GAO 

United States Government Accountability Office

Report to the Chairman, Committee on 

Financial Services, House of 

Representatives 

INTERNATIONAL 

MONETARY FUND 

Lending Programs 

Allow for Negotiations 

and Are Consistent 

with Economic 

Literature 

November 2009 

GAO-10-44 
What GAO Found

United States Government Accountability Office

Why GAO Did This Study

Highlights

Accountability Integrity Reliability

November 2009

INTERNATIONAL MONETARY FUND

Lending Programs Allow for Negotiations and Are 

Consistent with Economic Literature 

Highlights of GAO-10-44, a report to the 

Chairman, Committee on Financial 

Services, House of Representatives 

The International Monetary Fund 

(IMF) has significantly increased 

its total committed lending to 

countries from about $3.5 billion in 

August 2008 to about $170.4 billion 

in August 2009, as countries have 

been severely affected by the 

global economic crisis. IMFsupported programs are intended 

to help countries overcome 

balance-of-payments problems, 

stabilize their economies, and 

restore sustainable economic 

growth. Critics have long-standing 

concerns that the IMF has an 

overly austere approach to 

macroeconomic policy that does 

not sufficiently heed country 

viewpoints. To help address these 

concerns, the IMF recently stated 

that it has changed its policies, 

including by increasing its 

flexibility. 

GAO was asked to examine (1) the 

process for designing an IMFsupported program, (2) the IMFsupported programs in four 

recipient countries, and (3) the 

extent to which the findings of 

empirical economic studies are 

consistent with the IMF’s 

macroeconomic policies. GAO 

analyzed IMF and recipient country 

documents; interviewed U.S., IMF, 

and foreign government officials, 

conducting fieldwork in four 

relatively large recipient countries; 

and analyzed published or widely 

cited empirical studies. 

GAO received written comments 

from the Department of the 

Treasury, noting its concurrence 

with the report’s conclusions. 

Designing an IMF-supported lending program involves a complex, iterative 

process based on projections for key macroeconomic variables; discussions 

between IMF staff and country officials regarding program goals, policies, and 

trade-offs; use of economic judgment; and IMF Executive Board approval. An 

IMF-supported program is intended to help countries achieve their objectives 

in the context of macroeconomic stability. Programs in low-income countries 

are broadly geared toward increasing economic growth and reducing poverty, 

and generally strive for low inflation and sustainable levels of debt. In middleand high-income countries, programs generally aim to stem capital outflows, 

restore confidence, and stabilize the exchange rate by, for example, setting 

targets for budget deficits and international reserves. Trade-offs among the 

different combinations of objectives and policies allow for negotiations 

between the IMF staff and country officials, reflecting what is technically 

feasible and politically acceptable. 

IMF-supported programs in the four countries GAO reviewed—Liberia, 

Zambia, Hungary, and Iceland—include different sets of objectives, targets, 

and conditions that reflect country circumstances, based on negotiations 

between the IMF staff and country officials. In postconflict Liberia, the 

program focuses on rebuilding capacity and contains a target for maintaining 

a balanced budget with no borrowing. In Zambia—a country negatively 

affected by the recent economic crisis—the IMF-supported program is 

designed to increase economic growth, reduce poverty, and improve 

governance. Hungary, which faced a rising risk of default, has a program that 

focuses on restoring investor confidence while reducing debt and 

expenditures. A banking and currency collapse in Iceland precipitated the 

IMF-supported program, which contains some controversial approaches to 

monetary policy and banking reform. All four countries are making progress 

but face challenges in implementing conditions or achieving targets in their 

IMF-supported programs. 

The macroeconomic policies in IMF-supported programs are broadly 

consistent with the findings of the empirical literature GAO reviewed, 

although this literature lacks precise guidance for setting policy targets. For 

low-income countries, empirical evidence generally suggests inflation is 

detrimental to economic growth after it exceeds a critical threshold, which is 

broadly consistent with the inflation targets included in the IMF-supported 

programs we reviewed. For middle- and high-income countries, the literature 

identified specific policy weaknesses in advance of crises, including high 

inflation, high public indebtedness, and low international reserves. These 

weaknesses are consistent with the policies upon which the IMF focuses in 

the 13 programs in middle- to high-income countries GAO reviewed. 

View GAO-10-44 or key components.

For more information, contact Thomas Melito 

at (202) 512-9601 or melitot@gao.gov. 
Page i GAO-10-44 

Contents 

Letter 1

Results in Brief 4 

Background 7 

Designing an IMF-Supported Program Is a Complex Process That 

Allows for Negotiated Trade-offs Among Objectives and Policies 11 

Four IMF-Supported Programs Were Negotiated Based on 

Countries’ Circumstances 16 

Macroeconomic Policies in IMF-Supported Programs Are Broadly 

Consistent with Findings of Academic Literature 39 

Agency Comments 52 

Appendix I Scope and Methodology 53 

Appendix II Countries Approved to Receive IMF Financial 

Arrangements as of August 31, 2009 56 

Appendix III Comments from the Department of the Treasury 58 

Appendix IV GAO Contact and Staff Acknowledgments 59 

Bibliography Empirical Studies Reviewed in the 

Inflation-Growth Literature 60 

Bibliography Empirical Studies Reviewed in the Crisis 

“Early Warning System” Literature 62 

Tables 

Table 1: Number of Countries and Total Agreed-Upon Amounts of 

IMF Funding by Type of IMF Lending Arrangements, as of 

August 2008 and August 2009 10 

 International Monetary Fund 
Table 2: Context, Circumstances, and Objectives of Four Current 

IMF-Supported Programs 17 

Table 3: Inflation Targets in IMF-Supported Programs for 31 LowIncome Countries, as of July 2009 43 

Table 4: Indicators of Crisis Vulnerability from the Academic 

Literature 49 

Table 5: Countries Committed to IMF Financial Arrangements as of 

August 31, 2009 56 

Figures 

Figure 1: Elements of an IMF-Supported Program 12 

Figure 2: Liberia’s Country Background 18 

Figure 3: Elements of Liberia’s IMF-Supported Program 20 

Figure 4: Zambia’s Country Background 23 

Figure 5: Elements of Zambia’s IMF-Supported Program 25 

Figure 6: Hungary’s Country Background 28 

Figure 7: Elements of Hungary’s IMF-Supported Program 30 

Figure 8: Iceland’s Country Background 33 

Figure 9: Elements of Iceland’s IMF-Supported Program 35 

Figure 10: Relationship between Inflation and Economic Growth in 

Low-Income Countries as Described in Empirical 

Literature 41 

Figure 11: Inflation Targets in IMF-Supported Programs Are within 

the Estimates from Nine Studies 45 

Page ii GAO-10-44 International Monetary Fund
Abbreviations 

EFF Extended Fund Facility 

ESF Exogenous Shocks Facility 

FCL Flexible Credit Line 

G-20 Group of Twenty 

GDP Gross Domestic Product 

HFSA Hungarian Financial Supervisory Authority 

HIPC Heavily Indebted Poor Countries 

IMF International Monetary Fund 

NGO nongovernmental organization 

NTSR noise-to-signal ratio 

PRGF Poverty Reduction and Growth Facility 

QPC quantitative performance criteria 

SBA Stand-By Arrangement 

SDR special drawing rights 

SPC structural performance criteria 

Treasury U.S. Department of the Treasury 

This is a work of the U.S. government and is not subject to copyright protection in the 

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Page iii GAO-10-44 International Monetary Fund
Page 1 GAO-10-44 

 

United States Government Accountability Office

Washington, DC 20548 

 

November 12, 2009 

The Honorable Barney Frank 

Chairman 

Committee on Financial Services 

House of Representatives 

Dear Mr. Chairman: 

In response to the deepening global economic crisis, the International 

Monetary Fund (IMF) has dramatically increased its lending to member 

countries—from a total commitment under IMF-supported programs of 

about $3.5 billion as of August 2008 to a record level of about $170.4 billion 

as of August 2009.1

 Much of this new lending has gone to middle- and highincome countries, facing balance-of-payments crises or risking default on 

their external debt payments, to address their short-term financing needs.2

About two dozen low-income countries had longer-term IMF-supported 

programs focused on increasing economic growth and reducing poverty, 

as of August 2009. To help ensure that the IMF continues to have sufficient 

resources to meet the increased demand, in April 2009, the Group of 

Twenty (G-20) world leaders endorsed measures to make $1 trillion 

available through the IMF.3

 The $1 trillion includes the tripling of the IMF’s 

lending capacity to $750 billion, and an agreement to back the IMF in 

effectively creating an additional $250 billion by issuing special drawing 

rights (SDR).4

 As part of these increased resources, Congress had 

1

For the purposes of this report, lending includes arrangements and amounts that the IMF 

has committed to lend to recipient countries. The recipient countries may not have drawn 

these committed amounts. Unless otherwise noted, we use the August 31, 2009, U.S. dollar 

to SDR exchange rate of 1.56606 to convert IMF-reported SDR values to 2009 U.S. dollars 

throughout the report. The currency value of the SDR is determined daily by the IMF by 

summing the values in U.S. dollars, based on market exchange rates, of a basket of four 

major currencies—the euro, Japanese yen, pound sterling, and U.S. dollar. 

2

Balance-of-payments problems occur when countries have difficulty obtaining the 

financial resources needed to meet their payments to nonresidents. 

3

The G-20 is an organization of Finance Ministers and Central Bank Governors representing 

industrialized and developing economies. 

4

SDR is an international reserve asset created by the IMF in 1969 as a supplement to 

existing reserve assets, or quasi-currency that borrowing nations can draw upon if needed. 

 International Monetary Fund 
 

appropriated, in June 2009, additional funds for the IMF, including making 

available up to about $117.5 billion for loans to the IMF.5

The IMF, after holding discussions and reaching agreement with country 

authorities, provides member countries with financing that they have not 

been able to obtain in private capital markets.6

 IMF-supported lending 

programs are intended to help countries overcome balance-of-payments 

problems, stabilize their economies, and restore sustainable economic 

growth. To help achieve these objectives, IMF-supported programs 

identify key macroeconomic targets, such as economic growth rates, using 

a macroeconomic framework.7

 These programs also establish conditions, 

the economic and financial policy requirements to which recipient 

countries agree to receive IMF funding. Furthermore, IMF-supported 

programs may involve financing from other, often larger, creditors that 

link their funding to recipients’ performance on program conditions. 

Critics have long-standing concerns that the IMF has an overly austere 

approach to macroeconomic policy that does not sufficiently heed country 

viewpoints, sacrificing potential economic growth and poverty reduction 

in order to lower a country’s inflation rate and government deficit. For 

example, in October 2007, over 120 nongovernmental organizations (NGO) 

expressed their concerns to the IMF that its unnecessarily restrictive 

policies may undermine low-income countries’ ability to increase social 

spending. During the 1997-1998 Asian financial crisis, as well as more 

recently, some NGOs also criticized the IMF for imposing spending 

reductions and tight monetary policy on middle-income countries that 

exacerbated already severe economic stress. To help address these 

concerns, the IMF stated that it has changed its policies in part to increase 

 

5

Supplemental Appropriations Act, 2009, Pub. L. No. 111-32, June 24, 2009. The legislation 

made available the dollar equivalent of up to 75 billion SDRs, but also included that if the 

United States agrees to an expansion of its credit arrangement in an amount less than the 

dollar equivalent of 75 billion SDRs, any amount over the United States’ agreement shall 

not be available until further appropriated. According to the Department of the Treasury, 

there is an understanding between the Department of the Treasury and the U.S. Congress, 

which is supported by the administration’s public statements, that the United States would 

only commit up to $100 billion. 

6

Agreement on an IMF-supported program requires the IMF Executive Board’s approval. 

This board comprises 24 Executive Directors who are appointed or elected by member 

countries or by groups of member countries. 

7

We use the word target to mean a goal or objective of an IMF-supported program, rather 

than a formal target or program requirement.

Page 2 GAO-10-44 International Monetary Fund
 

flexibility; however, countries in crisis often have to undertake difficult 

reforms and cut government spending to achieve macroeconomic stability. 

Researchers studied these contentious issues, including the relationship 

between inflation and economic growth, and between macroeconomic 

policy and crises. 

In response to your request, we examined (1) the process for designing an 

IMF-supported program, (2) the IMF-supported programs in four selected 

recipient countries, and (3) the extent to which the findings of empirical 

economic studies are consistent with the IMF’s macroeconomic policies. 

To address these objectives, we focused our review on IMF-supported 

programs that provide countries with financial assistance. We reviewed 

and analyzed IMF documents and data, including the IMF Articles of 

Agreement; country requests for IMF-supported programs (letters of 

intent8

); IMF consultation reports and assessments of country progress 

under IMF-supported programs (including IMF’s Article IV consultation 

reports9

); program design papers; strategy papers; policy documents; and 

IMF’s Independent Evaluation Office reports. Using the letters of intent 

and consultation reports, we determined inflation goals in the 31 IMFsupported programs in low-income countries and macroeconomic policy 

requirements in 13 IMF-supported programs in middle- and high-income 

countries as of July 2009. We also met with officials representing the IMF, 

U.S. Departments of the Treasury (Treasury) and State, foreign 

governments, NGOs, and other international organizations. We conducted 

audit work in Washington, D.C., as well as Hungary, Iceland, Liberia, and 

Zambia, having selected these four countries as case studies to illustrate 

the IMF-supported programs in individual country programs. We selected 

these four countries to ensure geographic diversity and to examine how 

IMF-supported programs may differ in low-, middle-, and high-income 

countries receiving relatively large amounts of IMF financial assistance 

during the time of our review. Our choice of countries is meant to be 

illustrative, not representative. Furthermore, using published or widely 

 

8

Letters of intent are prepared by the member country. They describe the policies that a 

country intends to implement in the context of its request for financial support from the 

IMF. 

9

The Article IV consultation is an annual review of members’ macroeconomic 

circumstances. Typically, an IMF staff team visits the country, collects economic and 

financial information, and discusses with officials the country’s economic developments 

and policies. The staff prepares a report, which forms the basis for discussion by the 

Executive Board. 

Page 3 GAO-10-44 International Monetary Fund
 

cited empirical studies identified in economic research databases 

including EconLit and Google Scholar, we identified key relationships 

between macroeconomic policies and economic growth and crises and 

compared them with macroeconomic policies in current IMF-supported 

programs. Specifically, we reviewed two parts of the academic literature 

relevant to the macroeconomic policy decisions in IMF-supported 

programs, namely the literature that links inflation with economic growth 

and the crisis “early warning system” literature that identifies leading 

indicators of currency, banking, and debt crises. 

We conducted our work from November 2008 to November 2009 in 

accordance with all sections of GAO’s Quality Assurance Framework that 

are relevant to our objectives. The framework requires that we plan and 

perform the engagement to obtain sufficient and appropriate evidence to 

meet our stated objectives and to discuss any limitations in our work. We 

believe that the information and data obtained, and the analysis 

conducted, provide a reasonable basis for any findings and conclusions in 

this product. Appendix I contains a more detailed description of our scope 

and methodology. 

Designing an IMF-supported financial assistance program involves a 

complex, iterative process based on projections for key macroeconomic 

variables; discussions between IMF staff and country officials regarding 

program goals, policies, and trade-offs; use of economic judgment; and 

IMF Executive Board (IMF Board) approval. The IMF-supported program 

is intended to help countries achieve their objectives in the context of 

macroeconomic stability. The IMF macroeconomic framework provides 

the analytical basis for an IMF-supported program and is designed to 

ensure consistency among the projections for the various sectors of the 

economy while incorporating country-specific circumstances. IMFsupported programs in low-income countries are broadly geared toward 

increasing economic growth and reducing poverty. These programs 

generally strive to achieve low inflation and sustainable levels of debt by, 

for example, setting targets for the size of the budget deficit and growth in 

the money supply. In middle- and high-income countries, IMF-supported 

programs generally aim to stem capital outflows, restore confidence, and 

stabilize the exchange rate by, for example, setting targets for budget 

deficits and international reserves. A range of possible targets can be 

consistent with macroeconomic stability depending on the severity of 

existing macroeconomic imbalances. Trade-offs among these different 

combinations of objectives or policies allow for negotiations between the 

IMF staff and country officials, reflecting what is technically feasible and 

Results in Brief 

Page 4 GAO-10-44 International Monetary Fund
 

politically acceptable. Countries seeking IMF assistance are already 

experiencing challenging and often severe economic situations, and their 

available options usually require difficult choices. For example, countries 

often have to sacrifice priority spending to achieve macroeconomic 

stability, which includes a sustainable debt burden and low inflation. 

Ultimately, IMF staff and country officials reach agreement on the 

objectives and targets of IMF-supported programs, which then require the 

IMF Board’s approval. 

IMF-supported programs in each of the four countries we studied—

Liberia, Zambia, Hungary, and Iceland—include different sets of 

objectives, targets, and conditions that reflect the various circumstances 

in each country, based on negotiations between IMF staff and country 

officials. Although IMF staff and country officials generally agreed on the 

areas that require reform, they sometimes disagreed on the content and 

timing of specific policies for achieving program goals. All four countries 

are making progress, but each has encountered challenges in 

implementing conditions or achieving targets in their IMF-supported 

programs. In the two low-income countries (Liberia and Zambia), IMFsupported programs focus on achieving long-term economic stability and 

growth. 

• In Liberia—a country recovering from years of civil war and lacking basic 

infrastructure, rule of law, and budget accountability—the IMF-supported 

program is designed to help address the country’s immediate needs. Given 

Liberia’s dire situation, IMF and Liberian officials stated that Liberia has 

few options available for achieving its program objectives. For example, 

under the program target to maintain a cash-based, balanced budget, the 

government is precluded from borrowing to finance additional spending. 

Officials stated that the typical trade-off decisions—for example, between 

larger budget deficits and increased public expenditures—are not as 

relevant under this constraint. 

• In Zambia—a country negatively affected by the recent economic crisis—

the IMF-supported program is designed to increase economic growth, 

reduce poverty, and improve governance. Key elements of Zambia’s 

negotiations with IMF staff continue to center on fiscal trade-offs, with the 

authorities preferring to use greater deficit spending to stimulate 

economic growth, while IMF staff suggest restraint and reform to guard 

against wasteful spending and maintain economic stability. 

Page 5 GAO-10-44 International Monetary Fund
 

For the middle- and high-income countries (Hungary and Iceland, 

respectively), the IMF responded to sovereign debt or banking crises with 

a goal of reestablishing economic stability. 

• In Hungary, a rising risk of default and the central government’s 

unsustainable debt helped fuel the need for an IMF-supported program. A 

key aspect of the program is to restore confidence by shrinking the 

amount of government debt, largely through reduced expenditures. While 

expenditure cuts are not expected to be popular with the general public, 

Hungarian officials acknowledged that the spending cuts in the IMFsupported program are necessary to stabilize the economy. 

• Iceland is experiencing a crisis driven by the collapse of its banking 

system and excessive private sector borrowing. Its IMF-supported 

program contains controversial approaches to monetary policy and 

banking reform that have yet to be finalized. For example, authorities in 

Iceland would prefer to reduce high interest rates earlier than IMF staff 

suggest to provide a stimulus for struggling households and businesses. 

IMF staff caution against moving too quickly due to the risk of currency 

depreciation, which would increase the cost of the large stock of Iceland’s 

foreign currency debt and could cripple recovery prospects. In addition, 

determining how to restructure failed banks, and particularly who will 

bear the losses, remains a contentious issue for Icelandic authorities and 

the country’s foreign creditors. 

The macroeconomic policies in IMF-supported programs are broadly 

consistent with the findings of the empirical literature we reviewed, 

although this literature lacks precise guidance for setting policy targets. 

Inflation targets are a prominent feature of IMF-supported programs in 

low-income countries, but there has been considerable debate about 

appropriate targets for these countries. For low-income countries, 

empirical evidence generally suggests inflation is detrimental to economic 

growth after it exceeds a critical threshold of approximately 5 to 12 

percent. This threshold is broadly consistent with the inflation targets of 5 

to 10 percent in the 31 IMF-supported programs we reviewed. Reducing 

inflation below this critical threshold produces no additional economic 

growth or may cause a country to sacrifice some long-term growth 

benefits, according to the evidence we reviewed. Although there are 

comparatively few systematic analyses, the findings of the literature 

suggest a complex relationship between inflation and growth that could 

vary across countries both in terms of the optimal inflation target and the 

impact of higher levels of inflation on economic growth. Given these 

findings and the differences across countries at various stages of 

Page 6 GAO-10-44 International Monetary Fund
 

development, a uniform inflation target applicable to all countries may not 

be appropriate. For middle- and high-income countries, the academic 

literature identifies weaknesses in macroeconomic policies that often 

precede economic crises that are consistent with the policies focused on 

in the IMF-supported programs we reviewed. We focused on this aspect of 

the academic literature because middle- and high-income countries have 

sought significant IMF financial assistance due to stress associated with 

the global financial crisis. Economic crises may include one or more of 

currency, banking, and debt crises, and can have severe negative effects 

on the economy. The empirical academic literature identifies a number of 

specific policy weaknesses in advance of crises, including high inflation, 

high public indebtedness, and low international reserves. These 

weaknesses are consistent with the policies upon which the IMF focused 

in the 13 programs in the middle- and high-income countries we reviewed. 

While informative for the development of macroeconomic policy, the 

crisis “early warning system” literature contains limitations, such as 

selections of countries in some studies that may bias estimates of policy 

effects. For example, the amount of international reserves necessary to 

guard against a crisis may be lower for countries excluded from the 

analysis. As a result, this literature provides qualitative rather than precise 

quantitative guidance. 

The Department of the Treasury provided written comments on a draft of 

this report (see app. III), stating that it fully concurs with our conclusions. 

Treasury and the IMF also provided technical comments, which we 

incorporated as appropriate. 

The IMF, an organization of 186 countries, provides surveillance, lending, 

and technical assistance to its member countries. IMF surveillance 

involves the monitoring of economic and financial developments and the 

provision of policy advice, with key aims including financial crisis 

prevention. The IMF also lends to countries with balance-of-payments 

difficulties, including medium- to high-income countries, to provide 

temporary financing and support policies to achieve macroeconomic 

stability in the medium term. Its loans to low-income countries are to 

assist policies designed to foster economic growth and promote poverty 

reduction. In addition, the IMF provides countries with technical 

assistance and training in its areas of expertise. 

Background 

Upon request by a member country, an IMF loan is generally provided under 

a program that stipulates the specific policies and measures a country has 

agreed to implement. As part of an agreement to receive IMF financing, a 

Page 7 GAO-10-44 International Monetary Fund
 

member country may agree to implement policy measures, known as 

conditions, designed to resolve its balance-of-payments problems, overcome 

the problems that led it to seek financial aid, and help ensure that it can 

repay the IMF. The IMF also conducts periodic program reviews to assess 

whether the IMF-supported program is broadly on track and the country has 

met established conditions, or whether modifications are necessary to 

achieve the program’s objectives. Based on these reviews of a country’s 

performance, including whether the country has implemented conditions 

according to a specific timetable, the IMF Board determines whether the 

country will receive subsequent installments of IMF funding.10

The IMF’s resources are provided by member countries through quota 

contributions, loan provisions to the IMF, and member contributions for 

lending to low-income countries. When a country joins the IMF, the country 

pays a quota to the organization, which may increase when IMF members 

agree to increase the IMF’s capital. Each IMF member country is assigned a 

quota, based broadly on its relative size in the world economy. A member’s 

quota determines its maximum financial commitment to the IMF and its 

voting power and has a bearing on the amount of IMF financing a member 

can receive. The IMF also may enter into multilateral or bilateral borrowing 

arrangements to increase its resources. Moreover, resources for IMFsupported programs to low-income countries come from funding outside 

quota resources, including member contributions and the IMF. 

In April 2009, the G-20 world leaders endorsed measures to significantly 

increase the IMF’s available resources to $750 billion and also supported 

new SDR allocations of about $250 billion to increase the international 

reserves of member countries. An additional special SDR allocation of 

about $30 billion came into effect in September 2009 under the Fourth 

Amendment.11 The source of IMF’s increase in resources includes both 

increased quota contributions and a significant amount of borrowing from 

 

10In May 2009, the IMF announced reforms to its policy on conditions. For example, the 

IMF eliminated structural elements as performance criteria. These structural performance 

criteria (SPC) are changes in the underlying makeup of an economy, such as fiscal systems, 

social safety nets, and measures to strengthen the financial sector. Though eliminated as 

criteria, the IMF will continue to monitor structural reforms as part of the overall review of 

country progress. 

11The G-20 also called for urgent ratification of a long-pending amendment to the IMF’s 

Articles of Agreement. The Fourth Amendment was proposed to enable all IMF members to 

participate in the SDR system on an equitable basis and correct for the fact that countries 

that joined the IMF after 1981—now more than one-fifth of the current IMF membership—

had never received an SDR allocation. 

Page 8 GAO-10-44 International Monetary Fund
 

some member countries. Part of these additional resources includes 

funding from the United States. In June 2009, the U.S. Congress passed 

legislation that appropriated about $7.8 billion for an increase in the U.S. 

quota to the IMF.12 It also made available up to about $117.5 billion for 

loans to the IMF.13 Congress set some provisions for the IMF as part of the 

legislation, including language directing U.S. officials to oppose loans to 

countries that have repeatedly supported acts of international terrorism 

and to programs that would force developing countries to cap spending on 

health care and education.14 When signing the legislation, the President 

issued a statement stating that certain provisions within the legislation 

would interfere with his constitutional authority to conduct foreign 

relations and that he would not treat these provisions as limiting his ability 

to engage in foreign diplomacy or negotiations.15 In addition to the 

increase in the IMF’s overall resources, the IMF Board agreed in July 2009 

to measures that will boost the IMF’s concessional lending capacity 

available to low-income countries to $17 billion through 2014. 

Since August 2008, the IMF has dramatically increased its commitment to 

lend to member countries in response to the global economic crisis, as 

shown in table 1. The table categorizes the number of countries and 

amount of agreed upon IMF funding categorized by various IMF lending 

arrangements, which are developed and tailored to address the specific 

circumstances of its member countries. As shown in table 1, the number of 

countries with Stand-By Arrangements, typically middle- and high-income 

countries facing crisis and seeking to resolve their short-term balance of 

payments problems, have significantly increased. See appendix II for a list 

of the countries that have been approved to receive funding under an IMFsupported program as of August 2009. 

 

12Pub. L. No. 111-32. The legislation appropriated the dollar equivalent of 4,973,100,000 

SDRs. 

13Pub. L. No. 111-32. The legislation made available the dollar equivalent of up to 75 billion 

SDRs. 

14These provisions are included in Pub. L. No. 111-32, Sections 1403(d) and 1404. 

15Statement on Signing the Supplemental Appropriations Act, 2009, June 24, 2009. The 

provisions noted in the signing statement included Sections 1403 and 1404. 

Page 9 GAO-10-44 International Monetary Fund
 

Table 1: Number of Countries and Total Agreed-Upon Amounts of IMF Funding by Type of IMF Lending Arrangements, as of 

August 2008 and August 2009 

Dollars (U.S.) in billions 

Type of IMF lending 

arrangement Key characteristics of IMF lending arrangement 

Number of 

countries and total 

agreed-upon 

amounts, as of 

August 31, 2008 

Number of 

countries and total 

agreed-upon 

amounts, as of 

August 31, 2009

Poverty Reduction and 

Growth Facility (PRGF) 

Concessional (below-market) interest loans to low-income 

countries eligible for PRGF assistance; eligibility based 

principally on the IMF’s assessment of country’s per capita 

income. 

Loans carry an annual interest rate of 0.5 percent; repayments 

made semiannually, beginning 51⁄2 years and ending 10 years 

after disbursement. 

22 

$1.8 

22 

$3.2 

Exogenous Shocks 

Facility (ESF) 

Concessional financing for low-income countries that are 

experiencing exogenous shocks but do not have a PRGF 

arrangement. 

Interest rates and repayment terms same as those under 

PRGF. Length of a loan is 1 to 2 years. 

0 6

$1.1

Stand-By Arrangement 

(SBA) 

Nonconcessional loans designed to help countries address 

short-term balance of payments problems. 

Provision may be on a precautionary basis; countries may 

choose not to draw upon approved amounts but retain the 

option to do so if conditions deteriorate. 

Length of a loan is typically 1 to 2 years. Repayment is due 

within 31⁄4 to 5 years of disbursement. 

4 

$1.2 

18

$84.3

Extended Fund Facility 

(EFF) 

Use of nonconcessional resources to help countries address 

longer-term balance of payments problems requiring 

fundamental economic reforms. 

Interest rates and repayment terms same as those under 

PRGF, however, disbursements may be over a 1 to 2 year 

period under certain circumstances. 

2 

$0.6 

0

Flexible Credit Line 

(FCL) 

(Introduced in March 

2009 to address the 

economic crisis) 

Accelerated financing for borrower countries, useful for crisis 

prevention purposes. Large and up-front financing to member 

countries meeting preset qualification criteria. Criteria include 

having very strong fundamentals, policies, and track records of 

policy implementation. 

Length of a loan is 6 months or 1 year. Repayment period is 31⁄4 

to 5 years. 

Data not available 

because FCL did 

not exist 

3

$81.7

Totala28 

$3.5 

49

$170.4 

Source: IMF data. 

Notes: Some countries may have an IMF-supported program that combines different types of 

arrangements. For example, Liberia had PRGF and EFF programs as of August 31, 2008. For all 

types of IMF lending arrangements, IMF’s funding disbursements depend on performance of the 

recipient countries. FCL arrangements are reserved for members meeting preset qualification criteria 

and can be of 6 or 12 months in duration. 

a

Totals may not add up due to rounding. 

Page 10 GAO-10-44 International Monetary Fund
 

The IMF-supported program is intended to help countries achieve 

macroeconomic stability and contains objectives, targets, macroeconomic 

policies, and conditions. The design of an IMF-supported program involves a 

complex process, which includes the use of a macroeconomic framework, 

economic judgment, and discussions between the IMF staff and country 

officials regarding trade-offs among different objectives and policies. 

Designing an IMFSupported Program Is a 

Complex Process That 

Allows for Negotiated 

Trade-offs Among 

Objectives and Policies 

An IMF-supported program consists of the objectives, targets, 

macroeconomic policies, and conditions, to which the borrower and the 

IMF agree. An IMF-supported program is intended to help a country 

achieve its objectives while maintaining or restoring macroeconomic 

stability. Although there may not be a distinct threshold between 

macroeconomic stability and instability, IMF documents have specified 

key characteristics that identify a country in a state of macroeconomic 

stability. These include, for example, a prudent fiscal policy; a sustainably 

financed trade deficit; low and stable inflation; and rising per capita Gross 

Domestic Product (GDP) (see fig. 1).16

IMF-Supported Programs 

Are Intended to Help 

Countries Achieve Their 

Objectives in the Context 

of Macroeconomic 

Stability 

 

16The IMF identified these conditions for low-income countries. Macroeconomic instability 

can be characterized by large trade deficits financed by short-term borrowing, high and 

rising levels of public debt, double-digit inflation rates, and stagnant or declining GDP. 

Page 11 GAO-10-44 International Monetary Fund
 

Figure 1: Elements of an IMF-Supported Program 

Sustainably

financed

trade deficit

Low/

stable 

inflation

Stagnant

or declining

GDP growth 

rate

Condition: Ceiling on 

expansion of money 

supply (QPC)

Condition: Draft public 

finance law to legislature 

(structural 

condition)

May include measures to: 

Condition: Floor on net 

international reserves

(QPC)

High/

rising

inflation

Large

trade deficits

financed by 

short-term 

borrowing

High and 

rising levels

of public 

debt

Rising per 

capita GDP

Sustainably 

financed 

government 

deficit

Fiscal

Condition: Limit on 

new government 

borrowing (QPC)

• Government 

spending, borrowing, 

and taxation

Monetary

Macroeconomic 

policies

• Money supply

• Interest rate

External

• Exchange rate

• Foreign exchange 

reserves

Structural reform

• Strengthen banking supervision

• Reform the tax system

• Build up social safety nets

Conditions: including quantitative performance 

criteria (QPC) and structural conditions

Targets for key 

macroeconomic 

variables

Characteristics of 

macroeconomic 

stability

Characteristics of 

macroeconomic 

instability

Inflation 

rate

GDP 

growth 

rate

Trade 

balance

Budget

deficit

Exchange 

rate

Government 

expenses

Government 

revenue

Foreign 

exchange 

reserves

Macroeconomic STABILITY gray zone

Macroeconomic STABILITY gray zone

Macroeconomic INSTABILITY

Macroeconomic INSTABILITY

Source: GAO analysis of IMF documents.

Page 12 GAO-10-44 International Monetary Fund
 

An IMF-supported program is defined by its objectives and the link 

between those objectives and the macroeconomic policies used to achieve 

them, with the specific content of a country’s program reflecting the 

country’s characteristics and circumstances. For example, IMF-supported 

program objectives in low-income countries are broadly geared toward the 

long-term goals of increasing economic growth and reducing poverty. In 

middle- and high-income countries, particularly those experiencing acute 

crises, IMF-supported programs generally aim to stem capital outflows, 

restore confidence, and bring about a recovery in the short- to mediumterm. 

The macroeconomic framework used to develop the IMF-supported 

program consists of the following elements as illustrated in figure 1: 

• Targets for key macroeconomic variables: IMF-supported programs 

include targets to help achieve a country’s objectives. In low-income 

countries, programs may include quantitative targets to limit the growth of 

the money supply and the budget deficit to lower inflation and maintain 

debt levels consistent with macroeconomic stability. In middle- and highincome countries, an IMF-supported program may include targets to 

stabilize the exchange rate, raise interest rates, and tighten credit 

conditions to stem the outflow of capital and restore investor confidence.17

• Macroeconomic policies: Four types of macroeconomic policies—

monetary, fiscal, external, and structural reforms—may be used to help a 

country achieve its objectives. Monetary policy is used to affect the growth 

of the money supply and interest rate levels. Fiscal policy sets the amount 

and composition of government expenditures and government revenue to 

affect the size of the budget deficit. External policies concern the size of 

the trade deficit and the exchange rate, which can influence the amount of 

exports and imports and the buildup of international reserves. IMFsupported programs also are likely to include “macro-critical” structural 

reforms intended to help countries establish sound financial sector 

regulatory systems. 

• Conditions: IMF-supported programs may contain quantitative 

performance criteria (QPC) and macroeconomic structural conditions, 

which the country has agreed to implement to receive IMF 

 

17Limiting the budget deficit may also be crucial for middle- and high-income countries, and 

stabilizing the exchange rate may also be important for low-income countries. 

Page 13 GAO-10-44 International Monetary Fund
 

disbursements.18 Examples of QPCs that address macroeconomic policy 

variables include (1) limits on government borrowing to curb the public 

debt, (2) a ceiling on the expansion of the money supply to manage the 

interest rate or contain inflation, or (3) a floor on international reserves to 

stabilize the exchange rate and weather shocks. According to the IMF, a 

country’s performance criteria are frequently revised during the course of 

a program as external conditions evolve in a way not initially foreseen. 

Structural conditions are measures that the IMF and country authorities 

consider critical for the successful implementation of the program. 

Structural conditions may include specific measures to strengthen banking 

supervision, reform the tax system, improve fiscal transparency, and build 

up social safety nets. Although structural conditions are no longer used as 

performance criteria, the structural reforms that the IMF sees as critical to 

a country’s recovery will continue to be monitored. 

Various Combinations of 

Policies and Variables Are 

Consistent with 

Macroeconomic Stability, 

Allowing for Negotiations 

Because of the extensive linkages among the various economic sectors19

and the mutual dependence of policy instruments and targets,20 designing 

an IMF-supported program is complex, iterative, and requires economic 

judgment. The process of designing the program begins when country 

authorities contact the IMF due to impending or ongoing macroeconomic 

instability or crisis. The IMF staff and country authorities establish the 

country’s need for borrowing based on the specific underlying 

macroeconomic problems to be addressed and discuss program objectives 

and policies. Using a macroeconomic framework as an analytical basis for 

the IMF-supported program, IMF staff and country authorities use an 

iterative process to set targets for key macroeconomic variables, such as 

real GDP growth, inflation, and the budget deficit, and identify specific 

 

18Conditions may also include prior actions, which are measures that a country agrees to 

take before the IMF approves financing or completes a review. Examples of prior actions 

include adjustment of a country’s exchange rate, elimination of a country’s price controls, 

or formal approval of a government budget consistent with the IMF-supported program’s 

fiscal framework. 

19The key sectors of the economy are real (output growth), monetary and financial (money 

and banking system), fiscal (government deficit), and external (balance of payments). 

20For example, the projections for GDP growth, inflation, and the current account influence 

are influenced by monetary, exchange rate, and fiscal policy instruments. GDP growth and 

inflation are thus important inputs into determining government revenue and expenditures. 

However, the size of the deficit has an effect on economic activity, as well as the method of 

financing the deficit influences inflation and interest rates. 

Page 14 GAO-10-44 International Monetary Fund
 

economic policies intended to achieve these targets.21 The framework is 

intended to ensure consistency of the target values for the macroeconomic 

variables among the various sectors of the economy and to align the IMF’s 

macroeconomic and structural policy advice with the program’s 

objectives, while incorporating country-specific factors. For example, the 

macroeconomic framework might be used to inform discussions about 

how to achieve the target of a lower budget deficit by weighing policy 

options that include reducing expenditures, raising revenues, obtaining 

grant financing, or modifying the goal. The process for designing the 

program usually culminates with country authorities and IMF staff 

agreeing on the goals, targets, and policies for a program that is both 

technically feasible and politically acceptable. Then, they seek agreement 

on the conditions, including QPCs and structural reforms, needed to 

complete the program. The IMF Board is then asked to discuss and 

approve the program. 

In designing an IMF-supported program, a government has to make 

difficult trade-off decisions among different priority objectives and 

policies consistent with macroeconomic stability. The trade-offs required 

reflect the specific country circumstances and the severity of the 

macroeconomic imbalances. According to an IMF/World Bank document, 

there is a substantial gray area for a combination of levels of key 

macroeconomic variables, including growth, inflation, fiscal deficit, 

current account deficit, and international reserves that lies between 

macroeconomic stability and instability, where a country could enjoy a 

degree of stability, but where macroeconomic performance could clearly 

be improved (see fig. 1). This gray area allows for negotiation between the 

country authorities and the IMF staff. 

This process can be illustrated in the following hypothetical example. A 

country can be adversely affected by the global recession in a number of 

ways, including through declining export revenue as the price and volume 

of exports fall. The decline in exports is likely to lead to a rise in 

unemployment as private sector activity declines, contributing to 

increased poverty. Any effort on the part of the government to increase 

 

21IMF staff use the financial programming model, which consists of accounting identities, 

behavioral relationships, and economic judgment, as a consistency check on the 

macroeconomic framework. This process allows targets and policies to be adjusted and 

reformulated in light of changing outcomes. The process may undergo multiple iterations 

as IMF staff strive to ensure internal consistency across the various sectors of the 

economy. 

Page 15 GAO-10-44 International Monetary Fund
 

spending to counter this fall in aggregate demand is likely to increase the 

budget deficit, especially in the context of falling revenues. The increased 

spending also may contribute to inflationary pressures.22 If the country, 

prior to the crisis, was already experiencing a high debt level and an 

elevated inflation rate, the way forward can be quite complicated. If the 

budget deficit were to rise by too much, inflation could increase to a point 

where the country would be at risk of macroeconomic instability, while 

insufficient domestic spending could lower economic growth, worsening 

the unemployment situation and increasing poverty. 

Financial assistance through an IMF-supported program can help mitigate 

the situation, but the government of the hypothetical country in this 

example still faces a difficult policy trade-off—how to reduce the impact 

of the recession on the poor without risking high inflation. Within this 

overall context, the discussions between IMF staff and government 

officials are likely to explore targets for the budget deficit and inflation 

that attempt to balance these two concerns. While the range of discussion 

regarding these targets is limited to what will achieve or maintain 

macroeconomic stability, country officials and IMF staff may have 

different perspectives on the risks of macroeconomic instability, the 

degree to which spending cuts will harm the poor, and the political 

feasibility of gaining parliamentary approval for significant spending cuts. 

These different perspectives could provide the basis for negotiation for the 

targets contained within the program. 

IMF-supported programs in each of the four countries we reviewed 

contain different sets of objectives, targets, and conditions that reflect 

each country’s individual circumstances, trade-offs, and negotiations with 

IMF staff. The program in postconflict Liberia focuses on rebuilding 

capacity, whereas the program in Zambia, a country with significant 

natural resources, but substantial poverty, centers on increasing economic 

growth. Hungary, a middle-income country, faced a risking risk of debt 

default; thus, the program concentrates on restoring investor confidence 

and reducing debt and expenditures. A banking and currency collapse 

precipitated Iceland’s request for a program, which focuses on 

recapitalizing the banks and stabilizing the currency. While IMF staff and 

country officials in all four countries generally agreed with the programs 

Four IMF-Supported 

Programs Were 

Negotiated Based on 

Countries’ 

Circumstances 

 

22If the increase in government spending is financed by borrowing from the central bank, 

the effect on the price level may be significant. 

Page 16 GAO-10-44 International Monetary Fund
 

and have made progress in implementing the programs, each country has 

encountered some challenges in implementing conditions or achieving 

targets. Figures 2, 4, 6, and 8 show country background information for 

Liberia, Zambia, Hungary, and Iceland. Table 2 summarizes the context, 

circumstances, and objectives of the IMF-supported programs we 

reviewed. 

Table 2: Context, Circumstances, and Objectives of Four Current IMF-Supported 

Programs 

Country Context Circumstances Objectives 

Liberia Low-income, 

postconflict 

Economy and society 

devastated by years of civil 

war and government 

mismanagement 

Rebuild basic capacity, 

including economy, 

government, and 

infrastructure 

Zambia Low-income, 

adversely 

impacted by 

global crisis 

Despite significant natural 

resources, including copper 

as the mainstay of exports, 

substantial poverty remains 

Increase economic 

growth, reduce poverty, 

and improve governance 

Hungary Middle-income, 

risked defaulting 

on debt payments

Years of over-spending and 

easy credit led to massive 

debt accumulation 

Restore investor 

confidence by reducing 

debt and expenditures 

Iceland High-income, 

banking system 

and currency 

collapsed 

Economic meltdown, 

currency crash 

Recapitalize banks, 

stabilize currency 

Sources: GAO review of IMF and country documents. 

Page 17 GAO-10-44 International Monetary Fund
 

Liberia’s Program Focuses 

on Rebuilding Basic 

Capacity after Years of 

Devastation 

Figure 2: Liberia’s Country Background 

Sources: IMF and CIA World Factbook 2009.

Liberia: Country background

Population: 3,441,790

Estimated 2009 GDP growth: 4.9%

Currency: Liberian dollars and U.S. dollars

Tubmanburg

Robertsport

Harbel

Buchanan

MONROVIA

GUINEA

NORTH

ATLANTIC

OCEAN

CÔTE

D’IVOIRE

SIERRA

LEONE

Gbarnga

Zwedru

Mount

Wuteve

Voinjama

Greenville

Harper

Yekepa

Although recovering from civil wars that spanned 1989 to 2003, Liberia 

remains one of the world’s most impoverished countries. Devastated by 

past war and government mismanagement, the country suffers from 

minimal basic infrastructure, limited health care, a largely unskilled labor 

force, and a population with a low literacy rate. Liberia also has a weak 

rule of law and widespread corruption, according to the documents we 

reviewed and Liberian officials we interviewed. Liberian government 

officials emphasized the need to address social issues, such as building 

basic infrastructure and providing health care and education. 

Liberian Government Is 

Working to Rebuild Devastated 

Capacity 

Page 18 GAO-10-44 International Monetary Fund
 

In the last 3 years, the country has made significant progress in 

strengthening its economy and government. For example, the GDP has 

been rising; the exchange rate remains relatively stable; and government 

revenue has increased. In 2006, the government requested IMF technical 

assistance to develop a program to support economic reconstruction, 

begin building a track record of policy implementation, resolve its arrears 

to creditors, and lessen its significant debt burden. Under this IMF staffmonitored program, in which the IMF provided no financial assistance, the 

IMF found that the Liberian government made satisfactory progress. 

Specifically, the IMF reported that the government has facilitated the 

rebuilding of public institutions, restored credible macroeconomic 

management, and supported implementation of important structural 

reforms to improve financial management and the financial sector. In 2008, 

Liberia cleared its long-standing overdue obligations, including obligations 

to the IMF that initially precluded the country from IMF assistance, and 

met requirements to begin receiving debt relief under the enhanced 

Heavily Indebted Poor Countries (HIPC) Initiative.23 More than 100 IMF 

member countries participated in a fund-raising effort for Liberia, securing 

sufficient commitments to finance the IMF’s debt relief to the country. 

To make further reforms to help ensure a sustainable recovery over the 

long term, the government received a new 3-year IMF-supported financial 

assistance program in 2008. Figure 3 shows elements of the program, 

including its overall objectives and the policies, targets, and conditions 

intended to help achieve these objectives. 

 

23In 1996, the World Bank and IMF launched the HIPC Initiative to create a framework in 

which all creditors, including multilateral creditors, can provide debt relief to the world’s 

poorest and most heavily indebted countries, and thereby help reduce constraints on 

economic growth and poverty reduction due to the countries’ debt burdens. Countries 

begin receiving debt relief on an interim basis until they complete the initiative, which 

Liberia may do in 2010. According to IMF staff, Liberia has been receiving interim debt 

relief from its main creditors, but full debt relief will only be secured when it reaches the 

HIPC completion point. For more information, see GAO, Developing Countries: The 

United States Has Not Fully Funded Its Share of Debt Relief, and the Impact of Debt 

Relief on Countries’ Poverty-Reducing Spending Is Unknown, GAO-09-162 (Washington, 

D.C.: Jan. 26, 2009). 

Page 19 GAO-10-44 International Monetary Fund
 

Figure 3: Elements of Liberia’s IMF-Supported Program 

Source: GAO analysis of IMF documents.

Fiscal Monetary

Macroeconomic 

policies, targets, and

conditions

• Target: Contain 

inflation to single digits

• Condition: Sets a floor 

on the Central Bank's

budget balance

• Condition: Reform judicial, 

agriculture, mining sectors

• Condition: Improve public 

financial management, 

strengthen banking 

supervision, improve 

national economic 

statistics, and 

implement 

anticorruption 

strategy

External Structural reform

$391 million Poverty Reduction and Growth Facility program and 

$561 million Extended Fund Facility program approved March 2008

Objectives are to 

• Achieve higher growth by maintaining macroeconomic stability

• Attract private investment

• Improve infrastructure and governance

• Target: Maintain 

balanced budget

• Condition: No new 

government borrowing

• Condition: Sets a floor 

on government revenues

• Condition: Rebuild 

foreign exchange 

reserves

Liberia

Note: Program amount was the approximate U.S. dollar amount at the time of program approval. 

Liberian authorities and IMF staff said they generally agreed on the 

program but continue to negotiate its fiscal constraints. Liberian officials 

stated that they welcome IMF assistance, have open dialogues with IMF 

officials, and have a sense of ownership of the program. When the IMF 

began its support to Liberia in 2005, Liberia had significant external and 

Government Endorses Program 

but Questions Fiscal 

Constraints 

Page 20 GAO-10-44 International Monetary Fund
 

domestic debt. In addition, the country did not have the financial 

resources to service any new debt, and its creditors sought evidence that 

Liberia could control its fiscal position in advance of providing 

comprehensive debt relief. Therefore, the IMF’s focus was on efficiently 

securing government resources. To accomplish this, IMF staff said the 

program focused on the government achieving a balanced budget, in 

which expenditures equal revenues. Given Liberia’s dire situation, the 

country has few options available for implementing its program objectives, 

according to Liberian officials and IMF staff. For example, under the 

program target to maintain a cash-based, balanced budget, the country is 

precluded from borrowing to finance additional spending. Both Liberian 

officials and IMF staff said that the typical trade-off decisions—for 

example, between larger budget deficits and increased public 

expenditures—are not as relevant under this program target. Rather, 

policy decisions in Liberia generally centered on the country’s need to 

have a balanced budget, one of the program targets. Some Liberian 

authorities we met with said that they preferred to have more flexibility in 

spending to address some urgent needs, such as increased public spending 

on roads, health care, and education. IMF staff agreed with these views 

but recommended that the country prioritize having a balanced budget to 

ensure that it would not incur additional debt. IMF staff informed us that, 

while maintaining a balanced budget, Liberian officials and not IMF staff 

determine the composition of the country’s expenditures. 

Despite the existing program target of zero borrowing to maintain a 

balanced budget, IMF staff made an exception to this target in response to 

a Liberian government request. In May 2009, IMF staff supported the 

Liberian request for limited, highly concessional—or below market-rate—

borrowing to invest in critical port infrastructure. According to an IMF 

review, Liberia’s main port in Monrovia was badly damaged during the 

civil war, and further deterioration could have far-reaching ramifications 

on economic growth through lower exports, import shortages, and rising 

prices. The IMF review concluded that the proposed borrowing would not 

undermine debt sustainability and is directed at an urgent and important 

facility needed to increase trade and economic activity. IMF staff stated 

that they accepted Liberia’s request in part because the government had 

thus far performed well under its IMF-supported program. 

In its June 2009 report, the IMF stated that Liberia’s program remains on 

track while noting challenges. The government met most of its 

performance criteria and continued to advance structural reforms. For 

example, the IMF concluded that Liberia’s fiscal performance through the 

end of 2008 was solid. The IMF said that Liberian officials remain strongly 

Program Is on Track, but 

Challenges Remain 

Page 21 GAO-10-44 International Monetary Fund
 

committed to a balanced cash-based budget. Furthermore, the Liberian 

government established an anticorruption commission that became 

operational in December 2008. 

The government continues to face some challenges that may affect the 

progress of its reforms. Notably, the global recession has slowed Liberia’s 

economic recovery and may further pose risks to Liberia’s achievement of 

its program objectives. A sharper-than-projected slowdown in global 

growth or a decline in world commodity prices could reduce demand for 

Liberia’s key exports, or delay investment activity in these sectors, to a 

greater degree than projected. Liberian officials also stated that the 

political process presents a challenge in implementing reforms and 

legislation tied to the IMF-supported program’s goals. For example, 

Liberian government officials said they plan to strengthen public financial 

management, a stated goal of the IMF-supported program. However, the 

passage of legislation to improve public financial management was 

delayed due to lengthy political debates in Liberia’s legislature. This 

legislation was submitted to the legislature in December 2008 but not 

passed until August 2009. Furthermore, the government encountered a 3-

month delay in setting up a functioning commission to address corruption 

due to late passage of the law to establish it. 

Page 22 GAO-10-44 International Monetary Fund
 

Zambia’s Program Focuses 

on Increasing Growth and 

Strengthening Governance 

Figure 4: Zambia’s Country Background 

Sources: IMF and CIA World Factbook 2009.

Zambia: Country background

Population: 11,862,740

Estimated 2009 GDP growth: 4.0%

Currency: Zambian Kwacha

DEMOCRATIC

REPUBLIC OF THE

CONGO

TANZANIA

ZIMBABWE

MOZ.

NAMIBIA

MAL.

BOTSWANA

Livingstone

Mongu

Kabwe

Ndola

Kitwe Mufulina Solwezi

Chipata

Mpulungu

Kasama Mafinga

Hills

Kapiri Mposhi

LUSAKA

Lake Tanganyika

Lake

Mweru

Lake Bangweulu

Lake

Kamba

Zambezi Zambezi

Luapu

ANGOLA la

Zambia, a country endowed with natural resources, has performed well 

economically, but poverty, aggravated by the global economic crisis, 

remains widespread. The country’s economy, afflicted by high debt and 

inflation through the 1990s, grew strongly in the early 2000s. The country’s 

prior PRGF program, begun in 2004, identified reforms intended to help 

Zambia achieve a sustainable level of debt and reduce its 30 to 40 percent 

inflation rate, according to IMF staff. In 2005, Zambia qualified for debt 

relief under the HIPC Initiative and has begun to benefit from 

approximately $6 billion in debt forgiveness. As of 2007, its economic 

growth was robust, inflation remained in the single digits, the currency 

Zambia Has Significant Natural 

Resources, but Substantial 

Poverty Remains 

Page 23 GAO-10-44 International Monetary Fund
 

was relatively stable, and its strong external position allowed a further 

increase in international reserves. Zambia also benefited from the rev

of mining in the wake of privatization and the higher world prices of 

copper, the mainstay of the Zambian economy. In 2008, copper accounted

for an estimated 74 percent of Zambia’s export earnings, according to an 

IMF document. The IMF reported that Zambia’s 2008 budget maintained 

the prudent approach to fiscal policy of recent years. Despite increased 

spending, including on capital projects, the fiscal positio

ival 

n was expected to 

strengthen with rising revenue from the mining sector. 

th 

-

icies, targets, 

and conditions intended to help achieve these objectives. 

Nonetheless, the lack of sufficient infrastructure—including power, 

transportation, and telecommunications—impedes rapid economic grow

and development in Zambia. In addition, poverty has been reduced but 

remains exceptionally high, especially in rural areas where 80 percent of 

the population lives in poverty, according to an IMF document. To address 

economic challenges, the Zambian government received a new 3-year IMF

supported financial assistance program in 2008. Figure 5 shows elements

of the program, including its overall objectives and the pol

Page 24 GAO-10-44 International Monetary Fund
 

Figure 5: Elements of Zambia’s IMF-Supported Program 

Fiscal Monetary

Macroeconomic 

policies, targets, and

conditions

• Target: Reduce 

inflation to about 

5 percent by 2009

• Condition: Improve 

public sector 

efficiency and 

accountability 

 • Condition: Strengthen 

bank supervision

External Structural reform

Zambia

$79.2 million Poverty Reduction and Growth Facility program approved June 2008

Objectives are to 

• Boost economic growth

• Reduce poverty

• Maintain debt sustainability

• Improve public financial management

• Target: Aim for primary 

budget balance (excluding 

grants) of 7 to 8 percent in 

2008-2010

• Condition: Sets a ceiling 

on net domestic borrowing 

by the government

• Target: Maintain flexible 

exchange rate regime

• Condition: Build up 

foreign exchange 

reserves

Source: GAO analysis of IMF documents.

Note: Program amount was the approximate U.S. dollar amount at the time of program approval. 

IMF staff and Zambian officials stated that they had reached agreement on 

the initial and revised targets in the current IMF-supported program. IMF 

staff and Zambian officials said that they maintain a constructive 

relationship, which has improved during the implementation of the current 

Government Generally Agrees 

with Program but Debates 

Spending Limits 

Page 25 GAO-10-44 International Monetary Fund
 

IMF-supported program compared with past IMF-supported programs. F

example, through negotiations with country officials over the years, the 

IMF relaxed its targets related to government wages and inflation rates. 

According to IMF staff, Zambia’s government wages were relatively high, 

causing the IMF to limit wages of Zambia’s civil service employees in an 

earlier IMF-supported program. From 2003 to 2004, some NGOs criticized 

the IMF’s role in determining the budget limits on the size of the Zambian 

government wage bill. The IMF advised the Zambian government that such 

a high wage bill would not leave sufficient room in the budget for spen

to support the government’s poverty reduction strategy. After holding 

further discussions, IMF staff reached agreement with Zambian officials 

about this issue. In Zambia’s current IMF-supported program, the IMF no 

longer sets targets related to civil service wages. In addition, IMF staff a

Zambian officials discussed and revised the inflation target in Zambia’s 

current program. Zambian officials stated that they thought the progr

target of 7 percent inflation, set in June 2008 at the beginning of the 

program and based on the IMF’s projections, was too ambitious. After 

some external factors that were out of Zambia’s control (such as food an

fuel price increases) caused the country’s inflation rate to accelerate to 

16.6 percent at the end of 2008, IMF staff and Zambian officials deemed 

the initial inflation rate target to be infeasible within the specified time 

frame. During the IMF’s June 2009 review, the inflation rate target was 

revised to 10 percent by the end of 20

or 

ding 

nd 

am’s 

d 

09, with a goal to further reduce the 

inflation rate to single digits in 2010. 

ed 

at 

ntry 

sustainable debt 

levels if the government does not spend effectively. 

f 

hip 

cks 

Have Slowed Progress 

Significant elements of Zambia’s negotiations with IMF staff have center

on fiscal policy and the trade-offs between increasing priority spending 

and reducing excessive debt. IMF staff and Zambian officials stated that 

they discussed policy options, such as the extent to which the government 

can undertake additional spending and what recourse Zambia has without

borrowing to finance the additional spending. Zambian officials said th

they would prefer to use greater deficit spending to stimulate growth, 

particularly to address the impact of the economic crisis. However, IMF 

staff suggested restraint and reform to guard against wasteful spending 

and maintain macroeconomic stability. According to IMF staff, the cou

faces the ongoing risk of returning to its previous un

In June 2009, the IMF reported that Zambia’s program was initially broadly

on track, but slippages occurred later mainly due to three factors that had 

an adverse impact on the economy. First, rising world food and fuel prices 

early in 2008 pushed inflation to 16.6 percent, above the program target o

7 percent for the end of 2008. Second, a transition in political leaders

Program Was Broadly on 

Track, but External Sho

Page 26 GAO-10-44 International Monetary Fund
 

delayed decisions on the budget and structural measures central to 

Zambia’s economic program. Finally, the global economic crisis negatively 

affected the economy and exacerbated poverty, most directly through 

precipitous fall in the price of copper, a commodity on which Zambia 

overwhelmingly relies for earnings. The IMF review noted that copper 

prices have declined by about two-thirds since they peaked in mid-2008

Export proceeds, government revenue, and capital inflows have been 

reduced as a result. The slump in copper prices will inevitably have a 

detrimental effect on Zambia’s economic prospects in view of the mining 

sector’s central role in the economy. As a result of these shocks, Zambia’s 

real GDP is proj

the 

. 

ected to slow down, and its balance of payments position 

has weakened. 

l 

 and 

ts 

strategy to help ensure that the amount of public debt remains sustainable. 

IMF staff noted that Zambian officials have responded appropriately to 

these external shocks. For example, the IMF found that Zambia’s fisca

policy had struck the right balance between maintaining high-priority 

infrastructure spending to promote medium-term economic growth

safeguarding short-term macroeconomic stability by scaling back 

investment and recurrent spending. IMF officials noted that spending cu

have not reduced priority social spending. Furthermore, IMF staff said

Zambia’s public debt sustainability outlook is favorable. Specifically, 

Zambian officials have adopted a new public debt management policy and 

Page 27 GAO-10-44 International Monetary Fund
 

Hungary’s Program 

Focuses on Reducing Debt 

and Expenditures 

Figure 6: Hungary’s Country Background 

Sources: IMF and CIA World Factbook 2009.

Hungary: Country background

Population: 9,905,596

Estimated 2009 GDP decline: -6.7%

Currency: Forint

SLOVAKIA

AUSTRIA

CROATIA

UKRAINE

SLOVENIA

SERBIA

ROMANIA

Pécs

Dunaújváros

Debrecen

Nyìregyháza

Miskolc

Kékes

Kecshemét

Sopron Gyõr

Szombethely

Szeged

Székesfehévár

BUDAPEST

Balaton

Tisza

Danube

Danube

In fall 2008, Hungary’s government secured financing from the IMF and 

other creditors due to a rising risk of default and unsustainable debt. 

Hungary was among the first emerging market countries to suffer from the 

fallout of the global financial crisis. As financial difficulties in advanced 

economies led to a decline in global liquidity and an increase in investors’ 

concern about the risk of their investments, investors increasingly started 

differentiating among emerging markets. Hungary’s high debt levels 

negatively affected investor interest in its assets. Hungary experienced an 

earlier short episode of financial stress in March 2008, then its financing 

conditions deteriorated sharply in mid-October 2008. 

Hungary Risked Defaulting on 

Its Debt Payments 

Page 28 GAO-10-44 International Monetary Fund
 

Prior to the crisis, Hungary’s large fiscal deficits led to rising government 

debt. The general government deficit averaged more than 8 percent of 

GDP from 2002 to 2006. As a result, public debt rose to about 75 percent of 

GDP in 2008, the highest level of similar countries in Eastern and Central 

Europe, according to the IMF. 

With easy access to foreign currencies, foreign-owned and Hungarian 

banks made domestic loans in foreign currencies, which carried lower 

interest rates attractive to Hungarian borrowers. The rise in such lending 

eventually resulted in about two-thirds of the lending to Hungarian 

households and corporations being denominated in foreign currency, 

according to the IMF. The risk of such loans is that a reduction in the 

value of Hungary’s currency, the forint, makes loans more expensive for 

borrowers to repay. In March 2009, the currency reached an all time low 

relative to the euro, according to the IMF. In the 5 months between 

October 2008 and March 2009, the forint depreciated by 26 percent against 

the euro.24 This reduction stressed borrowers and translated into credit 

risk for banks that faced difficulty collecting loans. 

To address the increasing risks, the initial objectives of Hungary’s IMFsupported program focused on restoring investor confidence and reducing 

government expenditures. Figure 7 shows elements of the program, 

including its overall objectives and the policies, targets, and conditions 

intended to help achieve these objectives. 

 

24Foreign exchange data obtained from Thomson Reuters Datastream, a large financial 

statistical database. 

Page 29 GAO-10-44 International Monetary Fund
 

Figure 7: Elements of Hungary’s IMF-Supported Program 

Source: GAO analysis of IMF documents.

Fiscal Monetary

Macroeconomic 

policies, targets, and

conditions

• Target: Keep 

inflation in target 

range of 2 to 6 percent

• Condition: Provide bank 

support package

• Condition: Strengthen 

bank supervision and 

regulation

External Structural reform

$15.7 billion Stand-By Arrangement, in conjunction with $9.4 billion support from the 

European Union and other creditors, approved November 2008

Objectives are to 

• Improve long-term fiscal sustainability

• Maintain adequate capitalization of banks

• Underpin confidence

• Target: Aim for budget 

deficit of 2.5 percent

• Condition: Reduce 

government expenditure 

by 2 percent from 2008

• Condition: Limit 

government borrowing

• Condition: Passage of a

fiscal responsibility law

• Condition: Increase 

foreign exchange 

reserves over the 

medium term

Hungary

Note: Program amount was the approximate U.S. dollar amount at the time of program approval. 

IMF and Hungarian authorities generally agree on the elements of the IMFsupported program, but determining how to achieve the deficit target and 

support the banking system remain challenges. Country authorities stated 

that they broadly concur with the goals of the program and accept the 

IMF and Hungarian Officials 

Mainly Concur, but Spending 

and Banking Challenges 

Remain 

Page 30 GAO-10-44 International Monetary Fund
 

need for reform due to the crisis. In addition, they indicated that IMF staff 

are cooperative, helpful, and unobtrusive, providing latitude for the policy 

response to be defined and owned domestically. 

get, 

t 

or 

s 

ufficient 

spending cuts, fiscal consolidation efforts could be hampered. 

ing 

cy in 

d 

 

Stabilizing the economy requires the Hungarian government to restore 

investor confidence by decreasing the amount of government debt, mainly 

by reducing expenditures and achieving the deficit target, according to the 

IMF. While government officials said they plan to meet the deficit tar

they have yet to determine the necessary policy changes. Debate in 

Hungary now centers on spending decisions for 2009. Because taxes are 

already high to support a large government budget, increasing revenue by 

raising taxes is not considered a viable option, according to IMF staff.

While spending cuts are not expected to be popular with the general 

public, Hungarian officials acknowledge that the spending cuts consisten

with the IMF-supported program are necessary. However, IMF staff and 

Hungarian authorities have disagreed on the target for the budget deficit 

as a percentage of GDP, a key metric. In the beginning, IMF staff called f

a lower budget deficit than authorities said was reasonable. Later, their 

positions reversed, with IMF staff recommending a wider budget deficit 

target than the Hungarian authorities’ suggestion of 2.9 percent, a figure

that would allow them to stay within European Union guidelines.25 The 

latest target, 3.9 percent, was reached after IMF, European Union, and 

Hungarian officials agreed that deteriorating economic circumstance

merited a higher target. Moreover, if the recession lasts longer than 

expected or if the government officials are unable to agree on s

Hungarian officials and IMF staff reached agreement in addressing the 

domestically controversial area of regulatory oversight of the bank

system but expressed different views on how to proceed. Country 

authorities indicated that a debate continues on formulating a new 

approach to banking supervision. Currently, the powers of the agen

charge of that responsibility, the Hungarian Financial Supervisory 

Authority (HFSA), are limited, according to the agency’s officials. The 

HFSA must conduct on-site investigations, which take 45 to 60 days, an

can only recommend remedial action for individual banks. The HFSA

argues that it should be able to impose regulations in a more timely 

25Hungary aspires to join the group of European countries that share a common currency, 

the euro, in the future, which requires it to meet a set of criteria, including a budget deficit 

of less than 3 percent. 

Page 31 GAO-10-44 International Monetary Fund
 

fashion and on the entire sector. For example, it should be able to issue

binding regulations for the entire banking system, including on capital

levels. The HFSA also favors greater independence, suggesting that it 

report to Parliament rather than the Ministry of Finance, as it currently 

does. IMF staff support greater independence for the HFSA and seek to 

strengthen and integrate weak and fragmented segments of the financial 

supervisory structure. IMF staff outlined details in a paper and provided 

technical assistance to explore options. The authorities have decide

support the HFSA as an independent agency with the right to issue 

regulations. However, implementing the change is sensitive an

d to 

d requires 

political support that may or may not materialize. 

nt 

e 

l base 

e 

n a 

void. 

ogram policies remains essential to 

strengthen macroeconomic stability. 

Regarding the stability of banks, according to Hungarian authorities, 

initially IMF staff were concerned that banks did not have sufficie

capital and could be at risk of insolvency or collapse. As a result, 

according to authorities, IMF staff argued for a preemptive bank 

recapitalization that would provide additional capital to key Hungarian 

banks. While IMF staff stated that preemptive recapitalization was not th

intention, banks were uneasy about the potential of greater government 

involvement because recapitalization would occur through a capita

enhancement fund established with government funds that would

purchase ownership shares of the banks. Although the IMF held 

discussions with authorities to dispel concerns, Hungarian authorities 

disagreed with the idea of preemptive capitalization, indicating that the 

banks were healthy and well-capitalized. In addition, one bank executiv

expressed concerns that preemptively and massively recapitalizing the

banking system would be overly cautious and potentially harmful. He 

added that it could be counterproductive because it would reduce return 

on equity for local Hungarian banks and may put foreign parent banks i

situation where they would be unable or unwilling to provide support, 

resulting in a banking collapse, the very outcome the IMF seeks to a

In its June 2009 review of the program, the IMF concluded that the 

banking sector was resilient during the early part of the year, but that the 

possible need for additional capital could not be ruled out. In September 

2009, the IMF completed its third review stating that, while policies are on 

track, continued implementation of pr

Page 32 GAO-10-44 International Monetary Fund
 

Iceland’s Program Focuses 

on Recapitalizing Banks 

and Stabilizing Currency 

Figure 8: Iceland’s Country Background 

Sources: IMF and CIA World Factbook 2009.

Iceland: Country background

Population: 306,694

Estimated 2009 GDP contraction: -9.6%

Currency: Króna

NORTH ATLANTIC

OCEAN

Greenland Sea

Arctic Circle

Höfin

Reyõisfjörõur

Seyõisfjörõur

Vstmannaeyjar

Selfoss

Su Heimaey rtsey

Keflavík

Hafnarfjörõur

Ísafjõrõur

Akureyri

Grimsey

REYKJAVÍK

Demark Strait

Hofsjõkull

Grundartangi

Langjõkull

Hvannadalshnúkur

Vatnajökull

Mýrdaisjõkull

Iceland’s struggle to address a severe banking crisis led it to seek financing 

from the IMF and other creditors in fall 2008. In the wake of international 

financial turmoil, Iceland’s economy faced a banking crisis of 

extraordinary proportions. Triggered by a loss of investor confidence and 

fuelled by the financial sector’s high debt and dependence on foreign 

financing, the crisis led to the collapse of Iceland’s three main banks, 

accounting for around 85 percent of the banking system. The economy 

continues to experience a deep recession and a dramatic surge in public 

sector debt, reflecting the unprecedented cost of restructuring the banking 

system. 

Iceland Is Struggling to Address 

a Severe Banking Crisis 

Page 33 GAO-10-44 International Monetary Fund
 

In Iceland, an oversized banking system developed that significantly 

outstripped the authorities’ ability to act as a lender of last resort when it 

ran into trouble. Banks increased their assets from slightly more than 100 

percent of GDP in 2004, after the privatization of the banking sector was 

completed, to close to 1,000 percent of GDP. Iceland was one of the first 

victims when declining investor confidence intensified in fall 2008 because 

investors realized that the banking system was too big relative to the 

economy’s size and thus started to pull assets out of Icelandic banks. 

Within a week, Iceland’s three primary banks collapsed, the króna’s value 

dropped by more than 70 percent, and the stock market lost more than 80 

percent of its value. 

To address its significant banking crisis and plummeting currency, 

Iceland’s government, in fall 2008, received a $2.1 billion IMF-supported 

program, which also depended on significant financing from other 

creditors. Figure 9 shows elements of the program, including its overall 

objectives and the policies, targets, and conditions intended to help 

achieve these objectives. 

Page 34 GAO-10-44 International Monetary Fund
 

Figure 9: Elements of Iceland’s IMF-Supported Program 

Source: GAO analysis of IMF documents.

Fiscal Monetary

Macroeconomic 

policies, targets, and

conditions

• Target: Raise 

interest rate to 

18 percent

• Condition: Recapitalize 

banks

• Condition: Assess

regulatory and 

supervisory framework

External Structural reform

$2.1 billion Stand-By Arrangement, in conjunction with $3.2 billion support from the 

Nordic bloc countries and other creditors, approved November 2008

Iceland

Objectives are to 

• Prevent further króna depreciation

• Develop a bank restructuring strategy

• Ensure medium-term fiscal sustainability

• Target: Aim for budget 

surplus of 3 to 4 percent 

by 2012

• Condition: Limit 

government borrowing 

and spending

• Condition: Build up 

foreign exchange 

reserves

• Condition: Phased 

reduction of capital 

controls

Note: Program amount was the approximate U.S. dollar amount at the time of program approval. 

In the short run, the IMF-supported program has been narrowly focused 

on stabilizing Iceland’s currency, the króna. Iceland has a significant 

amount of debt that is either denominated in foreign exchange or indexed 

to inflation. Therefore, when the króna depreciates, debt servicing 

becomes much more expensive, which would likely lead to a wave of 

Page 35 GAO-10-44 International Monetary Fund
 

defaults in the corporate and household sectors, further harming the 

economy. 

Country authorities said they generally endorse the IMF-supported 

program and recognize the need for fiscal austerity. They said they are 

fully committed to the program and acknowledge that economic reform 

and reduced government spending will be painful but necessary measures 

that must be taken to address the economic crisis. Government efforts are 

under way to generate more revenue through higher taxes and to decrease 

expenditures by freezing civil service wages and adjusting some social 

services. Authorities said stakeholders, including unions, politicians, and 

households, are involved in the dialogue on austerity, which is critical 

because any retrenchment will be difficult and unpopular. According to 

authorities, Iceland is a Nordic welfare state in which its citizens have 

come to expect a high standard of living and generous social benefits. 

However, due to the scale of the economic catastrophe, traditional 

assumptions may be challenged as the government cuts spending. 

Government Generally 

Endorses the Program, but 

Some Critical Issues Remain 

Regarding fiscal policy decisions, country authorities indicated that IMF 

staff provide only broad direction and do not get involved in the details, 

unless asked to provide expertise or input on a specific measure. For 

example, IMF staff have not recommended cuts in certain government 

transfers, such as unemployment or parental leave benefits, or stressed 

that specific taxes be raised. Although budget choices and priorities are 

left to the government, IMF staff emphasize the need for changes that are 

durable over time and that will lead to a long-term improvement in the 

fiscal position. In contrast to the perception that the IMF always imposes 

fiscal restraint, Iceland’s program was designed to provide an increase in 

the budget deficit initially to mitigate the macroeconomic shock and then 

to turn the focus to gradually reducing the deficit over a period of time. 

Country authorities also stated that relations with IMF staff generally are 

cooperative, and negotiations involve a fair amount of give and take. In 

addition, they said that IMF staff have been helpful overall, particularly 

regarding fiscal and monetary policy, surveillance, and technical 

assistance. Moreover, authorities said they own the program and take 

responsibility for the crisis and the steps that must be taken to resolve it. 

They acknowledged that asking for IMF support was initially highly 

controversial, and many Icelandic citizens and some members of 

Parliament still do not want the government to implement the program. 

Government authorities and IMF staff expressed different views on how to 

resolve continuing interest rate, capital controls, and banking issues. 

Page 36 GAO-10-44 International Monetary Fund
 

Authorities prefer earlier interest rate reductions than IMF staff suggest. 

Although Iceland’s interest rate is high by international standards, IMF 

staff said the higher rate is necessary to stabilize the króna and is normal 

policy in the context of a currency crisis. However, a high interest rate is a 

drag on the domestic economy because the elevated cost of domestic 

credit hurts some companies and households. Authorities argue that the 

interest rate should be reduced to relieve pressure on residents struggling 

to make payments on home mortgages and business loans. IMF staff 

caution against reducing the interest rate too quickly due to the risk that 

such action may lead to renewed currency depreciation, which would 

increase the cost of the large stock of Iceland’s foreign currency debt and 

could cripple recovery prospects. However, authorities contend that many 

residents are already facing bankruptcy and question whether a high 

interest rate does in fact help stabilize the króna. They suggest that 

interest rate reductions so far have not resulted in significant currency 

depreciation. Although IMF staff have not questioned the need to lower 

rates eventually, they differ with the authorities on how quickly the 

interest rate should be lowered. IMF expressed concern that if interest 

rates come down too far too fast, Iceland may see excessive depreciation 

in the exchange rate, which would be difficult to reverse. IMF staff have 

warned that the current level of uncertainty necessitates a slow and 

cautious approach. 

Icelandic authorities imposed capital controls to restrict the movement of 

financial assets between countries in October 2008 and maintained them 

as part of the IMF-supported program approved in November 2008. In 

addition, Icelandic authorities acknowledged that the controls were 

necessary to stabilize the economy, at the time, due to the crisis but view 

them as a drastic measure and favor loosening them as soon as possible. 

Like a high interest rate, capital controls help limit the outflow of money 

and reduce downward pressure on the króna. Icelandic authorities view 

the combination of high interest rates and capital controls as redundant— 

a “belt and suspenders” approach. In addition, imposing capital controls 

was a shock to both the domestic and external sectors. Moreover, capital 

controls created dual exchange rates, one officially sanctioned by the 

Central Bank, and one determined by market forces off-shore. This 

enabled foreign importers of Icelandic goods to buy króna more cheaply in 

currency markets abroad, weakening the system. As a result, authorities 

created a new rule to stop the practice. International investors, traders, 

and business people continue to try to identify loopholes and workarounds, so efforts to update and revise the capital controls structure 

continue. 

Page 37 GAO-10-44 International Monetary Fund
 

Discussion of lifting capital controls is ongoing, but the details of exactly 

when and how remain controversial. Bank industry representatives we 

spoke with expressed frustration with capital controls, criticizing them as 

a harsh measure. Authorities prefer to loosen capital controls as soon as 

possible and assert that gradual removal of the controls is an important 

step toward normalizing economic conditions. Icelandic businesses view 

access to capital markets, international funding, and investments as one of 

the main preconditions for economic recovery. Both authorities and IMF 

staff envision a gradual lifting of capital controls, but only when the 

conditions are right. The concern is that billions of dollars worth of krónadenominated bonds, amounting to about 60 percent of GDP, are held by 

foreigners. Allowing sudden repatriation of those funds could lead to a 

massive outflow and currency depreciation. Therefore, IMF staff caution 

that confidence must be restored through fiscal consolidation and banking 

sector reform before phasing out capital controls. 

Differences also remain on a critical banking issue, particularly who will 

bear the losses related to certain foreign obligations. Iceland’s collapsed 

banks had several overseas branches and subsidiaries, mainly in other 

European countries. For example, “Icesave” is a vehicle in which 

residents of the United Kingdom, Denmark, and other countries 

deposited billions of dollars worth of savings. When Iceland’s banks 

failed, money to cover these deposits disappeared. Opinion in Iceland 

about whether and how to ensure the value of the accounts is divided. 

Critics argue that Icelandic citizens should not have to bear the 

enormous cost of mistakes made by a few private bankers. However, two 

IMF Board members, with a deep stake in the issue, argued that Icesave 

deposits must be honored. While this was not an explicit condition of the 

IMF-supported program, resolution of the Icesave issue was linked to the 

provision of $2.5 billion in support from a bloc of Nordic countries,26 a 

source of funding critical to, and in addition to, financing provided by the 

IMF-supported program. 

Originally scheduled for completion in early 2009, the first review was 

delayed, in part to provide more time to address banking issues, and was 

completed in October 2009. Following the delay in completing the first 

review, the IMF Board granted the Icelandic authorities’ request to extend 

the program by 6 months (to May 2011), to allow time to achieve 

objectives that will take longer than expected. The IMF review noted that, 

 

26The countries included Norway, Denmark, Finland, and Sweden. 

Page 38 GAO-10-44 International Monetary Fund
 

in the context of Iceland’s financial crisis, Iceland’s economy has shown 

some positive signs. For example, according to the IMF review, inflation 

has decreased; the program’s main objective, stabilizing the króna, has 

been met; the financial sector restructuring objective was achieved; and 

external financing has been secured. 

For low-income countries, empirical evidence suggests inflation is 

detrimental to economic growth after it exceeds a critical threshold, which 

is broadly consistent with the inflation targets included in the IMFsupported programs we reviewed. Similarly, for middle- and high-income 

countries, the academic literature identifies weaknesses in 

macroeconomic policies that often precede economic crises that are 

consistent with the policies in the IMF-supported programs we reviewed. 

Macroeconomic 

Policies in IMFSupported Programs 

Are Broadly 

Consistent with 

Findings of Academic 

Literature 

Empirical Evidence 

Evaluating the Complex 

Relationship between 

Inflation and Growth Is 

Broadly Consistent with 

IMF-Supported Programs 

in Low-Income Countries 

Inflation targets are a prominent feature of IMF-supported programs in 

low-income countries, but there has been considerable debate about 

appropriate targets for these countries. Some believe that the IMF may 

have gone beyond the existing empirical evidence in targeting very low 

inflation, potentially compromising economic growth. Although the 

precise relationship between inflation and economic growth in lowincome countries remains uncertain, the empirical literature over the past 

10 years has reached consensus about some aspects of this complex 

relationship. For example, there is general agreement about the following 

in low-income countries: 

Empirical Research Suggests a 

Complex Relationship between 

Inflation and Growth; Inflation 

Harms Growth above a Critical 

Threshold 

Page 39 GAO-10-44 International Monetary Fund
 

• The relationship between inflation and growth varies depending on the 

level of inflation and potentially on other country-specific variables.27

• Inflation is detrimental to medium- and long-term economic growth after it 

exceeds a critical threshold, implying that inflation can compromise 

growth if it is “too high.” 

• Inflation does not negatively affect economic growth at low levels—in 

fact, the relationship can be positive for this limited range.28 Reducing 

inflation below this critical threshold produces no additional economic 

growth or may cause a country to sacrifice some long-term growth 

benefits. 

These findings are represented in figure 10, which provides an illustrative 

summary of the impact of rising inflation on economic growth in lowincome countries. The central finding from the literature is that 

relationship is nonlinear with a critical point (point 1) where the 

relationship between inflation and growth changes significantly. 

 

27In technical terms, this means the relationship has been found to be nonlinear. This 

implies that the trade-off between higher inflation and lower economic growth—or the 

marginal growth costs of inflation—can differ as inflation rises. 

28Theoretically, inflation can positively and negatively affect growth through various 

channels. For example, high rates of inflation reduce the value of savings and distort price 

signals, interfering with the efficient allocation of resources and the functioning of the 

financial system. On the other hand, at low levels, inflation can help foster capital 

accumulation, contribute to labor and product market flexibility, and make an economy 

less vulnerable to prolonged recessions. 

Page 40 GAO-10-44 International Monetary Fund
 

Figure 10: Relationship between Inflation and Economic Growth in Low-Income 

Countries as Described in Empirical Literature 

Note: Although based on the literature, the relationship depicted here should not be considered 

definitive. 

a

Inflation* represents the rate of inflation beyond which inflation is harmful to growth. Estimates for 

this critical threshold rate range from 3 to 18 percent for low-income countries in the empirical 

literature. 

To the left of point 1 in figure 10, inflation does not harm economic growth 

and, in most cases, a positive relationship is established.29 Beyond point 1, 

countries face a trade-off between the short-term cost associated with 

lowering inflation to achieve higher medium- and long-term growth and 

the cost of accepting higher inflation and therefore lower future growth. 

Anti-inflationary policies in the region left of point 1 can be 

counterproductive since the potential costs of reducing inflation are not 

offset by increases in economic growth or, at worst, can be compounded 

by declines in long-term growth rates.30 However, as inflation rises and the 

Inflation* 0 a

Inflation level (Percentage)

As inflation increases, 

the negative impact on 

growth can increase 

and/or decrease

Inflation 

does

not 

harm 

growth

Beyond 

this

critical 

point, the 

relationship 

between 

inflation 

and GDP 

growth 

becomes

negative

Hyperinflation

2

1

3

4

GDP growth (Percentage)

Source: GAO analysis of empirical research on inflation and growth in lower income countries.

 

29While the relationship is found to be positive, in most cases it is also statistically 

insignificant. 

30IMF and other researchers suggest a need for caution in setting very low inflation targets 

in low-income countries. 

Page 41 GAO-10-44 International Monetary Fund
 

critical threshold is breached, the negative effects of inflation surface. 

Beyond this point, any increases in the inflation rate result in additional 

declines in economic growth. As points 2 and 3 show, the marginal costs 

to long-term growth can either increase or decrease as inflation rises, 

although empirical research does not reach a consensus as to whether the 

relationship changes for moderate inflation rates. As a country approaches 

hyperinflation (point 4), it likely faces a complete breakdown in economic 

functioning. 

However, examining the inflation-growth relationship under these 

conditions generally goes beyond the scope of the literature we 

reviewed.31 Earlier academic literature raised doubts about whether 

moderate to high inflation was costly to economic growth, but recent 

literature suggests that the cost of inflation was understated because 

researchers failed to acknowledge the complex, or nonlinear, natur

relationship between inflation and econom

e of the 

ic growth. 

 

Although not definitive, the empirical literature supports the focus of IMFsupported programs on containing inflation in low-income countries. 

Excluding those with countries in currency unions, or with currency 

boards, IMF-supported programs in low-income countries consistently 

target inflation in the 5 to 10 percent range.32 The 31 IMF-supported 

programs in low-income countries, as of July 2009, are designed to help 

the countries achieve and maintain macroeconomic and financial stability, 

including targeting single-digit inflation to avoid the risk that rising prices 

pose to economic growth. According to IMF documents, inflation above 10 

percent is generally considered harmful to medium-term growth, while 

targeting inflation below 5 percent may not be appropriate given the 

potential benefits of modest inflation on product and labor markets. Of the 

31 IMF-supported programs, the 20 programs that did not involve 

countries participating in currency unions all targeted single-digit inflation 

at no less than 5 percent (see table 3). In some cases, we found shorterterm inflation targets above 10 percent. For example, Sao Tome and 

Principe, and Guinea both have short-term targets in low double digits as 

Current IMF-Supported 

Programs Generally Target 

Single-Digit Inflation That Is 

within the Bounds of the 

Existing Empirical Estimates 

31Given that hyperinflation is clearly detrimental to economic growth, the literature we 

reviewed focused on the effects of moderate to high inflation. 

32A currency union is a group of countries that adopt a single currency and a uniform 

monetary policy. In the case of the currency unions discussed in this report, the unions also 

peg the common currency to the euro or the U.S. dollar. A currency board is a monetary 

arrangement that pegs the currency of a country to a more widely used and dominant 

currency and typically backs all currency in circulation with international reserves. 

Page 42 GAO-10-44 International Monetary Fund
 

part of the longer-term objective of gradually reducing inflation to the 

single digits. 

The 11 other countries with IMF-supported programs participate in 

common currency unions (or operate a currency board) with inflation 

targets of 3 percent or lower that are set indirectly by the choice of 

exchange rate arrangements, not the IMF.33 Inflation targets in the 

common currency unions in table 3 are driven by the decision to maintain 

a fixed exchange rate that requires member countries to keep the range of 

inflation close to inflation levels in the developed country or area to which 

the common currency is fixed.34 Almost all of the countries included in the 

lower half of table 3 belong to currency unions that peg their currency to 

either the euro or, in the case of Grenada, the U.S. dollar. The only 

exception is Djibouti, which is not part of a currency union but operates a 

currency board tied to the U.S. dollar. As a result, the inflation targets for 

these countries are largely independent of IMF inflation policy and tend to 

approximate the inflationary experiences of the euro area or the United 

States. 

Table 3: Inflation Targets in IMF-Supported Programs for 31 Low-Income Countries, 

as of July 2009 

Low-income country 

Medium-term 

inflation target 

Type of IMF 

arrangement

Afghanistan 6% PRGF

Burundi 6% PRGF

Gambia, The 5% PRGF

Guinea 5% PRGF

Haiti 7% PRGF

Kyrgyz Republic Single digit ESF

Liberia Single digit PRGF

Madagascar Under 10% PRGF

 

33For example, the West African Economic and Monetary Union pact sets a 3 percent 

inflation threshold as a convergence requirement for participating countries. The Central 

African Economic and Monetary Union pact has a similar convergence criterion. Grenada 

is part of the East Caribbean Currency Union, which pegs to the U.S. dollar. Djibouti 

operates a currency board tied to the U.S. dollar. 

34If inflation were allowed to deviate significantly from the levels in the developed country 

or area, the real exchange rate would become increasingly misaligned and undermine the 

goals of the fixed-rate currency system. 

Page 43 GAO-10-44 International Monetary Fund
 

Low-income country 

Medium-term 

inflation target 

Type of IMF 

arrangement

Malawi 5% ESF

Mauritania 5% PRGF

Mongolia 9% SBA

Mozambique Single digit (7%) ESF

Nicaragua 7% PRGF

Pakistan 5% SBA

Rwanda Single digit (7%) PRGF

Sao Tome and Principe Single digit PRGF

Sierra Leone Single digit PRGF

Tajikistan, Republic of Single digit PRGF

Tanzania 5% ESF

Zambia 5% PRGF

Currency unions (or currency board) 

Benin Below 3% PRGF

Burkina Faso 3% PRGF

Central African Republic Below 3% PRGF

Congo, Republic of 3% PRGF

Cote d’Ivoire Below 3% PRGF

Djibouti 3%-3.5% PRGF

Grenada Below 3% PRGF

Mali Below 3% PRGF

Niger Below 3% PRGF

Senegal Below 3% ESF

Togo Below 3% PRGF

Sources: GAO analysis of recipient countries’ letters of intent and IMF’s Article IV reports. 

Note: For Mauritania, Mongolia, and Grenada, no clear target was articulated, and therefore we have 

taken the long-term inflation projection for the country as the implicit target. 

The empirical literature we reviewed, consisting of nine studies, provides 

estimates of the inflation rate (ranging from 3 to 18 percent) beyond which 

inflation hampers long-term growth for low-income countries. Inflation 

targets in IMF-supported programs, although at the lower end of the 3 to 

18 percent range, are generally consistent with estimates in empirical 

studies. (See fig. 11.) 

Inflation Targets in IMFSupported Programs Within the 

Bounds of the Existing 

Empirical Studies 

Page 44 GAO-10-44 International Monetary Fund
 

Figure 11: Inflation Targets in IMF-Supported Programs Are within the Estimates 

from Nine Studies 

Sources: GAO analysis of empirical research on inflation and growth in lower income countries and IMF documents.

Threshold inflation estimates from the empirical literature (Percentage)

Estimates from studies ranging from 5 to 12 percent

Estimates from studies outside the 5-12 percent range likely due to key methodological issues

or from an unpublished study completed in 2009

IMF

inflation 

targets in 

low-income 

countries

(5-10 percent)

0 246 8 10 12 14 16 18

Note: Threshold estimates indicate the inflation rate where growth is negatively and significantly 

affected by further increases in the inflation rate. Figure 11 only includes threshold rates of inflation 

that were estimated empirically using low-income, developing, or nonindustrial countries. 

Eliminating the lowest and two highest estimates produces an 

approximate range of 5 to 12 percent for the threshold, which is roughly 

consistent with the inflation targets of 5 to 10 percent in the 31 IMFsupported programs for low-income countries we reviewed.35 Across the 

studies, the estimated threshold is generally found to be higher for lowincome than for high-income economies, providing some support for 

inflation targets in IMF-supported programs that tolerate higher inflation 

in low-income countries. (The bibliography for inflation-growth literature 

contains a full listing of the studies.) While there is some disagreement on 

where the critical threshold lies, there is consensus that it is lower than 

the level suggested by some studies prior to 2000. These studies provided 

 

35Given the state of the literature, a 5 to 12 percent range is a reasonable interpretation of 

the literature since two of the three estimates outside the 5 to 12 percent range are likely 

due to methodological issues and the remaining estimate (17 percent) is from a June 2009 

study that addresses a number of the methodological issues in the existing literature but 

has not been peer reviewed. Of the published studies, one estimates a 3 percent threshold 

using a specification that is now used infrequently in the literature because it allows a few 

outliers to drive the results. The other study estimates a threshold of 15 to 18 percent using 

a simple nonlinear model that may not accurately estimate the threshold inflation rate. 

However, none of the studies should be interpreted as having identified the exact inflation 

level beyond which inflation hampers long-term growth, and this exercise is not meant to 

imply that literature is conclusive. 

Page 45 GAO-10-44 International Monetary Fund
 

some evidence that inflation did not significantly hurt economic growth 

until it reached the 20 to 40 percent range, but these findings have not 

proven robust for a number of reasons. Specifically, some of the threshold 

calculations were based on judgment rather than empirical estimation.36

The complexity of the relationship between inflation and economic growth 

uncovered by the literature indicates it may be inappropriate to set a 

uniform policy target applicable to all countries. The empirical literature 

illustrates that combining countries at different levels of development can 

produce unreliable results both in the estimating of the threshold in the 

inflation-growth relationship and the effect of low and high inflation on 

economic growth. This calls for flexibility in the implementing inflation 

targets in individual countries because the “growth-maximizing” rate of 

inflation might be expected to differ, at least somewhat, even across lowincome countries at various stages of development. For example, after 

increasing the sample of low-income countries, some researchers found 

that the estimated inflation threshold increased from 6 to 17 percent.37

Similarly, another study found no clear-cut threshold for developing 

countries and attributes this finding to the differences across countries 

grouped under the “developing” country label.38 One interpretation of 

these findings is that, even though the literature generally supports 

inflation targets in IMF-supported programs, the gains from a given 

reduction in inflation to single digits from somewhat higher levels might 

Flexibility in the Selection of an 

Inflation Target for a Particular 

Country Is Prudent 

 

36For example, two widely cited studies prior to 1999 impose thresholds ranging from 15 to 

40 percent. See Michael Bruno and William Easterly, “Inflation Crises and Long-Run 

Growth,” Journal of Monetary Economics 41 (1998); and Stanley Fischer, “The Role of 

Macroeconomic Factors in Growth,” Journal of Monetary Economics 32 (1993). To the 

contrary, the threshold models that dominate recent literature are designed to estimate 

inflation thresholds as opposed to imposing them. 

37See Stephanie Kremer, Alexander Bick, and Dieter Nautz, “Inflation and Growth: New 

Evidence from a Dynamic Panel Threshold Analysis,” Sonderforschungsbereich Discussion 

Paper 649, Humboldt University, Berlin, Germany (2009). 

38See A. Vaona and S. Schiavo, “Nonparametric and Semiparametric Evidence on the Longrun Effects of Inflation on Growth,” Economics Letters 94, no. 3 (2007). It is important to 

note that this study exploits techniques that have some positive methodological features 

but are extremely sensitive to outliers. 

Page 46 GAO-10-44 International Monetary Fund
 

Page 47 GAO-10-44 International Monetary Fund 

by the cost in some cases. As a result, the relationships and trade-offs 

should be carefully evaluated for each country.39

Moreover, the methodologies and the validity of the estimates vary across 

studies, and none should be viewed as definitive. Although recent 

empirical literature is informative and addresses a number of 

methodological issues that plagued earlier studies, other limitations 

remain. Important limitations of the literature analyzing the relationship 

between inflation and economic growth include (1) potential biases due to 

the omission of important variables; (2) biases resulting from the failure of 

some studies to address the fact that, in addition to inflation impacting 

economic growth, economic growth may also affect inflation; (3) issues 

with small samples and outlier effects; and (4) technical issues related to 

the modeling procedures employed. Moreover, the negative effects on the 

economy may extend beyond the effects on economic growth. As a result, 

studies that investigate only the impact of inflation on economic growth 

may understate the total negative effects of inflation. Finally, there are 

relatively few systematic analyses of the critical threshold beyond which 

inflation hampers long-term growth; therefore, there is likely to be 

continued disagreement on where the threshold lies. 

The academic literature identifies weaknesses in macroeconomic policies 

preceding economic crises. We focused on this aspect of the academic 

literature because, as previously noted, middle- and high- income 

countries have sought significant IMF financial assistance due to stress 

associated with the global financial crisis. Empirical academic literature 

 

39Even if inflation above 10 percent is believed to be harmful to long-term growth in a 

country, there are still trade-offs to be considered for negotiation. For example, if there is 

only a small benefit to moving from 12 percent to 9 percent inflation, it may not justify the 

potential cost of disinflation. 

Academic Literature 

Identifies Weaknesses in 

Macroeconomic Policies 

That Often Precede 

Economic Crises, 

Consistent with IMFsupported Programs 

Academic Literature Identifies 

Weaknesses in Macroeconomic 

Policies Preceding Currency, 

Banking, and Debt Crises 
 

we reviewed, focused on anticipating and explaining economic crises, 

attempts to identify leading indicators of crises, including weaknesses in 

macroeconomic policies. This body of research is known as the crisis 

“early warning system” literature. Economic crises include in particular 

(1) currency crises, which involve a speculative attack or large 

depreciation of a currency; (2) banking crises, which involve the 

widespread failure of critical financial institutions; and (3) sovereign debt 

crises, which involve the default or near default of a government on its 

debt obligations. Economic crises can involve one or more of the types of 

crises described above and often precipitate moderate to severe 

recessions involving substantial losses of jobs, income, and production. 

By analyzing a broad history of crises—crises that have occurred in 

dozens of countries over the last several decades—researchers have tried 

to identify common precursors of crises that may provide “early warning” 

that a crisis is coming. We reviewed 19 published or widely cited studies, 

identified in economic research databases, or in citations of other studies, 

written since 1998.40 For each study, we documented the variables that 

were predictive of an economic crisis. Across the studies, several 

macroeconomic policy variables (and many variables unrelated to 

macroeconomic policy) consistently predict currency, banking, or debt 

crises. These variables suggest a number of specific policy weaknesses 

that make countries more vulnerable to crises, especially high inflation, 

high public indebtedness, and an overvalued currency. These 

vulnerabilities can represent unsustainable monetary, fiscal, and exchange 

rate policies, such as (1) high money growth, inconsistent with the 

government’s commitment to a fixed exchange rate or broad exchange 

rate stability; (2) large and persistent budget deficits that significantly 

increase the stock of public debt and jeopardize the ability of the 

government to meet its obligations; or (3) a significant inflow of foreign 

capital without the central bank accumulating a buffer of international 

currency to guard against sudden capital outflows. Table 4 contains the 

specific macroeconomic policy variables identified by the literature and 

the nature of the related vulnerabilities. 

 

40See appendix I for our complete literature review methodology and the bibliography for 

crisis “early warning system” literature for a list of the studies reviewed. 

Page 48 GAO-10-44 International Monetary Fund
 

Table 4: Indicators of Crisis Vulnerability from the Academic Literature 

Indicator Nature of vulnerability 

Real exchange rate A high real exchange rate relative to historical averages 

indicates that the currency may be overvalued and the 

economy uncompetitive. 

M2/international reservesaLow international reserves relative to the supply of 

money indicates that the currency has only limited 

backing. 

Inflation High inflation can indicate monetizing the budget deficit 

or monetary policy inconsistent with the exchange rate, 

which may trigger a loss of confidence in the currency 

Short-term debt/international 

reserves 

Low international reserves relative to short-term debt 

indicates that the central bank only has limited capacity 

to mitigate the effects of rapid capital flight. 

Measures of public 

indebtednessb

High public debt indicates that fiscal policy may be 

unsustainable and that investors may lose confidence in 

the ability of the government to meet its obligations. 

Source: GAO analysis of academic literature. 

a

M2 is a measure of the money supply that includes currency and bank deposits. 

b

Measures of public indebtedness in the literature include the budget deficit and external debt/GDP. 

Several factors unrelated to macroeconomic policy also often precede 

crises, including external events (e.g., a crisis in a neighboring country), 

private sector behavior (e.g., significant private sector borrowing), and 

institutional or political factors (e.g., weak law enforcement). Crises are 

not singularly caused by unsustainable macroeconomic policies; there are 

often other factors or triggers that increase the likelihood of a crisis. 

Nevertheless, crises do not strike at random, poor macroeconomic policy 

management can greatly increase a country’s vulnerability to crisis. 

While the crisis “early warning system” literature can inform the 

development of macroeconomic policy, it has limitations and provides 

Page 49 GAO-10-44 International Monetary Fund
 

qualitative rather than precise quantitative guidance.41 Conceptually, the 

literature identifies certain costs associated with loose macroeconomic 

policies that are important considerations to include in the full accounting 

of the costs and benefits associated with macroeconomic policies, but 

these are not the only considerations. Furthermore, the literature has a 

number of methodological limitations. Specific limitations that we 

identified during our review of the crisis literature include selecting a 

sample of countries in a way that overstates the predictability of crises, 

analytical approaches that fail to account for multiple causes of economic 

crises, and crisis definitions that may not correspond to severe economic 

consequences (e.g., the inclusion of speculative attacks that did not result 

in actual currency depreciation in the definition of currency crises). The 

limitations we identified may introduce biases into estimates of policy 

effects in studies where they are present. The exclusion of noncrisis 

countries in some analyses may, for example, overstate the level of 

international reserves necessary to guard against crises in some countries. 

These limitations suggest caution in interpreting the precise numerical 

results of the literature. 

The central macroeconomic policy weaknesses identified by the literature 

closely correspond to the macroeconomic policy areas upon which IMFsupported SBA programs focus. The IMF-supported programs in middleand high-income countries we reviewed have macroeconomic program 

requirements (generally QPCs) designed to limit money growth and 

inflation, limit public debt, and accumulate international reserves. 

Similarly, high debt, high inflation, and low international reserves are 

important macroeconomic policy weaknesses that make a country more 

Macroeconomic Policies Are 

Focused on Critical 

Vulnerabilities in IMFSupported Programs in Middleand High-Income Countries 

 

41The lack of consensus in the crisis “early warning system” literature as to the appropriate 

way to estimate the effects of policies (and other variables) implies that it is difficult to 

obtain precise quantitative guidance from researchers’ estimates of policy effects. This lack 

of consensus is reflected in the two different methods, which we denote as (1) the signals 

approach and (2) the marginal approach, which researchers have used to assess potential 

leading indicators of economic crises. The signals approach assumes that there are 

thresholds beyond which relevant indicators “signal” that a crisis is more likely. The 

marginal approach assumes that changes in relevant indicators increase or decrease the 

likelihood of a crisis, irrelevant of particular thresholds. As an example of the divergent 

predictions from the two approaches, consider the real exchange rate. As discussed above, 

a higher real exchange rate can indicate an overvalued currency, an uncompetitive 

economy, and an increased likelihood of crisis. According to one study using a marginal 

approach, a 10 percent increase in the exchange rate would increase the likelihood of a 

currency crisis by approximately 3.6 percentage points. According to a study using a 

signals approach, the real exchange rate signals that a crisis is likely only when its value 

exceeds the 90th percentile. 

Page 50 GAO-10-44 International Monetary Fund
 

vulnerable to crises.42 We reviewed certain quantitative macroeconomic 

program requirements in all SBA programs in which governments have 

drawn IMF funds, which included 13 countries for which program 

documents were available as of July 2009.43 Because SBA programs are for 

countries considered to have temporary balance-of-payments needs, these 

countries are generally middle- or high-income countries that have been 

adversely affected by the global financial crisis. In each of the 13 

programs, we found that quantitative program requirements supported the 

broad goals of (1) limiting money growth and inflation, (2) limiting public 

debt, and (3) accumulating international reserves.44

To support the broad goals identified above, IMF-supported programs 

often used a variety of specific policy variables. To limit money growth 

and inflation, SBA programs featured QPCs and other program 

requirements for a number of macroeconomic policies. These included 

ceilings on the net domestic assets of the central bank, inflation 

consultations, and ceilings on the amount of credit the central bank may 

extend to the government or the private sector.45 To limit public debt, 11 of 

the 13 SBA programs had QPCs for the government’s budget deficit, and 

some had restrictions on the government issuing new external debt, and 

short-term external debt in particular.46 To accumulate international 

reserves, 12 of the 13 SBA programs had floors for either net international 

reserves or net foreign assets.47 With respect to our case study countries, 

 

42Another leading indicator of crises, an overvalued currency, does not correspond to 

common quantitative macroeconomic program requirements in SBA programs. However, 

the crisis events that precipitate IMF-supported programs are likely to involve a significant 

depreciation of the currency. As a result, the likelihood of overvaluation to be present once 

a crisis ensues is diminished. 

43See appendix I for more information on our methodology. 

44The IMF-supported program in Bosnia-Herzegovina did not have a QPC or other program 

requirement to facilitate the accumulation of international reserves. However, BosniaHerzegovina operates under a currency board in which it must hold foreign exchange 

reserves not less than domestic currency in circulation, under domestic law. Maintaining 

this currency board is also a structural benchmark of the program, but not a performance 

criterion. 

45An inflation consultation is a program requirement that triggers a meeting with IMF staff 

or the IMF Board if inflation falls outside of certain bounds. 

46Short-term debt has a maturity of 1 year or less. 

47Net international reserves are a subset of net foreign assets. Net international reserves are 

the foreign exchange reserves of the central bank, less liabilities. Net foreign assets is a 

broader concept that includes the foreign currency assets and liabilities of the banking 

system. 

Page 51 GAO-10-44 International Monetary Fund
 

we have noted above that a large stock of public debt was a key factor 

driving the crisis in Hungary. In Iceland, the IMF noted in 2007 that the 

króna was overvalued by 15 to 25 percent, and inflation rose sharply 

before the banking crisis ensued. The focus of IMF-supported programs on 

the central policy weaknesses should assist countries in regaining investor 

confidence and addressing the underlying crisis vulnerabilities. 

The Department of the Treasury provided written comments on a draft of 

this report, which are reprinted in appendix III. Treasury stated that it fully 

concurs with our conclusions that IMF-supported programs are shaped by 

negotiations with local officials in the context of country circumstances. In 

addition, Treasury noted our finding that the underlying economic literature 

on growth, inflation, fiscal and external sustainability, and financial stability, 

drive IMF policy advice in lending programs. Treasury also emphasized that 

it encourages the IMF to work with low-income countries to increase 

spending in areas such as health and education. Furthermore, we received 

technical comments on a draft of this report from Treasury and the IMF, 

which we incorporated as appropriate. 

Agency Comments 

We are sending copies of this report to other congressional offices, 

Treasury, and the IMF.. The report also is available at no charge on the 

GAO Web site at http://www.gao.gov. 

If you or your staff have any questions about this report, please contact me 

at (202) 512-9601 or melitot@gao.gov. Contact points for our Offices of 

Congressional Relations and Public Affairs may be found on the last page 

of this report. Other contacts and major contributors are listed in 

appendix IV. 

Sincerely yours, 

Director, International Affairs and Trade 

Thomas Melito 

Page 52 GAO-10-44 International Monetary Fund
Appendix I: Scope and Methodology Appendix I: Scope and Methodology 

To examine the process for designing an International Monetary Fund 

(IMF)-supported program, we reviewed and analyzed IMF’s public 

documents and data. These documents include IMF Articles of Agreement; 

countries’ letters of intent; IMF consultation reports and assessments of 

country progress under IMF-supported programs, including the Article IV 

consultation reports; program design papers; strategy papers; policy 

documents; and IMF’s Independent Evaluation Office reports. We also met 

with officials representing the IMF and the U.S. Department of the 

Treasury (Treasury) in Washington, D.C., to discuss the process of 

designing of an IMF-supported program and the typical trade-offs 

associated with the program’s policy decisions. Specifically, we used IMF 

policy documents and countries’ letters of intent to identify the primary 

objectives and key targets of low- and middle- to high-income countries. 

We also reviewed the letters of intent provided to the IMF by countries 

receiving current IMF-supported financial programs, as well as updates of 

program reviews conducted by the IMF for these programs, available as of 

July 2009, to obtain examples of macroeconomic target variables, 

quantitative performance criteria, and structural reforms. We utilized 

interviews with IMF officials, as well as IMF policy papers, including IMF 

institute documents, to clarify and explain the process of designing an 

IMF-supported program. 

To examine the IMF-supported programs in recipient countries, we 

selected four case study countries—Hungary, Iceland, Liberia, and 

Zambia—and reviewed documents and interviewed officials regarding 

these countries’ IMF-supported programs. Our selection of these four 

countries include criteria to examine how IMF-supported programs may 

differ in low-, middle-, and high-income countries with geographic 

diversity that had relatively large amounts of IMF financing as of April 

2009. Our choice of countries was meant to be illustrative, not 

representative or generalizable to the population of IMF-supported 

programs. Documents we reviewed include the letters of intent provided 

to the IMF by these four countries; IMF reviews, reports, and press 

releases regarding these countries’ IMF-supported programs; and country 

background documents provided by U.S. embassies in these four 

countries. In addition, we interviewed IMF and Treasury officials in 

Washington, D.C., to discuss the context of the four recipient countries 

and the countries’ IMF-supported programs. In Hungary, Iceland, Liberia, 

and Zambia, we met with U.S. embassy officials, IMF staff, officials 

representing foreign governments, academics, and nongovernmental 

organizations to obtain their views about the IMF-supported programs. 

Page 53 GAO-10-44 International Monetary Fund 
Appendix I: Scope and Methodology 

To examine the extent to which the findings of empirical economic studies 

are consistent with the IMF’s macroeconomic policies, we reviewed IMF 

documents and empirical studies. Using published or widely cited 

empirical studies identified in economic research databases EconLit, 

Social Science Research Network, and Google Scholar, we identified key 

relationships between macroeconomic policies and economic growth and 

crises, and compared them with macroeconomic policies in IMFsupported programs. Specifically, we reviewed two parts of the academic 

literature relevant to the macroeconomic policy decisions in IMFsupported programs, namely the literature that links inflation with 

economic growth, and the crisis “early warning system” literature that 

identifies leading indicators of currency, banking, and debt crises. For the 

inflation and growth literature, we reviewed empirical studies isolating the 

threshold level of inflation explicitly for lower-income countries identified 

in economic research databases and published since 1999. Due to the lag 

between publication and submission, we also included working papers 

produced during the last 2 years. Although we found these studies to be 

reliable for the purposes of identifying the range of estimates and 

comparing them with targets in IMF-supported programs, their inclusion 

in this report does not imply that we deem them to be definitive. (The 

bibliography contains a full listing of the studies linking inflation with 

economic growth that we reviewed.) To determine the inflation targets in 

all 31 IMF-supported programs in low-income countries, as of July 2009, 

we reviewed countries’ letters of intent and IMF Article IV reports and 

recorded the target for each country. To ensure the data were collected 

consistently and accurately, each recorded target was independently 

reviewed and verified. In a few cases where no clear target was 

articulated, we used the long-term inflation projection for the country as 

the implicit target. For the crisis “early warning system” literature, we 

reviewed 19 published or widely cited studies, identified in economic 

research databases, or in citations of other studies, written since 1998. We 

chose 1998 as the starting year because of the large volume of research 

explaining or predicting economic crises that was performed after the 

Asian financial crisis. For each study, we documented the variables that 

were predictive of an economic crisis. Where possible, we used a 

conservative standard for identifying key predictor variables. Under the 

signals method, we selected only variables that had a noise-to-signal ratio 

(NTSR) of 0.5 or less (less than 1 indicates more signal than noise). Noise 

indicates an incorrect prediction while a signal indicates a correct 

prediction, so a NTSR of less than 1 implies more correct than incorrect 

predictions. Under traditional regression methods, we selected only 

variables whose coefficients had p-values less than 0.05. (Several studies 

we reviewed reported coefficients that were statistically significant at the 

Page 54 GAO-10-44 International Monetary Fund
Appendix I: Scope and Methodology 

10 percent level.) (The bibliography contains a full listing of studies in the 

“early warning system” literature that we reviewed.) Similar to our 

identification of inflation targets in IMF-supported programs in lowincome countries, we determined certain quantitative macroeconomic 

program requirements in all Stand-By Arrangements in which governments 

have drawn IMF funds, which included 13 countries for which program 

documents were available as of July 2009. We reviewed these countries’ 

letters of intent, determined and recorded the policies associated with the 

macroeconomic program requirements for each country, then 

independently verified that the requirements data were collected 

consistently and accurately. 

We conducted our work from November 2008 to November 2009 in 

accordance with all sections of GAO’s Quality Assurance Framework that 

are relevant to our objectives. The framework requires that we plan and 

perform the engagement to obtain sufficient and appropriate evidence to 

meet our stated objectives and to discuss any limitations in our work. We 

believe that the information and data obtained, and the analysis 

conducted, provide a reasonable basis for any findings and conclusions in 

this product. 

Page 55 GAO-10-44 International Monetary Fund
Appendix II: Countries Approved to Receive 

IMF Financial Arrangements as of Appendix II: Countries Approved to Receive August 31, 2009 

IMF Financial Arrangements as of 

August 31, 2009 

Table 5 shows the countries that have been approved to receive financial 

assistance from the IMF as of August 31, 2009. The recipient countries are 

categorized by type of IMF lending arrangement. 

Table 5: Countries Committed to IMF Financial Arrangements as of August 31, 2009 

Type of IMF lending arrangement 

Countries approved to receive 

funding 

Poverty Reduction and Growth Facility Afghanistan 

Burkina Faso 

Burundi 

Central African Republic 

Congo, Republic of 

Cote d’Ivoire 

Djibouti 

Gambia 

Ghana 

Grenada 

Guinea 

Haiti 

Liberia 

Mali 

Mauritania 

Nicaragua 

Niger 

Sao Tome and Principe 

Sierra Leone 

Tajikistan 

Togo 

Zambia 

Exogenous Shocks Facility Ethiopia 

Kyrgyz Republic 

Malawi 

Mozambique 

Senegal 

Tanzania 

Page 56 GAO-10-44 International Monetary Fund 
Appendix II: Countries Approved to Receive 

IMF Financial Arrangements as of 

August 31, 2009 

Type of IMF lending arrangement 

Countries approved to receive 

funding 

Stand-By Arrangement Armenia 

Belarus 

Bosnia and Herzegovina 

Costa Rica 

El Salvador 

Gabon 

Georgia 

Guatemala 

Hungary 

Iceland 

Latvia 

Mongolia 

Pakistan 

Romania 

Serbia 

Seychelles 

Sri Lanka 

Ukraine 

Flexible Credit Line Colombia 

Mexico 

Poland 

Source: IMF. 

Page 57 GAO-10-44 International Monetary Fund
Appendix III: Comme

of the Treasur

nts from the Department 

y 

Page 58 GAO-10-44 

Appendix III: Comments from the 

Department of the Treasury 

 International Monetary Fund 
Appendix IV: GAO Contact and Staff Appendix IV: GAO Contact and Staff Acknowledgments 

Acknowledgments 

Thomas Melito, (202) 512-9601, or melitot@gao.gov 

In addition to the individual named above, Cheryl Goodman, Assistant 

Director; Lawrance Evans, Assistant Director; Marc Castellano; Michael 

Hoffman; Victoria Lin; and Roberta G. Steinman made key contributions to 

this report. The team benefited from the expert advice and assistance of 

Lynn Cothern, Etana Finkler, Joel Grossman, and Mary Moutsos. 

GAO Contact 

Staff 

Acknowledgments 

Page 59 GAO-10-44 International Monetary Fund
Bibliography of Empirical Studies Reviewed in Bibliography of Empirical Studies Reviewed the Inflation-Growth Literature 

in the Inflation-Growth Literature 

To examine the relationship between economic growth and inflation in 

low-income countries, we reviewed the following academic articles. Our 

review of the literature included academic studies, using data from lowincome countries, published from 1999 to 2009. Due to the lag between 

publication and submission, we included working papers produced in the 

last 2 years. The studies indicated with an asterisk (*) provided empirical 

estimates of the threshold level of inflation for low-income, developing or 

nonindustrial countries that serve as the basis for figure 11 in the report. 

The list includes widely cited studies published prior to 1999, although 

they either combine low-income and high-income countries when 

estimating the threshold inflation rate or determine the threshold on the 

basis of judgment. 

Barro, Robert. “Inflation and Economic Growth,” Federal Reserve Bank of 

St. Louis Review 78 (1996). 

Bruno, Michael and William Easterly. “Inflation Crises and Long-Run 

Growth,” Journal of Monetary Economics 41 (1998). 

Bruno, Michael and William Easterly. “Inflation and Growth: In Search of a 

Stable Relationship,” Review of Federal Reserve Bank of St. Louis 78, no. 

3 (1996). 

*Burdekin, Richard C.K., Arthur T. Denzau, Manfred W. Keil, Thitithep 

Sitthiyot, and Thomas D. Willett, “When Does Inflation Hurt Economic 

Growth? Different Nonlinearities for Different Economies,” Journal of 

Macroeconomics 26 (2004). 

Fischer, Stanley. “The Role of Macroeconomic Factors in Growth,” 

Journal of Monetary Economics 32 (1993). 

Ghosh, Atish and Stephen Phillips. “Warning: Inflation May be Harmful to 

Your Growth,” IMF Staff Papers 45 (1998). 

*Gillman, Max, Mark Harris, and Laszlo Matyas. “Inflation and growth: 

explaining a negative effect,” Empirical Economics 29, no. 1 (2004). 

Gylfason, Thorvaldur and Tryggvi T. Herbertsson. “Does Inflation Matter 

for Growth?,” Japan and the World Economy 13 (2001). 

*Khan, Mohsin S. and Abdelhak S. Senhadji. “Threshold effects in the 

Relation Between Inflation and Growth,” IMF Staff Papers 48 (2001). 

Page 60 GAO-10-44 International Monetary Fund
Bibliography of Empirical Studies Reviewed in 

the Inflation-Growth Literature 

*Kochar, Kalpana and Sharmini Coorey. “Economic Growth: What Has 

Been Achieved So Far and How?”, in Hugh Bredenkamp and Susan 

Schadler (eds), Economic Adjustment and Reform in Low-Income 

Countries (Washington, D.C.: International Monetary Fund, 1999). 

*Kremer, Stephanie, Alexander Bick and Dieter Nautz, “Inflation and 

Growth: New Evidence from a Dynamic Panel Threshold Analysis,” 

Sonderforschungsbereich Discussion Paper 649, Humboldt University, 

Berlin, Germany (2009). 

*Kremer, Stephanie, Alexander Bick and Dieter Nautz, “Inflation and 

Growth: New Evidence from a Panel Data Threshold Analysis,” Goethe 

University Working Paper, Frankfurt (2008). 

*Pollin, Robert and Andong Zhu, “Inflation and Economic Growth: A 

Cross-Country Non-linear Analysis,” Journal of Post Keynesian 

Economics 28, no. 4 (2006). 

Sarel, Michael. “Nonlinear Effects of Inflation on Economic Growth,” IMF 

Staff Papers 43 (1996). 

*Sepehri, Ardeshir and Saeed Moshiri. “Inflation-Growth Profiles Across 

Countries: Evidence from Developing and Developed Countries,” 

International Review of Applied Economics 18, no. 2 (2004). 

*Vaona, A. and S. Schiavo, “Nonparametric and Semiparametric Evidence 

on the Long-run Effects of Inflation on Growth,” Economics Letters 94, 

no. 3 (2007). 

Page 61 GAO-10-44 International Monetary Fund
Bibliography of Empirical Studies Reviewed in Bibliography of Empirical Studies Reviewed the Crisis “Early Warning System” Literature 

in the Crisis “Early Warning System” 

Literature 

We reviewed the following empirical studies in the crisis “early warning 

system” literature written since 1998. For each study, we documented the 

variables that were predictive of an economic crisis. Where possible, we 

used a conservative standard for identifying key predictor variables. Under 

the signals method, we selected only variables that had a noise-to-signal 

ratio (NTSR) of 0.5 or less (less than 1 indicates more signal than noise). 

Noise indicates an incorrect prediction while a signal indicates a 

correct prediction, so a NTSR of less than one implies more correct than 

incorrect predictions. Under traditional regression methods, we selected 

only variables whose coefficients had p-values less than 0.05. (Several 

studies we reviewed reported coefficients that were statistically significant 

at the 10 percent level.) 

Berg, Andrew and Catherine Patillo. “Predicting Currency Crises: The 

Indicators Approach and an Alternative,” Journal of International Money 

and Finance 18 (1999). 

Borio, Claudio and Philip Lowe. “Assessing the Risk of Banking Crises,” 

BIS Quarterly Review (December 2002). 

Burkart, Oliver and Virginie Coudert. “Leading Indicators of Currency 

Crises for Emerging Countries,” Emerging Markets Review 3 (2002). 

Bussiere, Matthieu and Marcel Fratzscher. “Towards a New Early Warning 

System of Financial Crises,” Journal of International Money and Finance

25 (2006). 

Ciarlone, Alessio and Giorgio Trebeschi. “Designing an Early Warning 

System for Debt Crises,” Emerging Markets Review 6 (2005). 

Davis, E. Philip and Dilruba Karim. “Comparing Early Warning Systems for 

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