Typical street scene in Santa Ana, El Salvador. (Photo: iStock)

Typical street scene in Santa Ana, El Salvador. (Photo: iStock)

IMF Survey: Poor Countries Must Strike Fine Balance in Scaling Up Investment

November 29, 2010

  • Countries need coherent strategy for infrastructure investment
  • Sound debt sustainability framework is crucial
  • IMF can offer budget advice, assistance with debt management strategies

Investment in infrastructure can drive growth, raise productivity, and help reduce poverty—but low-income countries face the challenge of scaling up investment without taking on excessive debt.

Poor Countries Must Strike Fine Balance in Scaling Up Investment

Workers build road in Indonesia: better infrastructure is key to faster growth in low-income countries, the IMF says (photo: Crack Palinggi/Reuters)


Speaking ahead of an IMF-sponsored conference on the topic, Hugh Bredenkamp, Deputy Director of the IMF’s Strategy, Policy, and Review Department, discussed in an interview how countries can scale up investment in a sustainable and growth-maximizing way.

IMF Survey online: Low-income countries face massive financing needs, particularly in the area of infrastructure.  What principles should guide their policies as they seek to address this problem?

Bredenkamp: The lack of infrastructure is a key obstacle to getting faster growth for low-income countries. These needs are large: in sub-Saharan Africa alone, the World Bank has estimated total financing needs at around $93 billion a year, a third of which is currently unfunded.

In terms of principles, first, countries need to develop a coherent strategy for scaling up infrastructure that maximizes the growth potential, since that’s the ultimate objective. Second, once they have such a strategy, countries need to ensure they follow through on it. For this, they need a strong institutional framework that keeps implementation in line with the strategy, ensures that bidding processes are efficient, and sees that resources are properly budgeted so that infrastructure projects can be completed and maintained. Third, countries need to secure affordable financing.

IMF Survey online: How can low-income countries scale up investment and, at the same time, avoid taking on excessive amounts of debt?

Bredenkamp: Above all, governments have to make sure that their investments pay off. In the past, countries got into debt problems by borrowing a lot, ostensibly to invest. But the investments were so inefficient and the resulting infrastructure so poorly maintained that it often did not meet the key needs of the private sector, which was driving the country’s development. So the country ended up with a lot of debt—but very little growth to show for it. It’s important to avoid these mistakes of the 1970s and 1980s. The prudent choice of investment projects and their effective implementation are key.

Countries also have to be savvy about how they finance the scaling up. They need to make sure that the fiscal revenue base is strong and growing—through tax reform and strengthened revenue mobilization—so that the public sector has a good base for supporting increased debt. Second, they need a good debt management strategy to ensure that the overall volume and mix of debt that the country assumes is within its capacity to service and repay. It’s important to see that nonconcessional borrowing, in particular, is reserved for investments that have a demonstrably high economic return so that the higher costs associated with such borrowing are covered.

These are all principles that we’ve been advising for some time now, and I think many countries are taking them on board, but they bear reiterating.

IMF Survey online: How can the debt sustainability framework be further improved to help the authorities make the right choices?

Bredenkamp: One aspect we are looking at is how to increase the focus on total public debt. Traditionally, the debt sustainability framework has focused primarily on external debt. Because low-income countries are increasingly able to finance fiscal spending through domestic borrowing, it’s important to have a more comprehensive view of a country’s debt burden and its debt sustainability prospects. We’re also continuing to develop tools that will allow the authorities and our own country teams to assess better the likely growth returns from investment. The efficiency of an investment will depend, in part, on how well money is invested. That depends, in turn, on the quality of a country’s institutional framework—how a project is planned, how well the plan is adhered to, and how the project is run.

IMF Survey online: How can the multilateral development banks and donors help low-income countries scale up investment in a sustainable way?

Bredenkamp: Multilateral institutions and donors can help with the financing, of course, but I would say their contribution to capacity building is equally important. Some of the new development partners have fresh experience in meeting their own infrastructure gaps, so they have knowledge to pass on. The Chinese, for instance, have had a lot of success in planning and ensuring the coherence of their investments. They’re constantly assessing where business is facing infrastructure gaps, and then reorienting their resources to meet those gaps. They also ensure that their infrastructure projects are linked up—for example, if they build a port, they also build roads and railways that lead to the port. Or if they build industrial parks and road networks serving those parks, they scale up the area’s energy capacity to meet the needs of the businesses that will locate there. Low-income countries can benefit from this kind of experience.

IMF Survey online: What is the role of the IMF?

Bredenkamp: One role is to help with macroeconomic planning—for example, ensuring that budgets are designed in a way that’s consistent with the infrastructure plans. Providing adequately for operations and maintenance is still a big problem in low-income countries. Projects get built, but if the budgetary resources for the maintenance and operation of the infrastructure have not been factored in—or if they get squeezed out later, when funds are tight, as often happens—the infrastructure will fall into disrepair. Our work on debt sustainability analysis is also a key contribution to helping countries manage their debt operations.

We also have a role in building countries’ capacity to manage budget resources effectively, including for investment. With the World Bank, we’ve been developing an index to measure the quality of countries’ institutional frameworks governing the selection and management of investment projects. Institutional quality is an important factor affecting the success of a country’s investment program. We hope this index will show countries where they stand relative to their peers, and highlight the weak points in their institutional frameworks so that they can focus on strengthening them. This will also help us target our own capacity-building efforts—and thereby help countries get a better outcome from their investment programs.

IMF Survey online: What do you see as the private sector’s role in investment financing?

Bredenkamp: The government needs to define the strategy and identify the big gaps, because it’s only at the center that you see how all the pieces should fit together. Some of the gaps will require public sector action. But there are areas where it is sensible to rely mostly on the private sector. In the energy sector, for example, it’s quite common in countries for the public sector to focus on the transmission network, because that’s a kind of public good—it’s difficult to privatize that. But you can certainly have private sector generation capacity. Power stations can be either public or private, and often private investment in that kind of activity can be the most efficient. Similarly, in telecoms, you can have a mixture of public and private sector investment.

Because of the constraints on public sector financing, tapping private sector equity financing is highly desirable—the more that you bring in private sector money, the more you can do. But you need to give private investors confidence that the regime that they’re going to be working under will allow a proper return on their investment and, more generally, create an enabling environment through a good tax system, good governance, and a sound legal framework.

IMF Survey online: What do you hope to achieve with the upcoming conference?

Bredenkamp: The crisis has been a setback for low-income countries. We need to redouble our efforts to unlock new sources of growth, and infrastructure is one of them. The emergence of new development partners has brought fresh perspectives on the issue of scaling up investment. Some, for example, have different views on the issue of debt sustainability than the traditional donor community and the international financial institutions. The conference is a chance to bring those perspectives together, exchange views, find common ground—and hopefully set the stage for an ongoing dialogue.