_Policy, Planning, and Research Working Paper Serles_ _15_ These funds have attracted the support of international aid donors because they offer a way to provide wholesale funding for a wide range of urban investments. Most of the recent aid projects are at an early stage. Donors have focused on developing appraisal skills and establishing technical standards for the projects, but equity is a prominent objective, particularly for investments in water supply, sanitation, and other neighborhood improvements. Typically the funds combine financing with measures to strengthen the financial and technical capacity of local governments.

To date, a few of these funds have improved the capacity of local governments to operate, expand, or recover costs. But the record of recent minicipal developmentfundprogramsisbetter. The new funds improve the distribution of funding for urban investment and strengthen municipal governments. .

This paper is a background paper for the 1988 World Development Report. Please contact Rhoda Blade-Charest, room S13-060, extension 33754.

## 33. Fiscal **Policy In** Commodity- **Exporting LDCs**

# John Cuddington

_Commodity-exporting countries have sometimes found themselves worse off after a boom than before it, due to fiscal mismanagement of the boom proceeds. Good fiscal control during booms can temporarily accelerate the rate of economic development._ Revenuesincountriesthatrelyheavilyon one or two primary commodities tend to fluctuate widely with prices in international markets. This fluctuation is especially wide when export taxes are a large part of the total taxbase but also when the private sector reaps most of the gains from booming prices.

Most developing countries have over consumed in response to windfalls from surges in world prices. In many cases government spendinghas outstripped the gain in revenues. These sharp increases in government spending are difficult to reverse when the boom ends and often lead to large fiscal deficits rather than surpluses.

Countries like Cameroon and Colombia, however, whose policies emphasized conservative fiscal management, have generallybenefitedfrombooms. Themost effective government policies:

* Allocate public investment programs to sound projects that do not involve burdensome recurring costs.

* Keep government spending at levels consistent with long-run budget expectations.

* Maintain prudent external borrowingandforeign exchange reserve policies.

Programs along these lines have the potential to reduce a country's debt and restore economic growth.

This paper is a background paper for the 1988 World Development Report. Please contact Rhoda Blade-Charest, room S13-060, extension 33754.

# 34. **Flscal Issues** In **Macroeconomlc Stabilizatlon**

# Lance Taylor

_Rather than market constraint in the developed countries, export growth in the developing countries is largely determinedbysupplyfactors. Thisconclusion supports the views of those who advocate the application of outward-oriented policies in the developing countries._ Akey question for stabilization programs is this: How do governments get into fiscal difficulty in the first place?

Three views predominate: the political deficit, the structural deficit, and the inflation tax. In the first view, the state is forced toward taxing too little and spending too much, both to pay offspecific interest groups and to sustain employment through aggregate demand. In the second view, the economy suffers a contrac- tionary shock such as falling terms of trade or interest rate incursions on external debt - which the govemment tries to offset by fiscal means in the short run. In the third view, the state indulges the desire to use revenue from the inflation tax in the absence of other sources. Fiscal deficits thus have numerous causes-not all ofthem irrational, not all adding to aggregate demand. Reducing the deficit is nevertheless the sine qua non of orthodox stabilization packages. How does such austerity affect an economy's chances of achieving the normal policy goals of:

* Maintaining socially acceptable capacity use and growth?

* Keeping inflation tolerable?

* Altering the distributions of income and wealth? * Maintaining self-reliance in trade and external finance?

It makes each of these tasks harder, because of the incomplete understanding of the likely effects of fiscal measures.

First, policymakers need to know more about the specific effects of different policies. For example, cuts in public investment may also cause private capital formation to decline. Changes in the prices that public enterprises charge for food or essential services can have strong distributional repercussions. And the bidding up of interest rates can, if accompanied by other incentives, make capital repatriation and emigrant remittance more likely.

Second, fiscal measures should not be independent of other policy moves. If devaluation causes contraction, teaming it with fiscal restraint may lead to extreme losses of output - the overkill for which orthodox programs are often criticized.

Third, fiscal measures can sometimes substitute for other (less savory) policy changes. For example, the narrower and more directed fiscal interventions can avoid many of devaluation's unpleasant economywide effects (political visibility, output contractions, and price inflation because of the higher costs of imported inputs).

This paper is a background paper for the 1988 World Development Report. Please contact Rhoda Blade-Charest, room S13-060, extension 33754.

# 35. **Improving the Ailocation and Management** of Public Spending

# Stephen Lister

_The reforms most needed to rehabilitate a developing country's planning and budgeting system are generally simple organizational measures, not sophicsticated analytical techniques._ When acountry'splanningandbudgeting system is dilapidated, an important first stepis torehabilitatebasicbudgetaryand accounting functions and to generate public expenditure data that can provide a starting point for rational planning. Other basic measures include:

* Thebudgetprocess shouldfirst determine what resources are available and adopt aggregate revenue and expendi-