IMF Adopts Safeguards Assessments as a Permanent Policy
Safeguards Assessments Semi-Annual Updates Home Page
Safeguards Assessments-Semi-Annual Update
Prepared by the Treasurer's Department
In consultation with other Departments
March 6, 2003
1. At the last review of the safeguards assessment program by the Executive Board,1 the staff committed to provide semi-annual summary reports covering the activities and results of the program. The first such report was issued in August 2002.2 This document updates the status of program work since inception of the policy and provides information on activities during the six-months ended December 31, 2002. Box 1 highlights the main features of the safeguards policy.
2. As foreshadowed in the previous semi-annual update (SM/02/268), the focus of staff work under the program has been shifting towards the monitoring of safeguards recommendations, balanced against the need to continue to conduct safeguards assessments related to new use of Fund resources. Between June and December 2002, staff has made significant progress in verifying the status of implementation for the backlog of assessments conducted during 2000 and 2001, while at the same time completing eight new safeguards assessments. Section II provides statistical information on (i) the implementation rates for safeguards assessment recommendations, (ii) the status of assessments, and (iii) the findings of safeguards assessments.
3. Overall, staff continues to find that safeguards assessments and the resulting recommendations are well received by member countries. However, experience over the past six months also demonstrates that cooperation among individual countries can vary significantly. Section III provides specific examples of the achievements and challenges in the conduct of safeguards assessments, and Section IV summarizes the outreach activities undertaken by staff to enhance communication and dissemination of information on the safeguards policy.
4. Table 1 provides a summary of the status of recommendations made to remedy vulnerabilities with due dates on or before December 31, 2002 and with a breakdown of recommendations included or not under program conditionality and commitments under the Letter of Intent(LOI)/Memorandum of Economic and Financial Policies (MEFP).3
5. Of the 275 recommendations with due dates on or before December 31, 2002 less than one quarter were included under program conditionality or letters of intent/MEFPs. Staff experience has shown it is important to analyze not only formal conditionality, but also LOI/MEFP commitments as both represent explicit pledges to implement the measures on the part of the member country. The overall rate of implementation for all recommendations was about 63 percent. As expected, the rate of implementation for measures in which the authorities have formally demonstrated ownership, either through commitments in the LOI/MEFP or under program conditionality, remained high. Measures included under conditionality have the highest rate of implementation at over 90 percent, followed by those for which formal commitment of the authorities has been obtained in the LOI/MEFP, which had an implementation rate of about 84 percent. Implementation of the remaining eight measures (three under formal conditionality and five under LOI/MEFP commitments) has been delayed due to slippages in the programs. In all but one case, the Executive Board has completed the review under the arrangement, notwithstanding the delay in implementation.
6. In contrast to those recommendations on which formal commitment to implement has been obtained, the measures not included under conditionality or LOI/MEFPs have a lower implementation rate of about 56 percent. The recommendations not yet implemented represent a range of situations including: (i) lower-priority items which do not pose a continuing risk to Fund resources and were not included under conditionality; (ii) recommendations substantially, but not yet fully, complete; (iii) recommendations under non-active programs; and (iv) recommendations for which the authorities' actions have not fulfilled the requirements in the way the staff intended. Specific achievements in implementation, as well as challenges represented by recommendations not yet implemented, are further discussed in Section III.
7. Safeguards assessments have continued at a steady pace. As shown in Table 2 and the Annex, since inception of the safeguards policy in July 2000, Fund staff has completed 64 safeguards assessments, comprising 37 full assessments and 27 transitional assessments. These assessments covered a total of 56 central banks, as seven central banks have been subject to both a transitional and a full assessment and one central bank had two full assessments.4 Eight full assessments were completed in the six month period ended December 30, 2002: Argentina, Bangladesh, Bosnia & Herzegovina, Cape Verde, Guinea, Guatemala, Nepal and Sierra Leone. All of these assessments were completed by the deadline under the safeguards policy, namely the first review by the Executive Board of the respective arrangement with the Fund.5
8. Of the 37 full assessments completed, on-site assessments were conducted in 23 (or 62 percent) of the central banks. In the remaining14 assessments, sufficient information was available through correspondence and communication with the authorities and the external auditors to form a final conclusion on safeguards without the need to verify the risks on-site. While on-site assessments incur incremental costs, experience to date suggests that assessments with on-site visits tend to be more effective, as measured by the rate and timeliness of reforms undertaken by central banks. The principal reasons behind this conclusion are: (i) significant outstanding issues or questions may not be easily resolved off-site because they require confirmation of procedures, observation of practices, and further review of detailed documents; (ii) on-site assessments afford the opportunity of an open dialogue with central bank representatives and in-depth meetings with multiple parties; and (iii) on-site assessments frequently overlap with area department missions and lead to an efficient collaboration between TRE and other Fund departments, especially in cases requiring measures under program conditionality.
9. At end-December 2002, 23 safeguards assessments were in progress at various stages of completion. Of these, four assessments have since been finalized,6 and four are in the report finalization stage.7 The remaining 15 assessments will comprise a significant part of the work program over the next six months.
10. Safeguards assessments are a diagnostic tool, whose primary purpose is to identify and remedy vulnerabilities in a central bank's safeguards that could lead to possible misreporting to the Fund or misuse of central bank resources, including Fund disbursements. Table 3 provides a summary of the findings, including major and less significant deficiencies, of safeguards assessments as of December 31, 2002 for countries both with arrangements in effect prior to June 30, 2000 (transitional assessments) and for those with arrangements approved since that date.
11. Two and a half years into the safeguards assessment policy, assessments continue to reveal deficiencies in key areas of central banks. The five most common deficiencies are broadly the same as those found in the earlier review and update under the policy and include (in order from most to least common): (i) inadequate accounting standards, (ii) deficient internal audit mechanisms, (iii) deficient governance oversight, (iv) non-existent or deficient external audit mechanisms, and (v) poor controls over foreign reserves and data reporting to the IMF. In terms of these findings, some categories have a one-to-one correspondence to the ELRIC framework (i.e. "loopholes in governing legislation" is applicable only to the "L" category of ELRIC), while others transcend any one classification. For example, the category of "Deficient Governance Oversight" encompasses not only deficiencies in the legal governance structure, but also control deficiencies that result from the absence of an effective oversight body for the external or internal audit functions in the central bank. Furthermore, the specific findings included in each of the categories in Table 3 may not individually pose a risk to Fund resources; however, when considered together with other individual findings, they could pose a risk. Annex II provides examples of some of the types of findings included in each of the categories in Table 3.
12. Of the eight assessments completed since June 2002, significant weaknesses in central bank safeguards were noted in seven of the assessments. In the case of these types of deficiencies, staff has proposed conditionality under the arrangement with the member. Examples of the deficiencies revealed by the assessments, together with the remedy and the type of conditionality proposed by staff are:
13. Implementation of these recommendations within a timeframe agreed with the respective central banks will be monitored by staff until satisfactory implementation.
14. The safeguards assessment work conducted to date has revealed both achievements of the policy and challenges that can arise in implementation of the recommendations. Central banks have generally been receptive to safeguards assessments and to the proposed remedies for the mitigation of weaknesses. Central banks have also been cooperative in providing their annual audited financial statements and related audit reports, as required under the policy. Moreover, there has been a positive trend since inception of the policy in the interest and knowledge of central bank management in safeguards assessments. This type of interest is signified by one particular case during the past six months, where the central bank requested an on-site assessment and seized the opportunity of the assessment to reinforce among its staff the importance of an effective control environment. In another central bank, the hiring of an external audit firm to supplement the work of the State Auditor resulted in identification of additional vulnerabilities and commitment by the central bank to undergo future audits in specialized areas of bank operations.
15. Central bank acceptance and implementation of recommendations that have a permanent impact on controls and operations are considered major achievements of the safeguards assessment policy. Selected examples of such measures to date include:
16. Despite the achievements to date, challenges remain. A few central banks initially resisted the safeguards assessment process or had not been receptive to adopting appropriate solutions to address identified vulnerabilities, although in the end virtually all have cooperated to a substantial degree. In one case, however, the Executive Board review of a Fund-supported program has not yet been completed due to lack of agreement with the central bank on the safeguards recommendations.9
17. Some challenges also exist with respect to implementation of recommendations. As a matter of policy, staff monitors the implementation of all recommendations made under a safeguards assessment, although high priority items are the main focus. The rationale for this approach is twofold: (i) some measures, if not implemented, may evolve to a higher priority level, especially if the delay in implementation is protracted, and (ii) it may be important that several measures, not individually considered high priority, be implemented concurrently or consecutively in order to effectively address a risk. As shown in Table 1, not all recommendations have been implemented as intended by the safeguards assessment and in some cases there are protracted delays in implementation. The approach by staff to resolve these matters has involved: (i) proposed stronger conditionality for the next review of the arrangement where implementation of the measure is considered critical, (ii) a proposal to incorporate a recommendation under conditionality or in the LOI/MEFP that was originally not included, and (iii) communication with the area department and the authorities to clarify the further actions needed for satisfactory implementation. In most cases, this approach is expected to resolve the issue, especially where the member country has an active arrangement and the opportunity exists to invoke stronger conditionality. Implementation of measures in member countries without an active arrangement tends to be more problematic as the opportunity for inclusion of the measure under conditionality is not available. Staff monitors these cases closely, even in the absence of a Fund-supported arrangement, but the probability of implementation within the original timeframe is often diminished.
18. In the March 2002 review of the safeguards assessment policy, the Executive Board endorsed a continued focus on communication and coordination of matters of interest related to safeguards, both internally and external to the Fund. Staff has pursued, and will continue to pursue, opportunities for further communication and dissemination of information on the safeguards policy. Examples of initiatives undertaken in the past six months are as follows:
19. These activities have confirmed a strong interest among central banks and the international community in safeguards-related issues. In March 2002, the Executive Board judged that "the [safeguards] policy has been widely accepted by central banks, and has helped improve their operations and accounting procedures while enhancing the Fund's reputation and credibility as a prudent lender." The staff's experience, both during the conduct of safeguards assessments and as a result of outreach activities, continues to support this overall conclusion.
Safeguards Assessments Completed as of December 31, 2002
Safeguards Assessments cover five key areas of control and governance within central banks, summarized by the acronym ELRIC: (i) the External audit mechanism; (ii) the Legal structure and independence; (iii) the financial Reporting framework; (iv) the Internal audit mechanism; and (v) the internal Controls system. Countries with arrangements in effect prior to June 30, 2000 were subject to a transitional assessment that evaluated only the external audit mechanism. Assessments completed as of December 31, 2002 are listed below:
1See Safeguards Assessments-Review of Experience and Next Steps EBS/02/27 (2/19/02); Safeguards Assessments-Review of Experience and Next Steps-Independent Review of the Safeguards Assessment Framework, EBS/02/28 (2/19/02); and The Acting Chair's Summing Up on Safeguards Assessment-Review of Experience and Next Steps, BUFF/02/43 (3/20/02, revised 4/1/02).
2Safeguards Assessments-Semi-Annual Update SM/02/268 (8/20/02).
3Remedial measures that address high risk to Fund resources are typically included under program conditionality. Program conditionality, as defined here, includes prior actions, structural performance criteria and structural benchmarks.
4Central banks are subject to a full safeguards assessment in respect of every arrangement approved after June 30, 2000. If a previous safeguards assessment was completed, the safeguards assessment for a new arrangement updates the findings and conclusions of the previous assessment. To date, only Albania has had two full assessments.
5Arrangements for use of Fund resources have not yet been approved for Bangladesh and Nepal.
6Congo (Democratic Republic of), Croatia, Paraguay and Uruguay.
7Eastern Caribbean Central Bank, Lao (PDR), Uganda, and Vietnam.
8Fund staff monitoring the arrangement continue to review and analyze the economic data for discrepancies and compliance with the Technical Memorandum of Understanding, in addition to central banks reconciling the data with the accounting records as a basic control prior to submission to the Fund.
9In this case, staff and management made a determination not to present the review to the Executive Board; the matter was discussed at an Informal Country Session where support for the requirements of the safeguards policy was voiced by most speakers.