lower threshold for the SDR reference rate below which the SCF interest rate would be set at zero, alongside the ECF zero rate and the permanently zero RCF rate.
- Intended outcomes:
  - Ensure all PRGT credit would have a zero interest rate when the SDR rate is very low, except legacy ESF loans unless separately addressed.
  - Provide a predictable path for adjusting rates and better safeguard PRGT self-sustaining capacity.
  - Maintain differentiation across facilities during normal times, unify rates when rates are very low, and preserve scarce concessional resources for poorer PRGT-eligible members.

### Proposed thresholds and rate schedule (as set out in Table 2)
- Definitions:
  - SDR rate 1/: Average SDR rate for the latest 12 months.
  - RCF 2/: Rate set permanently to zero as of July 2015.
- Proposed interest rates by SDR rate range (In percent):
  - SDR rate ≤ 0.75:
    - ECF: 0.00
    - RCF: 0.00
    - SCF: 0.00
  - 0.75 < SDR rate < 2:
    - ECF: 0.00
    - RCF: 0.00
    - SCF: 0.25
  - 2 ≤ SDR rate ≤ 5:
    - ECF: 0.25
    - RCF: 0.00
    - SCF: 0.50
  - SDR rate > 5:
    - ECF: 0.50
    - RCF: 0.00
    - SCF: 0.75

### Expected fiscal/subsidy impacts (summary of Table 3)
- Staff estimates of annual subsidy cost to PRGT under proposed modifications (In millions of SDRs) depend on assumed SDR rate paths; illustrative impacts include:
  - Interest lost on SCF loans relative to baseline:
    - 2017–18: 5.5
    - 2019–20: 10.2
    - 2021–22: 13.5
    - 2023–24: 29.4
    - 2017–24 total scenario lines include broader impacts (for example, a scenario showing 2017–24 totals of 5.5; 15.7; 29.1; 58.6 depending on assumed SDR rate rises)
- Memo item: Impact on the self-sustained PRGT capacity relative to baseline (million SDRs): -1, -3, -6, -14 across alternative scenarios.
- Assumptions noted:
  - Assumes SDR rates rising above 0.5% in 2018, above 1% in 2021 and above 1.5% in 2023.
  - PRGT capacity without modification estimated as SDR 1.23 billion based on assumptions consistent with the April 2016 Update; staff indicate the PRGT self-sustained lending capacity would remain close to its target of SDR 1¼ billion under the proposed modification.

### ESF outstanding balances and proposed treatment
- ESF outstanding as of end-July 2016: SDR 698 million, comprising:
  - ESF-HAC: SDR 449 million
  - ESF-RAC: SDR 249 million
- Under current rules, ESF loans are not covered by PRGT interest rate mechanism; upon waiver expiration they would be charged 0.25 percent.
- Staff proposal: waive the interest rate on outstanding balances under the ESF until the next review.
  - Rationale: ESF loans are legacy, most will be repaid in the next few years; ESF facilities were broadly superseded by RCF (ESF-RAC) and SCF (ESF-HAC).
  - Estimated interest savings: SDR 2.0 million for 14 PRGT-eligible countries that have outstanding credit under the ESF.
  - All ESF loans are expected to be repaid by November 2020.

### Conclusions and implementation timetable
- Under the modified mechanism:
  - The interest rate on the SCF and the ECF would be set at zero for the period 2017–18.
  - Staff also recommends waiving interest rate charges on outstanding ESF balances until the next review.
- Expected benefits:
  - Broadly maintain the capacity of the self-sustaining PRGT.
  - Allow the rules-based interest rate mechanism to function and provide an exit from successive waivers.
  - Provide continued support to LICs amid current challenging global environment.
- Next review: consistent with Section II, Paragraph 4(b) of the PRGT Instrument, the next review of the PRGT interest rate structure would be completed by December 31, 2018.

*Source: IMF Finance Department analysis and staff proposals (content unit: “10. Given low global interest rates, the application of the PRGT interest rate mechanism”).*

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_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/np/pp/eng/2016/_100616a.pdf_