Macroeconomic Support Unit Europe Aid European Commission Response to the Financial Crisis in Developing Countries Liam O’Sullivan Macroeconomic Support Unit Europe Aid 8 July2009

Commission Response to the Crisis The Commission Communication (8 April), Supporting Developing Countries in Coping with the Crisis, proposed a set of measures to cushion the human impact of the crisis and to boost economic growth in developing countries. These measures include honouring aid commitments and leveraging new resources; improving aid effectiveness; sustaining economic activity and employment

Vulnerability Some countries appear to be better prepared and more robust to the current crisis, partly due to improved macroeconomic policies over recent years, including developing sufficient fiscal space to allow them to mount their own counter cyclical response. On the other hand, some are considerably more vulnerable to external shocks, partly because of their high exposure to the crisis which is linked to their limited room for manoeuvre to tackle it.

Commission Response To respond to the crisis, the European Commission objective is to provide targeted, timely, and coordinated counter cyclical support to the countries most at risk. Process aims at better assessing the negative impacts of the crisis on developing countries and identifying the most vulnerable. In order to have a comprehensive and multidimensional understanding of the needs of our partner countries, the analysis is based upon and regularly updated drawing on new information as it becomes available, particularly from the BWI, regional development banks and from our Delegations on the ground

Supporting counter-cyclical action – Vulnerability FLEX To respond to the immediate effects of the crisis in developing countries, the need is to, as the short term response, provide aid more quickly and focus aid on priority sectors Priority spending includes salaries, key investment projects, public works programmes, safety nets… A key mechanism in delivering this response will be the establishment of a 500 million Euro "Vulnerability FLEX" instrument to help address the immediate consequences of the crisis in Africa, the Caribbean and the Pacific. Aid is additional and will be provided in the form of 100% grants

Timely On the basis of economic, social and political vulnerability criteria met by partner countries this instrument will mobilise much needed short term support during the period 2009 and 2010, thus responding when the need is greatest. The "Vulnerability FLEX" is designed to provide help in the short run to those hardest hit by the crisis. We know many of the resources agreed upon by the G-20 will take some time to be mobilised.

Targeted It will thus target those countries were Commission support enjoys the greatest impact and leverage, in other words where a timely Commission financial response can close a country's fiscal gap. Given the significant number of highly vulnerable ACP countries clear focus is required on those most in need and on those who can provide assurance of quick and effective use of the support.

Coordinated and Counter Cyclical To ensure the greatest impact and leverage the Commission is working closely with the IMF, the World Bank and increasingly the regional development banks seek to ensure our grants complement the concessional loan support planned by these Institutions. The Vulnerability Flex will thus seek to maintain, to the extent possible, the pre-crisis level of pro poor public expenditures and investment. It will do so where the absence of effective action is likely to undermine macroeconomic, social and political stability in partner countries

VFLEX Criteria Macroeconomic vulnerability to the crisis as measured by the following variables for fiscal years 2009 and 2010 (as forecasted by the IMF): year-on-year deterioration of government revenue, by at least 1 percentage point of GDP (the pre-crisis fiscal year as base year); or deterioration of foreign reserves to less than two months of imports as a result of the financial crisis; or deterioration of the fiscal deficit, excluding grants, by at least 2 percentage points of GDP year-on-year (the pre-crisis fiscal year as base year), while maintaining public priority expenditures and particularly in the social sectors, at the level prior to the crisis

VFLEX Criteria Residual fiscal financing gaps in 2009 and 2010 not covered by ongoing or pledged commitments of the donor community or foreign and domestic borrowing. Where fiscal financing gaps have been closed by reducing planned priority expenditures, notably in the social sectors, financing under the Vulnerability FLEX may compensate for this reduction Critical impact of the short term support provided through the Vulnerability FLEX, in order to close or reduce by at least 50% the residual financing gap

Fragile States For ACP countries in situation of fragility, meaning those countries for which the application of crisis, emergency and post-emergency procedures has already been decided, or may be decided in the future, the Commission may consider adjusting the thresholds. In addition, ACP countries have to demonstrate sufficient absorptive capacity

VFLEX Delivery Vulnerability FLEX will be delivered using: (a) Budget support or (b) Alternative aid modalities (already existing projects, programmes or trust funds) in those ACP countries demonstrating a commitment to a stability-oriented macro-economic policy framework, where the VFLEX eligibility criteria are met.

Budget Support Budget support should be the preferred financial response modality under the Vulnerability FLEX. Eligibility for budget support is based on three eligibility criteria a stability-oriented macroeconomic policy framework credible and relevant progress in public financial management reform and a well-defined, poverty focused national or sectoral development strategy.

Timetable Member States Committee for approval in principle (July 9) Member States Committee for approval of country allocations package (end-September) Financing Decision (October) Disbursements 2009 (November/December) Preparation of 2010 Package (January-March 2010)