Have IMF programmes been effective in restoring macroeconomic stability?
Do I need sub headings?
“... the bottom line of the ‘era of the IFIs,' despite obvious shortcomings, has been an unambiguous success of historic proportions in both economic and social terms.”
Minority Dissent, Meltzer Report (Bergsten et al [2000, p. 111])
“... detailed conditionality (often including dozens of conditions) has burdened IMF programs in recent years and made such programs unwieldy, highly conflictive, time consuming to negotiate, and often ineffectual.”
Meltzer Report [2000, pp. 7, 8, and 43]
Ever since their inception, there has been fierce debate on the effectiveness of IMF stabilisation programmes, generating a multitude of studies with differing results...... Through an analysis of the IMF programmes adopted by Argentina and South Korea, this essay aims to address sets out to outline a summary of the evidence focusing on macroeconomic stability using examples of the IMF programmes adopted by Argentina and South Korea.
The IMF defines an IMF stabilisation programme as: “a package of envisaged policies, which combined with appropriate funding, is expected to achieve certain economic objectives such as fostering macroeconomic stability and orderly external adjustment and reducing vulnerability to future balance of payments problems or financial crises.[i]” [2005, p. 105] The IMF's ‘expectation' of macroeconomic objectives, however, is undoubtedly subject to influential factors such as: external shocks, individual country differences (initial problems and government implementation of policies), which are indicative in the results of the summary studies recorded below.
“Macroeconomic imbalances in an economy may stem usually from different sources such as the prevalence of inflation, deficits in BOP or low rates of employment and growth.” [Sen, 1999]. In order to evaluate the success of a programme in terms of macroeconomic stability we need to consider its key targets, such as: inflation, balance of payments (BOP), in particular the current account, public debt and real GDP growth. The IMF focuses on aggregate demand through several key instruments which can affect the targets e.g. fiscal, monetary, structural policies and the exchange rate. “
Difficulties in measuring the success of a programme stem from the complexity of the macroeconomic relationship between instruments and targets. One way of assessing this is by looking at the effect of instruments on macroeconomic targets using counterfactual analysis. Comparing the counterfactual with the actual results of the programme allows us to study the effects of the programme itself.
A brief summary of the Polak model will allow us to see how IMF stabilisation programmes are designed. The model focuses on the control of aggregate demand through the government use of domestic credit and its effects on the BOP. In general, poorer countries have fiscal need to fund deficits by either increasing money supply (seignorage) or through foreign capital flows. Increasing money supply increases inflation (to the extent that inflation is a monetary phenomenon) through lower interest rates, stimulating aggregate demand and thus prices. An increase in inflation causes a real exchange rate appreciation (domestic goods relatively more expensive) which is likely to make exports less competitive reducing export earnings. This coupled with cheaper imports from the appreciation may increase BOP deficit and external debt resulting in macroeconomic instability. Therefore according to this model, to reduce instability, countries must adopt tight fiscal and monetary policies through domestic credit measures to control aggregate demand. - is that effective? Not always an appropriate means of restoring macroeconomic stability. Might question the root cause of the instability. Indicative of the complexity surrounding this area. Etc.. EXPAND!
Do I need so much detail in the workings of the model?
Evidently, there is no ideal counterfactual that can be universally applied; however, there are four main econometric approaches in measuring the effectiveness of all stabilisation programmes; the first being ‘Before' and ‘After' studies (primarily used for early evaluations of IMF programmes due to ease of calculation), which compare a country's macroeconomic variables before and after the introduction of a programme. Looking at the summary table, programmes seem to improve BOP and growth, but at the expense of inflation [Killick et al, 1995]. This method, however, assumes that all other factors are equal over time e.g. terms of trade can improve leading to an upward bias of results. Khan et al  suggesting that a programme is more effective than in reality EXPAND!
Is there the need to include this in so much detail?
With, Without studies compare countries with IMF programmes with similar countries that do not have IMF programmes (counterfactual) in terms of macroeconomic performance. This takes into account external shocks affecting the countries, but does not incorporate innate differences between countries. Critically, this can allow for bias results. For example, the differences in the economic structure's of individual countries may cause variations in macroeconomic performance not policy measures.
The General Equilibrium Evaluation, unlike the previous two methods, identifies initial country differences before and after the programme and evaluates the effects of policy on the macroeconomic targets; thus controlling for external shocks. However, this method requires detailed information about the macroeconomic instruments and targets relationships, which can be difficult to obtain. Highlights the constraints of this type of method. Recently however, this is the favoured method used by economists as it gives a more complete picture of the economy. [Khan, 2002] The results vary significantly from [Goldstein and Montiel, 1986] which suggests that programmes have adverse effects on macroeconomic targets to [Dicks-Mireaux et al, 1997] which suggests positive growth and low inflation as a result of the programme, indicating although this is preferred it is by no means complete.
Finally, the use of econometric model simulations has been used to evaluate the effectiveness of IMF programmes. Complex econometric models comparing typical sets of policies under IMF programmes such as exchange rate depreciation and domestic credit expansion restraints; can be compared to another economic model with alternative policies used to assess the design of policy and their implications. Obviously this may not hold in reality but allows policymakers to understand some of the processes underlying economic performance.
Analyse the results of the table
- results show that the methods yield different results
- differences using the same methods dependent on other factors
- general conclusion of time lags
These studies show that the effect of IMF programmes on macroeconomic stability is inconclusive and can differ not only due to mitigating factors but also measurement of the counterfactual.
The studies illustrate that the importance of time lags in general. In the short term, policies are counterproductive in achieving positive results in terms of macroeconomic targets but generally become more positive in the long term. [Khan, 1990] found that BOP improvements are only statistically significant 2 years after the programme implementation and that growth decreases immediately but improves over time. This suggests that countries can benefit from programmes in the long term but at the expense of short term loss as was the case in South Korea. However, this is not always the case as we shall see in more detail with Argentina.
Argentina's IMF stabilisation programme was initially viewed as a model of economic and political success. Following years of macroeconomic instability due to macroeconomic mismanagement the Convertibility plan (1991) was established. Core to this programme was a fixed exchange rate pegged to the US dollar supported by structural reforms such as merging public institutions to improve efficiency, privatisation and labour market reforms.
Most importantly, hyperinflation fell dramatically from 27% a month in 1991 to average 5% yearly due to the pegged exchange rate.(See figure 1.1) [IMF IEO, 2005]. Adopting a fixed exchange rate significantly reduced inflation by limiting seignorage i.e. money supply growth in order to finance the fiscal deficit thus encouraging fiscal discipline as suggested by the Polak model. This was one of the core reasons for the initial hyperinflation and instability targeting root cause of the instability which is evidence of successful programme which was short lived.
Low inflation encouraged the average real growth of GDP per capita of 6% between 1991-1998. [IMF IEO, 2005]. This may have occurred due to greater confidence in the economy resulting in increased foreign investment indicating significant improvements in macroeconomic performance due to a ‘good' programme.
In addition, the peg required fiscal discipline in order to maintain its credibility as sustainable levels of fiscal deficit and public debt were essential. In some ways this proved successful in the short run as the government reduced its fiscal deficits in comparison with the past with even a fiscal surplus in 1993 as illustrated by figure 2.6. This same figure illustrates a decrease in debt-GDP ratio in 1991 suggesting that the programme was again targeting the root cause of instability.
Such impressive economic results created confidence behind the programme and supported the view that these IMF supported policies are effective in restoring macroeconomic stability. In 1998 the managing director of the IMF even noted that “Argentina has a story to tell the world: a story which is about the importance of fiscal discipline, of structural change, and of monetary policy rigorously maintained.” This IMF support further improved predictions about Argentina's future macroeconomic performance which would turn out to be costly overestimations and contribute to instability.
The IMF IEO evaluation of Argentina (2004) concludes that “By overlooking Argentina's growing indebtedness in the 1990s and continuing to lend the country money when its debt burden had become unsustainable, the fund significantly contributed to one of the most devastating financial crises in history”. This suggests that despite initial gains in the economy the IMF and the programme were detrimental to the Argentinian economy. Although primarily due to the explosion of debt, other factors including adverse external shocks, and credibility loss of the exchange rate were also significant in causing the crises and following instability.
Fiscal targets were continually missed and to some extent ignored by the IMF which increased the severity of the debt problems when they came to light. Although not alarming figures, the debt-GDP ratio and fiscal deficit continued to grow as illustrated by figure 2.6.
The debt problems were exacerbated by adverse external shocks which were unanticipated and therefore unsustainable debt spiraled (figure 2.6) when investors realised that growth was overestimated. Shocks which increased investor risk fears such as the Asian financial crisis (1997) or the Russian defaults (1998) led to lower foreign investment and lower growth than expected. In addition, both the global downturn and real exchange rate appreciation (strong US$ and Brazilian devaluation) lowered the competitiveness of Argentinian exports which illustrated the structural weakness of Argentina's low export to GDP ratio. These factors contributed to the explosion of debt and therefore to the greater cost of recession in terms of macroeconomic stability. For example, inflation sky-rocketed after 2001 as illustrated by figure 1.1 as the peg was abandoned and price adjustments took place.
Despite the fact that Argentina kept tight fiscal and monetary policy (restricted by convertibility) as suggested by the IMF programme, it still experienced a deep and prolonged recession suggesting that the programme itself was inappropriate as it failed to correct the core problems in the structure of the economy and failed to restore stability in the long run and actually partially caused instability. As of now Argentina has still not fully recovered from the effects of the policy which was initially coined as “successful”.
N.B. References for information
The Managing Director further remarked: “Argentina has a story to tell the world: a story which is about the importance of fiscal discipline, of structural change, and of monetary policy rigorously maintained.” 5Transcript of the press conference, October 1, 1998. A number of staff members interviewed told the evaluation team that they had considered such a sanguine assessment of Argentina to be not warranted in the fall of 1998.
SOUTH KOREA EXPERIENCE
Criticisms of the IMF?-need to include really?
One major criticism of the IMF is that the programmes being discussed are implemented too late, thereby restricting the potential benefits of a programme if undertaken more quickly. In other words, in the case of a currency crisis, the IMF should intervene before a crisis is looming on the forefront rather than step in during a crisis. There should be greater focus on crisis prevention as opposed to crisis management in order to prevent such deep macroeconomic instabilities in the first place. Political pressures and policy discussions are to blame.
Focusing more specifically on the programmes themselves, the IMF has been criticised by many that their policies are too broad i.e. they programmes themselves are not tailored enough to each individuals root causes of the macroeconomic instabilities. Reiterating the Argentinean crisis of 2002 this is a clear judgement. Recall that the IMF programme failed to sufficiently take into account the public sector deficit which ultimately led to the currency crisis.
Overestimate the effects of programme N.B. Current Account Adjustments in Capital Account Crisis
- Approval Year-2000 and Crisis Year-2002
- Predicted CA adjustment=0.1% of GDP
- Actual=12% of GDP
- different measures of effectiveness give different results
- depends on individual country situation i.e. policy implementation and politics
- depends on time lags normally short term losses for structural change in order for long term growth
- depends on the actual policies themselves and whether applicable to the root cause of the instability
- suggests more tailored solutions needed
- suggests IMF predictions need to be more accurate (hard) or less emphasis
- some sort of future predictions/advice?
References: Use Harvard Referencing System and number them.
Authorship, Year. Full title of conference paper. In: Editor or name of organisation. Full title of conference. Location, Date, Publisher: Place of publication
- Goldstein, M., 2000.
- Brown, J., 2005. Evaluating surveys of transparent governance. In UNDESA, (United Nations Department of Economic and Social Affairs) 6th Global forum on reinventing government: towards participatory and transparent governance. Seoul, Republic of Korea 24-27 May 2005. United Nations: New York.
- Bagci, P., and William Perraudin, 1997, “Do IMF Programs Work?” Global Economic Institutions Working Paper ( New York: Global Economic Institutions).
- Author, Initials., Year. Title of article. Full Title of Journal, Volume number (Issue/Part number), Page numbers.
- Goldstein, M., 2000. IMF Structural Programs. Economic and Finc
IMF Structural Programs