metadata: authors: 0: author: Faini, Riccardo
1: author: de Melo, Jaime
2: author: Senhadji-Semlali,
count: World
docna: 0: docna: Growth oriented adjustment programs : a
            statistical analysis
docty: Policy Research Working Paper
subtopic: International Trade and Trade Rules,Inflation,Macroeconomic Management,Inequality
teratopic: Environment,Macroeconomics and Economic Growth,Conflict and Development,Poverty Reduction
abstracts: cdata!: After the fall in average per capita GDP
            growth that took place in the 1980s, adjustment lending
            programs supported by the International Monetary Fund (IMF)
            and the World Bank (WB) were launched in response to the
            deteriorating external environment. The purpose of this
            paper is to evaluate and to assess statistically the extent
            to which adjustment programs supported by the IMF and the WB
            have restored growth. The evaluation relied on a large
            sample of countries (93) and controls for some of the
            statistical difficulties associated with measuring the
            effectiveness of adjustment programs. The paper reviews the
            environment under which IMF-WB lending took place, the
            rationale for adjustment lending, and the distribution of
            adjustment loans through time. The results of the
            statistical evaluation suggest that, after controlling for
            external factors and for initial conditions, growth is not
            higher in countries that receive IMF-WB funds, but that
            investment was significantly lower than for non-recipient
            countries. The paper also examines further long-term growth prospects.
repnme: repnme: Growth oriented adjustment programs : a
            statistical analysis
display_title: Growth oriented adjustment programs
            : a statistical analysis
listing_relative_url: /research/1990/06/700245/growth-oriented-adjustment-programs-statistical-analysis
topicv3: Current Account m1326278 1135,Poverty m1326687 695,Inflation m1326709 0870F4727ACED1CF8525815C00471347,Trade m1326924 698,Macroeconomic Performance m1327618 1106
publishtoextweb_dt: 2010-07-01T00:00:00Z
historic_topic: Environment,Macroeconomics and Economic Growth,Conflict and Development,Poverty Reduction
origu: Policy, Research & Ect Affairs
no_of_pages: 38
model_extractions: **Policy, Research, anJ External Atfairs**

**Trade Pclicy** WPS 426

T hisppaper a- product of ltleTralde Polic) Di ision Counltr EconomicsDepartnmct-ispartofalarger effort in **PRE** to analyze **thc** sustainabilitv **oi** structural adjustie **nt** programs. The **paper** is part of **thc** research project orn trade refonrm in structural adjustment loans (RPPG 675-32). Copies are available free from the World **Bank,** I81 Ili Strcet NW, Washington DC 2(033. Please contact Maria Ameal, room NI(031, extension 37947 (33 pages '. ith tahbes).

What happened to cconiomic perrirmanic in developing countrics under oro( ih-oricniitd adjustmcnt programs sponsored i' tteC World Bank and thte INiF?

Analyzinjg data for a sample of 93 CoLuntriC S. Fai li, de M(elo, Senhadji-SelLikii, and St anton compared **the** average values of cconomic indicators for 1982-86 with the corrcspondinei values lr 1978-8 1. They control lcidlor the external environment and initial condition:%, antd **al** loA ced or policies l that ould 1 % _c_ ha n idopldt iI _tlie CoultllieoS_ hIci Iated in aidjUstlimCeIt.

**Thic** toutilld o tati **cal** cx idenee tdeniit. l (or slok er) **e,rox** t lih ? _1_ t _C_ n t r1 I t I hi a I I rIei **'ri,** d loans.

1Thc found that a higher current account surplus and loAer inflation during 1978-81 were associ;itcd ~ ith bcttcr investmcnt pertormancc d uring 19S2-S6. And that deterioration in the external environment in 1982-86 was associated ith lo er gro lh during thiat period.

Thic) also cxa;mincd the investmnclt-output relationship lor 14 countries that received sizable Lrow th-ori.rintedi adjustment loans -- estimatlingi the g-.ro( ii **10rConie** because **of lo,** r a-t regate v c,tment i u ndier adjustmenl IlhC\ CoiK I Iiu' **l;tat** Sieil5 Oi SuStai nlble ICC~\ I ! t h ron eh hi h r **invcstientw Acre uno,** at **Iax it** throu ieh 19S6. 3ut **Ltlhese** results nt 'urprisi: ht ecausc considerable timeic nI ,1 a 1', iol or the b **nefits** of structural **relfonn** to n at c n ll **l/** e Fh,k 'RI. Woiirking P'.q;><r A<1>x,>'!,I.i' i". _, .! Uq Ti ilt; i **C** i T 11 1 !!1; **lIx** i < %'i I R **car** 8;u , wi.d F _.. i_ c rTl **.i** **_A_** _tI_ lr ( .1ic:< x A i **k** 5 > i, ,i 1 ti i T i 1 i < - t ci t1 irl,.!!g _C"I_ Ce.tKi+' _11_ it **I)TOICrIIA11011S** _.u._ **11!SS t11.u** fUli'L ;all}i >l :4? lDi lil,El. r;.llel ul: iil : . > s+ !.> i'!;''''i :II 1:''''1! 1r.1i Bankl.s **.lIN .1a''**
# Growth-Oriented Adjustment Programs: A Statistical Analysis

by Riccardo Faini (Johns Hopkins University) Jaime de Melo (The World Bank and CEPR) Abdel Senhadji-Semlali (University of Pennsylvania) and Julie Stanton (University of Maryland)

# Table of Contents

|1.|Introduction|1|
|---|---|---|
|2.|External Environment and Adjustment Lending|2|
|3.|An Implementable Model to Measure Effectiveness<br>of IMF-WB Programs|6|
||3.1<br>Alternative Approaches to Evaluating Adjustment<br>Programs<br>3.2<br>Implementation|6<br>8|
|4.|Statistical Results|10|
|5.|Sustainability<br>of Adjustment:<br>Output Loss Estimates<br>from Investment Cuts for a Group of Intensive<br>Adjustment Lending Recipients|13|
|6.|Conclusions|20|
|Foot|notes|23|
|Refe|rences|24|
|Appe|ndix|27|

* We thank Bela Balassa, Ajay Chhibber, Patrick ConrJay, Vittorio Corbo, Peter Montiel, John Nash, and Dani Rodrik for helpful comments. Helpful comments were also received from seminars at Berkeley, Urbino, and at a conference on Adjustment Lending held at the World Bank. This paper is part of RPO 675-32.
# **GROWTH-ORIENTED ADJUSTMENT PROGRAMS: A STATISTICAL ANALYSIS**

# 1. Introduction

The decade of the 1980s will be remembered as one of unfulfilled expectations for developing countries. **Average** per capita GDP growth fell from **3.1** percent in the 1970s to **0.6** percent in the 1980s, and for many countries, private per capita consumption growth **was** negative. Adjustment lending programs supported by the International Monetary Fund (IMF) and the World Bank (WB) were launched in response to the deteriorating external environment. Restoring growth has remainei the focal concern of adjustment lending. Indeed, it is this greater emphasis on growth that disLinguishes the adjustment programs of the 1980s from their predecessors. The purpose of this paper is to assess statistically the extent to which adjustment programs supported by the IMF and the WB have restored growth. l/ The paper offers a fairly systematic evaluation of :MF-WB supported adjustment programs. The evaluation relies on a large sample of countries (93) and controls for some of the statistical difficulties associated with measuring the effectiveness of adjustment programs. In section 2, we review briefly the environment under which 1MF-'sB lendinlg took place, the rationale for adjustment lending, and the distribution of adjustment loans through time. The methodology is described in section 3. The results of the statistical evaluation in section 4 suggest that, after controlling for external factors and for initial conditions, growth is not higher in countries recipient of IMF-WB Fund , but that investment was significantly lower than for non-recipient countries. This result leads us to examine further long-term growth prospects in section 5. There, for a
2 group of 15 countrie_ that received IMF-WB adjustment loans, we estimate a simple growth model where capital is the only binding factor on output. This model allows us to measure the approximate output loss incurred during adjustment programs due to the combined reduction of private and public investment. Conclusions follow in section 6.

# 2. External Environment and Adjustment Lending

The proximate causes of the worsening performance of developing countries during the 1980s are well-known. For oil-importing countri!s, the foreclosing of commercial credit and higher real interest rates on co-mmercial borrowing came on top of the second oil price shock. Within this group of countries, exporters of primary commodities were further adversely affected by declining prices for primary commodities as the dollar appreciated. For oil exporters, deterioration in the terms of trade came later, but they were also adversely affected by the foreclosing of commercial funds. This adverse evolution of the external environment for developing countries is summarized in the top of table 1. Using these measures, in table 2 we provide a measure of the loss in purchasing power during 1982-6 due to the unfavourable environment of the 1980s. The loss is estimated at between 3.8 and 4.5 percentage points of average GDP during 1982-6.

As can be seen from the macroeconomic indicators in table 2, as a result of the deteriorating external environment, developing countries had difficulty in improving their current account position during the eighties and they increased substantially their external indebtedness. Also, table 2 indicates that the cut in expenditures that accompanied the adjustment to
3 Table 1: TERMS-OF-TRADE, REAL INTEREST RATES AND BORROWING SOURCES

||1980|1981|1982|1903|1984|1955|<br>1988|
|---|---|---|---|---|---|---|---|
|Change in Terms of Trade (%):||||||||
|Non-Fuelexporters|-5.8|-4.0|-2.0|0.8|2.6|-2.3|<br>-2.9|
|Fuel exports|44.1|11.1|0.3|-8.6|_0.7_|-2.5|-47.9|
|Real interest rate a/|4.4|6.5|8.7|58|7.0|5.0|5.0|
|Borrowingsources||||||||
|**Netprivate**borrowing b/|73.3|72.6|48.9|25.4|14.8|1a.7|<br>2.3|
|Official borrowing (IMF and WS)||||||||
|Number of WB Adjustment loans<br>(amount b/)|8<br>(0.**)**|8<br>(0.9)|5<br>(0.8)|22<br>(3.4)|10<br> (1.1)|18<br>(2.0)|28<br>(3.9)|
|Number of IMF loans<br>(net IMF credit b/)|26<br>(2.3)|32<br>(4.7)|30<br>(3.8)|41<br>(9.4)|30<br>(4.4)|31<br> (0.9)|32<br>(-1.4)|

Notes: a/ Percent.

b/ Biion current dollars.

Sources: World Bank (1989), table 2.1, and Khan (1988, appendix).
4 the more unfavourable external environment involved a reduction in the share of investment expenditures in GDP.

It is in response to these balance of payments difficulties that adjustment lending was initiated by the WB (SALs and SECALs) and that adjustment programs by the IMF (EFFs and standby arrangements) were intensified. 2/ Participation by these international agencies was intended to assist recipient countries in designing packages that would help achieve two objectives. First, the packages would help stabilize the economy by adopting measures to restore a sustainable balance between aggregate demand and aggregate supply. Second, the packages would help production in the short-run, especially in tradabl's because of the need to generate increased net foreign exchanze earnings to meet 'arger ;ert _service_ payments. In our companion paper (Faini, et. al. 1989), *e show that tnis objective was met by a significantly larger real exchange rate qevauao for countries that participated in adjustment programs sup.port- c by the M!F and the World Bank. As emphasized by Corbo et as. L9 7\ e -.o:e emphasis of adjustment programs in the eighties waS he _e,.as s_ restoring long-run growth, henrce the label g:uw-.:n: I programs.

The distributicn of ad'ustment loans t3nu ..-. : ;e -. by the WB are given at the bottom of table 1. The table ;-.wi _-he_ •hRr drop in the availability of commercial funds start in-. :.-. e e also indicates a sharp, increase in lending volume a<i -- e n er loans by both institutions starting in 1983. Htwevr-, r e a :un e lending by both institutions far from com-ensated a ed r r.. e **4** : commercial fund borrowing. WI.ile both institut ons pro _'V_ e ;;_ . **_-_**
5

**rable 2: MACROECONC:0o INDICATORS DURING THE 1980S**

||**1978-81**<br>**19**|**82-86**|
|---|---|---|
||**Low**<br>**Middle**<br>**Low**<br>**Income**<br>**income**<br>**Income**|**Middle**<br> <br>**Income**|
|**GDP (Gr**|**owth)**<br>**2.77**<br>**4.83**<br>**2.48**|**1.99**|
|**CA/GDP**|**-7.3.7**<br>**-5.52**<br>**-7.81**|**-5.12**|
|**INVjGDP**|<br>**20.6**<br>27.1<br>**18.5**|**22.7**|
|**RER**|**1.029**<br>1.014<br>**1.247**|**1.040**|
|**EXSHCK/G**|**DP a/**<br>**-4.50(LY)**|**-3.82**(MY)|
|**DOD/GDP**<br>**Definiti**|<br>**33.8**<br>29.3<br>54.2<br>**ons:**|46.6|
|GDP|=<br>Real gross domestic product||
|CA|=<br>Current account||
|INV|Real public + private investment||
|RER|=<br>Real exchange rate index (3980=100).<br>value of RER means a real depreciation.|An increase irn the|
|DOD|=<br>Putlic or publicly guaranteed debt<br>tables.|m World Bank Debt|
|Notes:|Cwn calculations.<br>All values a:-e average<br>relevant period. Sample of 93 developing<br>income; MY=middle income.<br>(Income per<br>1986).|values duringthe<br>countries. LY='ow<br>capita above S450 irn|
|a/|Source: Fain.i et al. (1989). Estimate of the<br>lower terms of trade and higher interest<br>compared with 1978-81, as expressed as a share<br>Formula for the computation of the welfare lo<br>equation4.|welfare loss due to<br>rates during 1982-86<br> **of**t'e average32P.<br>ss is given below|
6

**disbursing loans, the shorter maturity of IMF** loans implied sharply **diminishing net credit after 1985.**

**In previous work, we found no correlation between the amount of IMF-WB adjustment credit during 1982-86 and the size** of the **external shock during that period, suggesting that adjustment lending was nct targeted to countries facing the greatest deterioration in the external environment.** However, we fouid a significantly negative correlation between IMF-WB credit and net private credit suggesting **that IMF-WB credit served as a** substitute for private credit.

3. An Implementable Model to Measure Effectiveness of IMF-WB Programs

#

#

The relatively short time period since the beginning of adjustment lending is a reason why so little formal statistical evidence is available on performance under these adjustment programs. Apart from a recent paper by Khan (1988), most of the available evidence fDonc;an ColdsteinG1982(, (1986), Cornia et al (1987), Balassa (1988)] relies on non-parametric statistics (e.g. the number of countries which show an im:;rovement i- growth in the year followinrg implementation of an. ad;ustmenrt program) to assess perform.ance. Furthermore, often the samples are sm^Li, making more difficult the interpretation of results.

Statistical evaluation of adjustment prog-ams is fraught with difficulties. First, any assessment of pe;-formance must recognize that performance will be influenced by the external environment. Countries under adjustment p.ograms which faced a more unfavourabie environment wo.'d **be** expected to show less improvement in performance. Seccrd. anv assessment should, to the extent possible, take into account what polic:es
7

**would have been** in **the** absence **of IMF-WB adjustment** programs. Thus any **'before** and **after' analysis** should be complemented by a control group **approach to reduce the bias** in the **estimated** values of the selected **indicators. These considerations are taken** into account in **the simple model presented below.** 3/

**Denote the set** of **performance** indicators j for country i by yij- **We postulate** that changes in the value of each performance indicator depends on a vector of autonomous policy changes, Axi, on rhanges in the external environment, SHi, and possibly on participation in IMF-WB adjustment programs:

where CON is a dummy variable which takes the value of 1 for czuntries that received an IMF and/or World Bank adjustment loan. Because autonomous policy changes are unobservable for countries participating in IMF-WB programs, we specify the following rep ion function: Thus, autonomous policies are specified as an adjustment process of th^e performance indicators towards their desired values (yj). Under the longrun assumption (yi = yi), substituting AX, the transpose cf (2). into (1) gives the final equation for estimation:
8 In this model, A refers to a difference between the 'post' and "pre" adjustment periods, and in the statistical results reported in section 4, each observation is an average over the pre and post adjustment periods.

The assumption that IMF-WB lending has a fixed effect on performance may appear too restrictive. Alternatively, we introduce in equation (3) the amount of net IMF-"';j lending during 1982-6 instead of the **dummy** variable CON. In that case, the maintained hypothesis is that, after controlling for external factors and autonomous policy changes, the change in performance is linearly related to the amount of IMF-WB disbursements.

# 3.2 Implementation

Since IMF-WB programs are often not initiated in the same year, it is difficult to choose the correct point for beginning the assessment of these programs. The choice of 1982 as the cut-off point was made since 1982 corresponds most closely to the year when the external environment deteriorated sharply for developing countries (see table 1). 4/ As detailed in the appendix, the sample consists of data for 93 developing countries. Among these countries, 32 did not receive any IMF-WB adjustment loans during 1982-86. Another 9 - ceived their first adjustment loan only in 1985 or 1986 which makes it difficult to assess the impact of the loan given our data. Thus, these countries are added to those who did not receive adjustment loans so that the control group includes 41 countries. The remaining 52 countries received IMF-WB adjustment lending. In this group, only 2 countries received their first adjustment Loan in 1984. Hence one should really interpret the statistical results as pertaining to the performance of 50 countries which received adjustment
9 credits in 1982 or 1983 and were carrying out policy reforms whose perfr,mance-enhancing effects were supposed to last throughout the period of analysis (i.e. until 1986). The performance of these countries is compared with the performance of 43 countries (of which 11 countries had been implementing adjustment lending policy reforms since 1984).

Next, we construct a proxy for the external invironiment, SHi, by measuring terms of trade and interest rate shocks. To measure how signitfiant the deterioration in the external environment was, we quantify the impact of the external disturbances associated with declining terms of trade and rising real interest rates. Exterlal disturbances are measured over 1982-6, taking average values over 1976-81 as the base period. The formula (country subscripts omitted) is: 5/ where subscripts 2 and 1 refer to 1982-6,and 1976-81 respectively, a bar over a variable means an average value over the relevant period and the variables are:

- R = average real interest rate (deflacor is USGDP deflator) and the nominal interest rate is the weighted interest on concessional and commercial debt.

- Y = real GDP

- PX,PM = export aad import price indices deflated by USGDP deflator
10

- **X,M - redl exports and real imports**

- **D -** gross outstanding debt, net of reserves

In equation 4, the first term (RIR) measures the contribution of higher than expected interest payments and the remaining terms measure the e.;fect of changes in the terms of trade (TOT). The choice of periods implies that the proxy for the external environment, SHi, is expressed as a nercentage of the average value of GDP during 1976-81.

# 4. **Statistical Results**

Our main interest is in the effects of adjustment programs on growth. We use two indicators of growth: GDP growth and the share of investment in GDP. It could be argued that the investment share in GDP is an intermediate target. While this would be true in the long run, our limited time-frame for the post-loan period removes this concern. An improvement in growth alone could indicate an increase in capacity utilization. Hence the investment share is used as an additional indicator of sustainable long-run growth. We also use two indicators whose developments are followed closely by the IMF: inflation and the current account. (Another closely watched indicator, the government deficit, .s not included here because it is unreliable on a comparative basis.) The results after one round of exclusion of influential observations, and correcting for heteroskedacity, appear in tahle 3. 5/ The effects of participation in IMF-WB programs are measured Dy the coefficient on the **dummy** CON. 7/ The first remarkable result is that participation in IMF-WB programs does not appear to affect output growth in
11 Table 3: PERFORMANCE UNDER ADJUSTMENT LENDING

|Dependent|||||||||
|---|---|---|---|---|---|---|---|---|
|Variable|Y_.|I/Y_1|CA_1|P-1|SH|CON|F|NOBS|
|Ay|-.677<br>(-6.32)|.006<br> <br>(.17)|-.134<br>(-2.68)|<br>.010<br> <br>(.46)|-.069<br>(-2.06)|<br>-.001<br> <br>(-.19)|28.15|79|
|AI/Y|.246<br>(1.67)|<br>-.296<br>(-4.61)|.279<br> <br>(2.61)|<br>-.047<br>(-2.65)|-.049<br>(-.66)|<br>-.006<br> <br>(-.68)|10.81|80|
|A;|-.146<br>(-.60)|-.072<br> (-.70)|-.161<br>(-.96)|<br>.077<br>(.68)|.140<br>(.98)|<br>+.008<br>(+.43)|1.42|79|
|ACA|.396<br>(3.00)|.133<br>(3.07)|-.490<br>(-6.55)|.026<br> <br>(1.87)|-.068<br>(-.84)|+.034<br>(.4.83)|13.60|<br>80|

The constant term is omitted from the results, and the t-statistics are in parentheses.

Definition of variables: **all** variables **are** average values over 1982-6 (e.g., y is average GDP growth during 1982-6). All lagged values **are** average values over 1978-81.

Y = CDP growth; I/Y = INV/GDP; CA = CA/GDP; P is the inflation rate; SH is the external shock estimate from equation 4; CON = dummy variable with value 1 if participating in IMF and/or World Bank adjustment programs; F = statistic; NOBS = number of observations used in regression.

Results **are** corrected for heteroskedasticity by weighing each observation by the inverse of its estimated standard error. Extreme influential observations **are** excluded using Belsley, Kuh, and Welsch (1980) criteria outlined in the Appendix. The list of excluded countries are given in table A.2 of the appendix.
12

**a significant manner, after having** controlled for **the** negative influence of **external shocks. We also find** that adjustment lending is positively **correlated with the current** account **performance.** These results echo those in Khan (1988) where countries that participated in Fund programs had **significantly lower** output **growth** in the **first year** after the inception of **the program,** but **this negative** effect appeared to diminish when Khan **allowed the effects** of Fund **programs** to last **two years.** Khan also found **that countries participating** in Fund programs had **a** significant improvement in **their** current account. The **fact** that **we** measure performance over a **three to five year** period (depending on when the country received its first adjustment loan) may therefore account for our finding an insignificant effect of Bank-Fund participation on growth.

The investment equation suggests that external shocks and the control group dummy are insignificant although all other variables in the equation have statistically coefficients with the expected signs. Finally, the inflation equation performed poorly. None of the explanatory variables had a significant impact on inflation. This is probably because we have not included credit in our instrument set. However, in that equation, external shocks has the right sign, i.e. external shocks push up inflation.

Our results also indicate that initial conditions play a crucial role in affecting the macroeconomic performance of the economy. For instance, it is found that a higher current account surplus and a lower inflation rate are associated with a better investment performance in the following period. It is, however, more difficult to understand why lagged inflation should have a positive effect on growth and on the current account.
13 To summarize, against the background of overall worsening indicators for developing countries as a whole, after controlling for external factors, IMF-WB supported adjustment programs appear not to have significantly affected output growth, nor to have affected the level or efficiency of investment. We conclude that the evidence on whether the growth-oriented adjustment programs of the eighties helped recipient countries achieve higher growth and improved efficiency is still inconclusive. Given that the structural reforms advocated by these programs often require a relatively long time period before their benefits materialize, the above results are not surprising. However, a major motivation of the adjustment programs was to mobilize resources, that is to increase the volume of investment as well as to increase its efficiency use. Therefore, in the next section we analyze further aggregate investment behavior over a long time period for a group of 15 countries which received a relatively large number of World Bank loans (usually 3 or more). In particular, we look for instability in the investment/output relationship after the inception of adjustment lending with a view to detect joint changes in capacity utilization due to stabilization and changes in the productivity of capital due to reforms. 8/ We also estimate output loss from investment cuts during adjustment.

The previous results suggest that the foundations for sustained recovery were not acvieved primarily due to the fall in investment during the adjustment lending period. We now investigate further the issue of long-term buqtainabillty by studying aggregate investment and aggregate
14

**output during adjustment for a group of countries** which **were intensive recipients of IMF-WB adjustment.** 9/ **We use a simple** aggregate growth model **in which the only binding factor on output is capital,** a simplification which allows us to extend the analysis to a larger number of countries **because data requirements are few, and to a period** of 25 years. Labor .s **assumed to be in abundant supply. Foreign exchange may be scarce,** but lack **of its availability** is, **as in Taylor** (1979), **fully reflected** in **(lower) investment. As derived** in the **appendix, the estimated** equation is:

where Qt = output produced during t

- X = depreciation rate

- a = output capital ratio

It = investment during period t vt = error term This formulation eliminates the need to depend on unreliable and incomplete data on employment. It also implicitly assumes that during the estimation period, capital stock resources were fully utilized except for a stochastic term. Since this assumption is less tenable for the adjustment years, initial estimation is carried out for the pre-adjustment period. Stability testing (see table A3) is then used to assess whether the sample period can be extended up until 1986. In addition we test whether Qt-l is correlated with the error term and for possible endogeneity of It. Details of the estimation procedure are described in the appendix.
i 5

**rta.e 4;** irE fRGV'U(&J'N FUNCTION

||**(l-X)**|**a**|-75J/<br>D75d/|IT2<br>2|**Stability**<br>(1)**c/**|Period of<br>Estimation|**_Bi-aMi_**<br> <br>Year|
|---|---|---|---|---|---|---|---|
|Ch;l<br>/ (2)|**.83**<br>(7.89)|**.64**<br>(2.34)|**.36**<br> <br>(2.8)|**.94**|U|82-81|81|
|Colombia (2)|**.89**<br>(8.79)|**.53**<br>(.92)||**1.0**|S|8d-85|84|
|**Ghana**(4)|**.82**<br>**(7.68)**|**.2S**<br>(.78)||.71|S|61-86|81|
|**Jamaica (8)**|**.84**<br>(18.94)|**.36**<br>(3.13)||**.94**|**S**|**61-88**|**SC**|
|C2te**d'Ivoire**<br>**(fixed)**b/)|**(3).89**<br>(20.31)|**.32**<br>(2.27)||**.98**|U|**88-79**|79|
|**Kenya (3)**|**.96**<br>(29.8)|**.24**<br>**(1.88)**||**.99**|S|**88-88**|81|
|**Korea**(3)|**.84**<br>(8.50)|**.60**<br>(2.48)||**1.0**|**S**|**el-88**|**So**|
|4aiawi<br>(4)|**.94**<br>(32.56)|.28<br>2. 91)||.99|U|61-80|80|
|4exico<br>(2)|.79<br>(8.22)|**.83**<br>(2.93)||**1.0**|U|62-81|81|
|Vorocco (3)|**.96**<br>**(17.53)**|29<br>(1.47)||S9|S|81-86|82|
|Pakistan**(4)**|.97<br>(26.13)|**.84**<br>(2.88)||**1.0**|S|81-88|79|
|Philippines<br>(3)|<br>**.90**<br>(5.90)|**.45**<br>(1.14)||**1.0**|U|81-79|79|
|Thailand<br>(2)|**.9e**<br>(64.7)|.37<br>(4.85)||1.0|S|81-86|81|
|Zambia (3)|_.90_<br>(16.94)|0o<br>(1.09)||.92|S|61-8B|83|

**Notes:** t-statistics in **parenthes,s**

- **a/** Number of SALs **and** SECALS n :aSertress.

- b/ For **all countries, gross** domestic neestmert **was used** for **It ksee** eqat **rn** 5) except. for **CSte** d'Ivoire **where** fixed **nvestment was sed.**

- _/_ **S: stable** equation (the **break year** is pr or to **the** first **Bank adj.s "e't** carn) **U: unstable** equation.

- d,' Dummy **variable equal** to 1 .or the year !975 ard zero ctherw.se.
**16**

**Estimation results and estimation periods appear in table 4.** Column **(2) gives the estimate of one minus the depreciation rate, and column (3) the inverse of the ICOR (A). With the exception of Zambia, the ranZe of estimated values are** in **accordance with a priori expectations, althcugh the average estimate for the depreciation rate (10?) is somewhat** on **the high side. However.** our **interest** is **primarily with the estimate** of **the** ICOR **which** is **around 3 (excluding outlier Zambia). For the 13 reported countries, the values of the** ICOR **lend themselves to be separated** into 2 **groups: countries with ICORs above 3** (Kenya. **Ghana, Malawi, Morocco, C5te d'Ivoire) and countries with ICORs below 3 (Thailand, Philippines, Colombia, Chile, Korea, Jamaica, Mexico, Pakistan). In general,** the composition of each group fits with a priori expectations.

Stability tests (reported in the appendix in table A3) indicate that 9 out of 14 equations are stable. In interpreting this result, it should be remembered that two factors are likely to affect the 1COR _uring the adjustment period: ("l changes in capacity utilization due to stabilization; and. **.')** changes in the productivity of _apita! ue **tC** reforms or to a -hange in the public and private sector shares in investment. Because these two effects on the ICOR are indistinguishable in cur model and because they are _likely_ to move in opposite directions during adlustment, it is _nct_ surprising that stability could not be rejected in the majority of cases. Furthermore, even when **the** equation was f,;end to be unstable, the fitted value of cutput based on the pre-adjustment estimates did not deviate much from actual output during adjustment. **This** suggests that the net effect on output nf changes _n capacity utili-at:cn and capital productivity **was** _not_ significant. Therefore. instead, _w4e_ **_shai'_** -cncent-atH _;r._ ..easur`ng the _?xter.t_ of output loss due tc lower investmenr
17

**during the adjustment period.** This **implies that we cannot evaluate, as intended, whether adjustment lending raised the marginal** efficiency<sup>of</sup> **investments through** reforms **in the system of** production **and investment incentives for the private sector** and, **for the public sector,**<sup>**through**</sup> **rationalization of public investments,**

**To estimate the output loss during adjustment. we** estimated **what** output would **have been, had the average investment-output** ratio (I7Q) **between 1970** and **the** initiation **of Bank adjustment** lending **prevailed** afterwards. Formally, yearly output loss, Lt, is calculated as:

*where I (I!Q) * Q., and a is the estimated value of the output/capital tI _ratio_ from equation 5 Ccolu;mn 2 of table 4). Notice that if<sup>cne celieves</sup> that adjustment lending led to higher efficiency in resource use and thus to a lower incremental capital output ratio (i.e. a higher<sup>value of A),</sup> then equation 6 will significantly underestf.mate the output loss iue to the fall in investment.

Table 5 gives the estimates of the contractionary le,ss on -,ut.ut due to the lower investment levels during the period of adjustment : For example, Chile lost ;7Z of output during 1982-6 tbecause of lower investment levels. _Mexico,_ Chile and Malawi experien?ed trhe worst losse CDf course. one ioannct ascribe the entire Output loss -o the ajustnent relatively -more unfavorable exterr.a envircr-ment in the early cightie. '.hile and Mexico. for example, had _tu_ a'so adjus: to the dlsequiL; rA resulting from overly expansionary domestic policies in the late seventies
18 Table 5: OUTPUT LOSS DUE TO LOWER INVESTMENT

|Cou|ntry|Adjustment<br>Period 1/|Cumulative 2/<br>Effect|Average<br>One-Year<br>Effect|IMF-WB<br>Adjustment<br>Lending as<br>Z of GDP 3/|
|---|---|---|---|---|---|
|1.|Chile|82-86|-.170|-.034|.010|
|2.|Colombia|85-85|-.004|- .004|.002|
|3.|Ghana|82-85|-.034|-.009|.025|
|4.|Jamaica|81-86|-.118|-.020|.031|
|5.|Cote d'Ivoire|80-86|-.049|-.007|.019|
|6.|Kenya|82-86|-.141|-.028|.011|
|7.|Korea|81-86|.120|.020|.003|
|8.|Malawi|81-86|-.260|-.043|.033|
|9.|Mexico|82-86|-.230|-.046|.004|
|10.|Morocco|83-86|-.076|-.019|.013|
|11.|Pakistan|80-86|-.053|-.008|.004|
|12.|Philippines|80-86|-.097|-.014||
|13.|Thailand|82-86|-.083|-.017|.J04|
|14.|Zambia|84-86|-.037|-.012|.005|

- 1/ The adjustment period is defined as the years after receipt of the first Bank SAL.

e 2/ The formula used is E a(It - It)/QFt ; It = [I)l t=s tQ where:

- [i) is the average of the investment/output ratio from 197' unti! isthe starting dates of the ad4ustment program.

- . = the level of investments.

- _QFt_ = the fitted value of output (e.g. 5 where it was replaced by It)

- s = the starting date of the adjustment program.

- e = the last year available during the adjustment program.

- 3/ Average IMF-WB lending on average GDP over period 79-85.
19

**Only Korea raised her investment ratio** during **adjustment, thereby showing a positive output gain.**

**Excluding Korea and** Zambia, the countries **fall** into three groups: **low,** medium, and high output **loss as** a percent of GDP. Colombia, Ghana, **Cote d'Ivoire and Pakistan lost,** on **average, less** than one percent of GDP per year. At the other extreme, Mexico, Malawi, Chile, and Kenya, on **average, lost close to four** percent of GDP **per year.** In interpreting this result, one must remember that for unstable countries (Cote d'Ivoire, Mexico, **Malawi,** and Chile), the estimate of the output loss may be biased in an unpredictable direction because of a change in the value of a during the adjustment period.

In spite of these caveats, our results suggest a sizeable output loss because of lower aggregate investment levels during the period of adjusti:nt under IMF-WB lending. Since an objective of these growthoriented programs was to r store growth by, among others, raising investment, one must ask what causes this sharp decline in investment and resulting output loss. While our analysis does not allow us to measure by how much private investment actually fell, the estimated fall in aggregate investment output ratios was large enough in most countries t'9 leave little doubt that private investment fell substantially during the adjustment. At least two factors must have contributed to the fall in private investment.

The first factor is that the expenditure-switching policies that accompanied the adjustment programs resulted in an increase in the relative price of imported capital goods. This cost increase was caused by the real exchange rate devaluation required to achieve a trade balance surplus to service the external debt. Furthermore, the interpretation of the statistical analysis of performance indicators in section 4 suggests that
20 scarce foreigrn exchange was probably tied up in purchasing intermediate goods with little left for capital goods imports.

But this interpretation does not tecognize that, given capital investment partially irreversible because of sunken costs of entry and exit, the decision to invest in the activities supposedly made more profitable by the ongoing reforms depends on the probability of a policy reversal during the lifetime of the new investment. With costly resource reallocation, uncertainty is likely to have led many private investors to either keep their capital abroad or in existing activities until the subjective probability that the reforms and adjustment programs will not be reversed is high enough for them to commit to new investments. 10/ Thus, the second factor would ascribe much of the fall in private investment to the lack of credibility in the adjustment programs, perhaps mostly because of the size of the required adjustment, or perhaps also because of overambitious reforms in an unsettled macroeconomic environment.

# 6. Conclusions

This paper has provided a statistical analysis of performance under IMF-WB growth-oriented adjustment programs. The evaluation was based on a comparison of the average values of economic indicators during 1982-86 with the corresponding average values during 1978-81. The methodology controlled for the state of the external environment during the period when growth-oriented adjustment programs were in effect as well as for the initial conditions of the loan recipient countries. Account was also taken of the policies that would have been adopted had they not participated in IMF-WB adjustment programs.
21 Admittedly the methodology is crude, even though it controls for most of the pitfalls common in such comparative exercises. We found that initial conditions played a significant role in affecting macroeconomic performance. For example, we found that a higher current account surplus and a lower inflation during 1978-81 were associated with a better investment performance during 1982-86. We also found that a deterioration in the external environment during 1982-86 was associated with lower growth during that period.

The main result from our comparisons between IMF-WB recipients and countries that did not receive adjustment loans (or received them towards the end of the period so that not enough time had elapsed to include them among loan recipients) relate to growth and investment. After controlling for initial conditions and external factors, we found no evidence of a statistically better (or worse) performance for loan recipient countries. These results suggest that the expected positive effects on growth and resource mobilization expected from adjustment with growth packages and not yet occurred. Given that the structural reforms advocated by these programs often require a relatively long time period before their benefits materialize, these results may not be surprising.

In the last section of the paper we analyzed in greater detail the investment output relationship for a group of 14 countries that received a large amount of growth-oriented adjustment lending. For each country, we fit a simple production function (in which capital is the only constraint on growth) over a 25 year period. We then provided an estimate of the output loss from the shortfall in investment during the period when each country was receiving adjustment lending. The results show much foregone growth because of lower aggregate (public and private) investment levels
22 during the period of adjustment. Thus, the desired signs of a sustainable recovery through higher investment, evaluated here through 1986, were not evident.
23

# Footnotes

- **1/** In previous work (Faini et. al. 1989), we evaluated performance undet adjustment lending for a group of nine indicators using a before-andAfter approach so that we did not control for initial conditions nor for the size of external shocks.

- 2/ The World Bank initi-ated SALS (structural adjustment loans) and SECALs (sectoral adjustment loans) in 1979 and 1981 respectively. Like the EFF (Extended Fund Facility) and stand-by arrargements, World Bank adjustment loans are quick disbursing loans. For a description of adjustment lending investments by the **IMF** (World Bank) see IMF (1987), World Bank (1989). All IMF upper credit tranche programs are of short duration and some Funid-supported adjustment programs were initiated before 1979. However, of 288 programs during 1973-86, only 44 took place during 1973-78.

- 3/

- The following model draws on Goldstein and Montiel (1986).

- 4/ Because the choice of cut-off is arbitrary, we also carried out our estimation using 1981 as an alte:native cut-off point. The results were s.milar to those reported in table 3.

- 5/ The formula derives from a two-period maximization by firms and households under assumptions of perfect competition and wage-price flexibility. See Dornbusch (1985, pp. 354-6).

- 6/ One round of exclusion tests results in about 5 percent loss of observations. Excluded countries are reported in the appendix in Table A.2. The exclusion criteria were determined by the value of Cook's D-statistic. See Belsley, Kuh and Welsch (1980), and section A.3.

- 7/ Similar results, not reported here, were obtained in an alternative estimation based on a model in which CON is replaced by the intensity of IMF-WB adjustment lending.

- 8/ Because we fit the growth model to a relatively large number of countries, we kept it as simple as possible so that we were not able to distingu_sh between capacity and productivity effects nor between private and public investment.

- 9/ The 14 countries (see Table 4) were selected on the basis of the number of SALs. Turkey, included in that sample, had to be dropped from our analysis because regime changes did not allow us to get stable estimates.

- 10/ This interpretation is emphasized in a broader context in the literature on credibility (Calvo, 1986; Dornbusch 1988; Rodrik, 1988).