«Robert J. Barro Harvard University and Jong-Wha Lee Korea University Preliminary draft November 2001 *We thank Eduardo Borensztein, Jeffrey Frankel, ...»
IMF Programs: Who Is Chosen and What are the Effects?
Robert J. Barro
*We thank Eduardo Borensztein, Jeffrey Frankel, and Myungjai Lee for helpful discussions,
and Mohsin Kahn and Alberto Alesina for providing us with data. Yunjong Eo provided
valuable assistance with data collection.
Participation in IMF programs has become an option that more and more countries
have chosen in recent decades. Almost all developing countries, except a small number such as Botswana, Iran, Malaysia, and Paraguay, have received IMF financial support at least once since 1970. Therefore, one question is why so many countries have sought financial assistance from the International Monetary Fund. Under what circumstances is a country more willing to come to the IMF for assistance and is the IMF more likely to agree on a loan? And when would a country benefit from participation in an IMF financial arrangement?
This paper addresses these questions. We investigate the determination and effects of IMF programs by using a cross-country panel data set, which comprises information on over 130 countries over the last three decades.
A number of studies, surveyed in Knight and Santaella (1997), have investigated the determination of IMF financial arrangements. This paper extends this work by showing the importance of institutional and geopolitical influences in IMF program approval and participation.
We find that each member country’s political connections to the IMF affect the probability of loan approval. We proxy this political connection by several institutional and geopolitical variables—the size of the country’s quota at the IMF, the size of the national staff at the IMF, and the political proximity to the major shareholding countries of the IMF, notably the United States. The quota reflects each member country’s voting power at the IMF. The national staff variable is the share of own nationals among IMF economists. The political proximity to the United States is measured by the percentage of times that the country has voted in the United Nations along with the United States. (We look at analogous variables for other important countries, such as France, Germany and the United Kingdom, but find no additional effects.) We find that, as an international organization influenced by the dominating power of the United States, the IMF apparently takes politics into account when making decisions on loans to developing countries. These patterns are of considerable interest for their own sake, but we also use them to form instrumental variables to isolate the effects of IMF lending on a country’s economic performance.
Since its creation in 1944 at Bretton Woods, the role of the International Monetary Fund and the effectiveness of its programs have been controversial. The IMF has claimed to have contributed to the sustainable growth of its member countries by maintaining the stability of the international exchange and financial system and by providing financial support and policy advice. However, critics say that the IMF has expanded its activities into too many unproductive areas and perhaps caused more harm than good. They argue that the availability of IMF financial support often permits governments to pursue inappropriate policies longer than they otherwise would (Bandow and Vasquez, ).
IMF programs are often asserted to be “anti-growth” and to hurt, especially, poor nations.
For example, IMF policies were claimed to make recessions only “deeper, longer, and harder” (Stiglitz ). The availability of IMF lending has also been depicted as a source of “limitless bailouts” and “moral hazard” (Barro ).
What matters ultimately is whether participation in an IMF program helps a country to improve its living standard in the long run. This paper investigates the effects of IMF financial arrangements on economic growth. Many studies have tried to assess the growth
number of difficulties. One basic problem is to separate the effects of IMF programs from those of other factors. Program participation typically applies to countries that self-select themselves based on their economic and political circumstances. Specifically, countries that are experiencing economic difficulties tend to turn to the IMF for help, and it would be unfair to blame the IMF for these pre-existing conditions. Previous studies have tried to control for the endogeneity of IMF programs in various ways, but we do not regard these attempts as fully successful.
Our study extends the existing literature in the procedure for controlling for the endogeneity of IMF program approval and participation. In our cross-country econometric framework, we use as instrumental variables IMF quotas, IMF staff size, and political proximity to the United States. If we do not instrument, then we find that increased IMF program participation is associated with a contemporaneous reduction of economic growth.
However, after controlling for endogeneity with our instrumental variables, we find no statistically significant contemporaneous (that is, five-year) impact of IMF program participation on economic growth. Our results contrast with the findings of recent studies that use other procedures, but not good instrumental variables, to take account of endogeneity.
The paper is organized as follows. Section I provides a brief discussion of the characteristics of the IMF and its financial programs. Section II uses probit and tobit equations for a cross-country panel to assess the factors that determine participation in an IMF financial arrangement. This political economy analysis of IMF decision-making is of
programs on growth. Concluding remarks follow in Section IV.
I. The Characteristics of the IMF and its Financial Arrangements
1.1. The Organization of the IMF The IMF has become an almost universal financial institution, with its membership rising from 44 states in 1946 to 183 at present. However, the members of the IMF do not have an equal voice, unlike the General Assembly of the United Nations. Each member country of the IMF contributes a quota subscription, as a sort of credit-union deposit to the IMF. The quota is the basis for determining the voting power of the member: each member has 250 basic votes plus one additional vote for each SDR 100,000 of quota. The initial quotas of the original members were determined at the Bretton Woods Conference in 1944.
The allocation was based mainly on economic size, as measured by national income and external trade value. Quotas of new members have been determined by similar principles.
The IMF charter calls for general quota reviews at intervals of not more than five years. These reviews allow for adjustments of quotas to reflect changes in economic power.
There have been 12 general reviews since 1950, and 6 of these reviews resulted in an increase in the total size of quotas. Most of these overall increases in quotas featured equiproportional increases for the individual members (IMF ).
The United States, which holds the largest portion of the quotas (currently amounting to 37,149 million SDRs or 17.5% percent of the total), has the strongest influence in the IMF’s main decisions. Many important decisions require special voting
veto power at the IMF.
The highest decision-making body of the IMF is the Board of Governors, which consists of one governor and one alternate for each member country. The Governors are usually ministers of finance or sometimes head of central banks of the member countries.
The Board of Governors delegates all except certain reserved powers to an Executive Board, which makes the daily decisions of the IMF. There are 24 Executive Directors. Eight Executive Directors are appointed by the largest eight shareholders—the United States, Japan (6.3% of total IMF quotas), Germany (6.1%), France (5.1%), the United Kingdom (5.1%), Saudi Arabia (3.3%), China (3.0%), and Russia (2.8%). The others are elected by sixteen groupings of the remaining countries.
As of December 31, 1999, the IMF had a staff of 2297—693 assistant staff and 1604 professional staff. About two-thirds of the professional staff were economists (IMF [2000, p.95]). The staff reflects the IMF’s membership, coming from about 120 countries, but is concentrated in advanced countries. In 1999, among all professional staff, about 29% were from the United States and Canada and about 33% were from Western Europe.
Among developing countries, India, China, Argentina, Peru, and Pakistan had relatively large numbers of professional staff.
1.2. IMF Financial Policies and Facilities The basic conception of the IMF’s role, which was envisioned at Bretton Woods in 1944, was to guard an “adjustable peg exchange rate system” and provide short-term
the breakdown of the par adjustable peg system in 1973, the IMF lost its major role as the guarantor of fixed exchange rates among advanced countries. Nevertheless, the IMF did not disappear, and its role expanded instead into many new areas. The collapse of the Bretton Woods system was quickly followed by oil price shocks, which led to severe payments imbalances for a large number of developing countries. After the developing countries recovered from the debt crisis of the 1980s, other problems arose, including the transitions of the former Communist countries and the Asian financial crisis. Eventually, the IMF evolved into the “crisis manager” and “development financier” for developing countries.1 The primary role of the IMF is to provide credits to member countries in balance-ofpayments difficulties. Credit is provided in relation to the quota of a member country. The first tranche, 25% of the quota, is available automatically, without entailing any discussion of policy. The use of IMF resources beyond the first tranche almost always requires an arrangement between the IMF and the member country. Under an IMF arrangement, the amount of resources committed is released in quarterly installments, subject to the observance of policy benchmarks and performance criteria. This process is often referred to as conditionality.
Stand-by Arrangement (SBA) and Extended Fund Facility (EFF) are the main IMF programs designed to provide short-term balance-of-payments assistance for member 1 See Krueger (1998) and Bordo and James (2000) for detailed discussions of the changing role of the IMF.
repayments scheduled between 3 1 /4 and 5 years from the date of the borrowing. The Extended Fund Facility program, introduced in 1974, was aimed at providing somewhat longer-term financing in larger amounts. The EFF arrangement typically lasts up to 3 years, with repayments made over a period of 4 1 /2 to 10 years.
The SBA and EFF programs did not cover very low-income countries. Confronted by increasing criticism, the IMF developed several new lending programs to provide longterm loans at subsidized interest rates for very poor countries. The Fund established the Structural Adjustment Facility (SAF) in 1986 and the Enhanced Structural Adjustment Facility (ESAF) in 1987. The interest rate charged is 0.5% and repayments are scheduled over 5-10 years after a 5-year grace period. Most ESAF cases were with Sub-Saharan African countries and former planned economies. In 1999, the ESAF was replaced by the Poverty Reduction and Growth Facility (PRGF). Probably these activities should be viewed more as foreign aid, rather than lending or adjustment programs.
Table 1 shows the number and amounts approved for all types of IMF programs over the period 1970 to 2000. 3 Over the last three decades, a total of 725 programs were approved. This total includes 594 short-term and mid-term stabilization programs (SBA and EFF), which are the focus of our analysis. The number of these short-term programs 2 A number of other short -term IMF arrangements have been introduced to supplement SBA and EFF. The se arrangements include the Supplemented Reserve Facility (SRF), the Country Stabilization Fund (CSF), the Compensatory and Contingent Financing Facility (CCFF), and the Systematic Transformation Facility (STF).
See IMF (1998) for details.
3 The amount of loan approved was not always drawn by the member country. This situation can arise if the IMF terminated the arrangement because the borrower did not meet the conditionality, or if the country ended up not using its full allotment. Sometimes a country utilized an IMF program to build credibility and did not use the borrowing facility at all.
declined subsequently, the average size of the loans jumped because of the financial crises experienced by larger countries, such as Mexico, Brazil, Russia, and South Korea.
II. Determination of IMF Program Approval and Participation
2.1. Determinants of IMF Financial Arrangements Participation in an IMF program is a joint decision between a member country and the IMF. IMF lending does not, by any means, accompany every currency crisis. Over the period 1970 to 1999, only one-third of currency-crisis observations were linked with IMF program participation in the same year or one year later (see Park and Lee ). On the other side, many IMF programs occur in the absence of a currency crisis. For example, Hutchison (2001) notes that, in a sample of 67 developing countries over the period 1975only 18% of IMF program participation observations were associated with currency crises. Similar patterns apply to banking crises. In our sample over the period 1975-1997, only about one-fourth of banking-crisis observations were associated with IMF program participation in previous, current or following year.
To capture the economic determinants of IMF lending, we use a number of standard variables that can be found in the previous literature. Some of these factors can be viewed as influences on a country’s demand for loans and others as effects on the IMF’s willingness to supply loans. The variables that we include for each country and time period are a dummy for the presence of a currency crisis, a dummy for the presence of a banking crisis, the level of international reserves in relation to imports, per capita GDP, the lagged
rich OECD countries.