The effects of IMF conditional programs on the unemployment rate

The fundamental mission of the International Monetary Fund (IMF) is to ensure global financial stability and to assist countries in economic turmoil. Although there is a consensus that IMF-supported programs can have a direct effect on the labor market of recipient countries, it remains unclear how IMF participation decision and conditionalities attached to IMF loans can affect the unemployment rate of borrowing countries. Using a world sample of countries from 1980 to 2014, we investigate how lending conditional programs of the IMF affect the unemployment rate. Our analyses account for the selection bias related to, first, the IMF participation decision and, second, the conditions included within the program. We show that IMF program participation significantly increases the unemployment rate of recipient countries. Once we control for the number of conditions, however, we find that only IMF conditions have a detrimental and highly significant effect on the unemployment rate. There is evidence that the adverse short-run effect of IMF conditions holds robust in the long-run. Disaggregating IMF conditionality by issue area, we find adverse effects on the unemployment rate for four policy areas: labor market deregulation, reforms requiring privatization of state-owned enterprises, external sector reforms stipulating trade and capital account liberalization, and fiscal policy reforms that restrain government expenditure. Our initial results are found to be robust across alternative empirical specifications.     

The political economy of IMF conditionality and central bank independence

International organizations (IOs) often drive policy change in member countries. Given IOs' limited political leverage over a member country, previous research argues that IOs rely on a combination of hard pressures (i.e., conditionality) and soft pressures (i.e., socialization) to attain their political goals. Expanding this literature, we hypothesize that IOs can enhance their political leverage through loan conditions aimed at enhancing the political independence of key administrative units. Studying this mechanism in the context of the International Monetary Fund (IMF), we argue that through prescribing structural loan conditions on central banks (CBI conditionality), the IMF empowers central banks to gain more political leverage with the aim to limit a government's ability to (ab)use monetary policy for political gain. Divorcing monetary authorities from their respective government, the IMF intends to alter political dynamics towards achieving greater program compliance and enhance long-term macro-financial stability. Relying on a dataset including up to 124 countries between 1980 and 2012, we find that the IMF deploys CBI conditionality to countries with fewer checks and balances, a less independent central bank, and where the government relies more heavily on the monetization of public debt.     

The effects of economic policy uncertainty on China’s economy: evidence from time-varying parameter FAVAR

ABSTRACT

This article explores the effects of China’s economic policy uncertainty (EPU) on its fiscal policy, monetary policy and a wide range of macro-economic variables using a time-varying parameter FAVAR model. Based on monthly data from 07/2003 to 08/2017, the time-varying structure of the model allows us to capture the time-varying characteristics of the macro-economic variables and which channel is relevant. Empirical results reveal that the reaction of monetary and fiscal policies to EPU is highly asymmetric across macro-economic circumstances. Loose monetary and fiscal policies are adopted in response to EPU shocks during the financial crisis, while policies are moderately tightened after the crisis. The China Interbank Offered Rate (Chibor) responds more sensitively and severely than M2 to EPU shocks. Additionally, EPU shocks have a significant and negative impact on economic growth, consumption, exchange rates, bonds and the stock market, but showing a positive impact on credit, real estate and fixed asset investment (which might be due to China’s special economic market environment and the high investment return). The results indicate that EPU shocks significantly affect macroeconomic fundamentals through precautionary savings and financial market channels but lose their effectiveness through a ‘real options’ effect.     

Policy mix and debt sustainability: evidence from fiscal policy rules

This paper characterizes rules-based fiscal policy setting for G-3 and large EMS countries. We set up a simple fiscal policy rule and then infer on the policymakers’ reaction coefficients by testing with GMM. Our results qualify existing evidence on systematic fiscal policy in two respects. First, fiscal policy usually stabilizes public debt; and there is indeed substantial interaction between fiscal and monetary policies via the policy mix or the debt channel. Second, sustainability is achieved with a “stop–go” cycle of consolidation. Unless debt ratios are high, consolidation does not come at the cost of less cyclical stabilization.     

IMF conditionality,export structure and economic complexity:The ineffectiveness of structural adjustment programs

The conditionality requirements of the International Monetary Fund (IMF) have been a source of intense debate since the early 1980s. These conditions, which are attached to IMF lending programs, cover a variety of issues from fiscal and monetary reform to economic liberalization and institutional change. In this paper we empirically examined the effects of IMF programs and conditionality requirements on structural transformation through changes in the technology-and-skill intensity and overall economic complexity of exports. Our empirical methodology accounted for policy and conditionality heterogeneity across country and time and accounts for the endogeneity of IMF programs and conditions. The empirical results suggest that IMF programs and conditionality requirements along a spectrum of policy areas had no robust or significant effect on export structure, economic complexity or export diversification. Overall, we found no evidence of any positive effects of IMF programs or IMF conditionality requirements on the technology-and-skill intensity of exports.     

Why Economists should Choose their Inheritance: Physics and Path-independence in Economic Systems

Abstract

This paper considers the possibility of using fiscal rather than monetary policy as the instrument of stabilization policy in a new consensus framework. Describing the conduct of fiscal policy in terms of a ‘pseudo Taylor rule’, it is shown that fiscal policy is as, if not more, effective than monetary policy as a tool for macroeconomic stabilization. The conclusion reached is that the comparative neglect of fiscal policy as an instrument of stabilization policy in new consensus macroeconomics is unwarranted.     

Capital control reconsidered: financialisation and economic policy

We consider capital controls and their impact on selected countries, providing a critique of IMF policy. We show how the warning signs of the 1970s were ignored and the consequences became apparent during the ensuing period of neoliberal hegemony. We contend that promoting increased capital mobility is counterproductive as it reduces macroeconomic ‘policy space’. We introduce a development of the international policy ‘trilemma’ in the form of a variant of the idea of the ‘quadrilemma’. We suggest that, in most cases, the key policy driving economic growth is fiscal policy but it may be that its unconstrained use (and that of monetary policy) is not possible either under fixed exchange rates or when free capital mobility exists; a nation may face a ‘demi-quadrilemma’. We contend that, in practice, a country can only adopt ‘two from four’; if it chooses to retain free use of monetary and fiscal policy, it must sacrifice both fixed exchange rates and capital mobility. We advocate the rejection of fixed exchange rates and free capital mobility allowing the retention of requisite monetary and fiscal policy space, and that a multinational approach to the capital control policy would effectively contribute to a growth and development strategy.     

Openness and the Effectiveness of Monetary Policy: A Cross-country Analysis

Abstract

This paper evaluates the relationship between a country's openness to trade and the effectiveness of monetary policy in changing output growth and inflation in 29 different countries. Using quarterly data from the 1957–2003 period, empirical estimates based on individual country specifications show that the direction, significance and nature of the relationship between openness and the effectiveness of monetary policy on output growth as well as inflation vary considerably across countries.     

Financial frictions and optimal stabilization policy in a monetary union

Financial frictions differ across countries and thus cause international differences in the transmission of shocks. This paper shows how the optimal mix of monetary and fiscal policy depends on these country-specific financial frictions. To this end, we build a two-country DSGE-model of a monetary union. Financial frictions are captured by the cost channel approach. We show that the traditional solution to the assignment problem – the common central bank stabilizes the inflation rate at the union level and the national fiscal authorities stabilize the national economies – does not hold in a world with financial frictions. The cost channel decreases the efficiency of monetary policy and increases the need for fiscal stabilization even at the union level. Moreover, the more heterogeneous the union, the more important is fiscal policy in stabilizing shocks. Finally, we evaluate the scenarios in terms of welfare of the representative household.     

Discretionary policy in a monetary union with sovereign debt

This paper examines the interactions between multiple national fiscal policymakers and a single monetary policy maker in response to shocks to government debt in some or all of the countries of a monetary union. We assume that national governments respond to excess debt in an optimal manner, but that they do not have access to a commitment technology. This implies that national fiscal policy gradually reduces debt: the lack of a commitment technology precludes a random walk in steady-state debt, but the need to maintain national competitiveness avoids excessively rapid debt reduction. If the central bank can commit, it adjusts its policies only slightly in response to higher debt, allowing national fiscal policy to undertake most of the adjustment. However, if it cannot commit, then optimal monetary policy involves using interest rates to rapidly reduce debt, with significant welfare costs. We show that in these circumstances the central bank would do better to ignore national fiscal policies in formulating its policy.     

IMF conditionality and central bank independence

This paper studies the role of the International Monetary Fund (IMF) in promoting central bank independence (CBI). While anecdotal evidence suggests that the IMF has been playing a vital role for CBI, the underlying mechanisms of this influence are not well understood. We argue that the IMF has ulterior motives when pressing countries for increased CBI. First, IMF loans are primarily transferred to local monetary authorities. Thus, enhancing CBI aims to insulate central banks from political interference to shield loan disbursements from government abuse. Second, several loan conditionality clauses imply a substantial transfer of political leverage over economic policy making to monetary authorities. As a result, the IMF through pushing for CBI seeks to establish a politically insulated veto player to promote its economic policy reform agenda. We argue that the IMF achieves these aims through targeted lending conditions. We hypothesize that the inclusion of these loan conditions leads to greater CBI. To test our hypothesis, we use a recently available dataset on IMF programs that includes detailed information on CBI reforms and IMF conditionality for up to 124 countries between 1980 and 2012. Our findings indicate that targeted loan conditionality plays a critical role in promoting CBI. These results are robust towards varying modeling assumptions and withstand a battery of robustness checks.     

On the Effectiveness of Monetary Policy and of Fiscal Policy

There has been a major shift within macroeconomic policy over the past two decades or so in terms of the relative importance given to monetary policy and to fiscal policy in both policy and theoretical terms. The former has gained considerably in importance, with the latter being rarely mentioned. Furthermore, the nature of monetary policy has shifted away from any attempt to control some monetary aggregate (prevalent in the first half of the 1980s), and instead monetary policy has focused on the setting of interest rates as the key policy instrument. There has also been a general shift towards the adoption of inflation targets and the use of monetary policy to target inflation. This paper considers the significance of this shift in the nature of monetary policy. This enables us to question the effectiveness of monetary policy, and to explore the role of fiscal policy. We examine these questions from the point of view of the "new consensus" in monetary economics and suggest that it is rather limited in its analysis. When the analysis is broadened out to embrace empirical issues and evidence the clear conclusion emerges that monetary policy is relatively impotent. The role of fiscal policy is also considered, and we argue that fiscal policy (under specified conditions) remains a powerful tool for macroeconomic policy. This is particularly an apt conclusion under current economic conditions.     

Monetary and Fiscal Management, Finance, and Growth

This paper addresses three related aspects of monetary and fiscal management in Europe and elsewhere. First, I discuss the implications of economic integration for monetary and fiscal policy, especially the narrow focus on low inflation as the main objective of monetary policy. I argue that because inflation springs from several sources, monetary authorities held responsible by law for maintaining low inflation need to exercise their newfound independence by reserving the right to address all sources of inflation. In this context, I also ponder the question as to whether the increased independence of fiscal policy from short-term political interference would be desirable. Second, I present new empirical evidence of the relationship between inflation, finance, and economic growth across countries, arguing that long-run growth considerations provide an important additional justification for why price stability ought to remain a priority of independent policy makers. Third, I review some further aspects of the relationship between fiscal policy and economic growth, emphasizing the traditional three-pronged role of fiscal management: stabilization, allocation, and distribution, all of which can be conducive to growth. The argument leads to the conclusion that only the stabilization function of fiscal policy and, perhaps, some aspects of the allocation function as well could be usefully delegated in an attempt to immunize them from shortsighted and socially counter-productive political interference, but not the distribution function.     

Institutional arrangements and public debt threshold limits

Inter-governmental Organisations, such as the IMF and OECD, advocate a medium-term reduction in deficit spending and public debt accumulation among advanced economies to satisfy conditions of fiscal sustainability. Buttressing the need for fiscal austerity, Reinhart and Rogoff claim to have identified a so-called tipping point, beyond which public debt accumulation negatively affects economic growth. While recent data seem to indicate that some Eurozone (non-sovereign) economies have reached a tipping point, for other advanced (sovereign) economies, such as the US, UK and Japan, this is not clear. The mainstream tipping point literature however does not recognise the importance of institutional arrangements for the conduct of fiscal and monetary policy. Furthermore, the literature sheds little light on the transmission mechanism between high public debt and low economic growth. This article draws on the principles of Modern Monetary Theory to discuss institutional arrangements and to justify the theoretical and empirical focus on Eurozone economies. The empirical analysis unpacks the transmission mechanism(s) to reveal that Eurozone economies have reached a public debt threshold limit with respect to long-term interest rates.     

Helicopter Ben,Monetarism, The New Keynesian Credit View and Loanable Funds

Abstract:

The purpose of this article is to examine the intellectual roots of monetary dominance over fiscal policy. A first step was Milton Friedman’s reinterpretation of the Great Depression based on the money-multiplier story associated with the fractional-reserve system. In the 1990s New Keynesian authors and Ben Bernanke in particular never got away from Friedman’s interpretation and remained faithful to the loanable funds theory despite their new focus on bank credit and their apparent abandonment of monetarism. New Consensus Macroeconomics kept arguing that expansionary fiscal policy could only lead to higher inflation rates and real interest rates that lowered potential output. The New Keynesian literature on the zero lower bound of the early 2000s thus mostly overlooked the benefits of expansionary fiscal policy; instead, the optimism on unconventional monetary policies failed to prepare policymakers for the Global Financial Crisis. The crisis demands far-reaching changes to monetary and macro theory not least of which is a recognition that the theory of loanable funds is incapable of providing any insight into how the financial system works in practice.     

Worldwide impact of IMF policies during the Asian crisis: who does the IMF help,creditors or crisis countries?

This paper examines the effects of International Monetary Fund (IMF) policy announcements on financial markets worldwide. We investigate reactions from stock, bond, foreign exchange and futures markets and banking and financial companies during the Asian crisis. We explore the impact of IMF bailouts not only on crisis countries, but also on main creditor countries. We study the impact of local governments’ and public responses in crisis countries to account for interaction between the IMF and local parties. We show IMF involvement and local governments’ co-operation actually helps crisis countries but not creditors. We show that in crisis countries, financial markets generally react unfavourably to their governments’ initial demands for IMF assistance, while compliance of the crisis countries with the IMF policy action is commonly perceived as good news. Financial markets in crisis countries react negatively to prolonged negotiations and government actions against IMF policy. Creditor countries’ financial markets are not responsive to IMF actions in crisis countries. We discuss policy implications of findings.     

Monetary and fiscal policy interactions: Evidence from emerging European economies

This paper examines the interactions between fiscal and monetary policy for some former transition, emerging European economies over the 1995Q1–2010Q4 period by using a Markov regime-switching model. We consider the monetary policy rule proposed by Taylor (1993) and the fiscal policy rule suggested by Davig and Leeper (2007) in accounting for monetary and fiscal policy interactions. Empirical results suggest that monetary and fiscal policy rules exhibit switching properties between active and passive regimes and all countries followed both active and passive monetary policies. As for fiscal policy, the Czech Republic, Estonia, Hungary, and Slovenia seem to have alternated between active and passive fiscal regimes while fiscal policies of Poland and the Slovak Republic can be characterized by a single fiscal regime. Although the policy mix and the interactions between monetary and fiscal policy point a diverse picture in our sample countries, the monetary policy seems to be passive in all countries after 2000. This finding is consistent with the constraints imposed by European Union enlargement on monetary policy.     

Monetary,fiscal, and structural drivers of inflation in Ethiopia: new empirical evidence from time series analysis

This study empirically investigates the drivers of inflation in Ethiopia using monthly data over the period July 1998 to September 2020. It explores short-run and long-run effects of domestic and external determinants of inflation—including demand-side, supply-side, and structural factors—using the cointegration and vector error-correction methodology. Four measures of inflation are considered: cereals, food, nonfood, and all-items Consummer Price Index (CPI) inflation. A key contribution to the existing literature is the investigation of the role of the fiscal sector in modeling inflation, a topic that has been neglected in the existing studies on inflation in Ethiopia. The empirical results show that disequilibria in the monetary sector, grains sector, and food markets have long-run effects on inflation. In the short run, inflation is driven by structural factors (notably, cereal output gaps and imported inflation) as well as demand-side factors (notably, money growth and public sector borrowing). The results hold when analysis is limited to the high growth period from 2005 onward, following the end of the International Monetary Fund (IMF) program in the country. The evidence provides valuable insights in the context of ongoing macroeconomic policy reforms in Ethiopia.     

The effectiveness of fiscal and monetary policy responses to twin crises

We study how effective fiscal and monetary policy responses are during a twin crisis. Using the dataset provided by Laeven and Valencia (2008 Laeven, L and Valencia, F. (2008) Systemic banking crises: a new database. IMF Working Paper No. 08/224 [Google Scholar]), we identify 57 episodes of twin crises. Following the methods proposed in Baldacci et al. (2009 Baldacci, E. 2009. Gupta, S. and Mulas-Granados, C., How effective is fiscal policy response in systemic banking crises?, IMF Working Paper No. 09/160 [Google Scholar]) and Hutchison et al. (2010 Hutchison, M. 2010. Noy, I. and Wang, L., Fiscal and monetary policies and the cost of sudden stops, Journal of International Money and Finance, 29, 973–87 [Google Scholar]), we construct the variables measuring the duration and output cost of a twin crisis. We find that fiscal policy does not seem to be associated with the shortening of a twin crisis. Regarding monetary policy, we find that monetary tightening is associated with the lengthening of a twin crisis duration, consistent with the result in Hutchison et al. (2010 Hutchison, M. 2010. Noy, I. and Wang, L., Fiscal and monetary policies and the cost of sudden stops, Journal of International Money and Finance, 29, 973–87 [Google Scholar]) dealing with a sudden stop crisis. In addition, our results show that while a mild monetary expansion is effective in reducing a twin crisis duration, over-expansionary monetary policy loses its effectiveness.     

Monetary–fiscal policy interactions and fiscal stimulus

Increases in government spending trigger substitution effects—both inter- and intra-temporal—and a wealth effect. The ultimate impacts on the economy hinge on current and expected monetary and fiscal policy behavior. Studies that impose active monetary policy and passive fiscal policy typically find that government consumption crowds out private consumption: higher future taxes create a strong negative wealth effect, while the active monetary response increases the real interest rate. This paper estimates Markov-switching policy rules for the United States and finds that monetary and fiscal policies fluctuate between active and passive behavior. When the estimated joint policy process is imposed on a conventional new Keynesian model, government spending generates positive consumption multipliers in some policy regimes and in simulated data in which all policy regimes are realized. The paper reports the model's predictions of the macroeconomic impacts of the American Recovery and Reinvestment Act's implied path for government spending under alternative monetary–fiscal policy combinations.