Aid Scaling-Up Scenarios: The IMF and the MDG Africa Steering Group Calvin McDonald, IMF Brett House, UNDP 9 October 2008

Overview MDGs: Strategic Framework MDG Africa Steering Group Current state of ODA Gleneagles Commitments & Scenarios IMF Macro Analyses Next Steps

MDGs: Strategic Framework Goals – Financing – Plans – Schedules – Focus

MDG Africa Steering Group UNSG committed at G8 Heiligendamm in June/07 to accelerate MDGs in Africa. July/07 ‘Call to Action’ on MDGs. Convened by UN Secretary-General in Sept/07 in response to ‘development emergency’. Unprecedented collection of 8 multilaterals. Endorsed by African Union.

Why Africa? Extreme poverty, IMR and % underweight

Why Africa? Ultra poor (<$0.50): 162m Subjacent poor ($0.75 and <$1): 485m Medial poor ($0.50 and <$0.75): 323m Sources: WB WDI and Ahmed et al. IFPRI, 2007

Africa: Strong Macro Indicators Domestic resources have already been mobilized.

MDG Africa Key Recommendations 1. Strengthen international support mechanisms Agriculture and food security Education Health Infrastructure and trade facilitation Statistical systems 2. Improve aid predictability 3. Enhance country-level coordination

ODA: Falling Short

Gleneagles Commitments 2005 G8 Communiqué: ¶27. The commitments of the G8 and other donors will lead to an increase in official development assistance to Africa of $25 billion a year by 2010, more than doubling aid to Africa compared to 2004. Equivalent to: About US$85 per capita in real terms. About US$105 per capita in 2007 prices and exchange rates.

Scaling Up: Where We Stand No MDG-consistent PRSP in Africa is fully financed. Few countries receive ODA consistent with Gleneagles commitment.

Gleneagles Commitments: Still Feasible

Gleneagles Scenarios: Basic Design Look at Gleneagles commitments at country level. Ten case-study countries, vetted by AU Commission: Benin Rwanda Central African Rep. Sierra Leone Ghana Tanzania Liberia Togo Niger Zambia Builds on MDG-based nat’l development strategies/PRSPs. Countries identify areas for scaled up spending, with assistance from UNDP, AfDB, WB. IMF assesses macroeconomic feasibility.

Gleneagles Scenario: Basic Design Benin

Macroeconomic Implications of Scaled-Up Aid to Benin, Niger, and Togo Sectoral analyses. Scaling-up scenarios based on sectoral analyses and spending plans by country authorities, the UNDP, World Bank, and AfDB. Macro analysis. IMF staff use several approaches to analyze effects of possible aid increase on key macroeconomic variables: real growth, inflation, exchange rate & current account. Comparative lens. Assess the implications of different policy choices. Caveats. Uncertainty about macroeconomic relationships in Africa. Countries are undergoing structural change. Data and analytical studies are limited. Note on bullet point 2: The first approach is based on a traditional IMF macroeconomic model with a standard demand side, a production function—extended to include public capital with near term payoff (e.g., roads) and human capital with long-term payoff (e.g., education)—and reduced form trade equations for the external sector. This model was applied to Niger and Benin. The second approach relies on a dynamic stochastic general equilibrium model (DSGE), with nominal rigidities, microeconomic foundations and multiple sectors. This model is suited to address both demand-led issues and medium term implications (on capital accumulation and productivity) of aid expenditures; it has been applied to Togo and Benin. Note on bullet point 3: Projections must therefore be interpreted with caution. For this reason, staff believe it is fruitful to use and compare different models.

Scaling Up ODA: Broad Conclusions Growth. Positive impact on growth in both short and medium term. Absorption. Need to use foreign currency proceeds from aid inflows to finance transfer of real goods and services from abroad. Competitiveness. Real exchange rate will generally appreciate if government spends aid on domestic goods and services. Inflation. The impact on inflation will depend on a number of factors. Capacity development. Public sector’s administrative and spending capacity must be strengthened to make best use of additional resources. Debt sustainability. Additional ODA should have a large grant element. Note on bullet point 1: The very short-run impact would follow from the resulting increase in aggregate demand. The short- to medium-run effect would come from the increase in the productive capacity of the economy, as a result of higher investment in public infrastructure and a considerable increase in human capital following greater spending on health and education. The magnitude of the growth impact will depend on the magnitude of the required scaling up (as a share of GDP) and on the efficiency of public spending. Note on bullet point 2: Either directly through the government’s import bill or through the private sector’s purchase of much needed capital goods, rather than accumulated as foreign reserves. In other words, aid must be fully absorbed to reap its potential benefit, and current accounts deficits should widen accordingly. Note on bullet point 3: While a real appreciation may affect export competitiveness in the short run, the increase in productive capacity described earlier should encourage higher export growth in the medium term. A potential real appreciation should not deter countries from absorbing the aid, however. Note on bullet point 4: In countries, with fixed exchange rates (as those analyzed here), a temporarily higher inflation will be necessary to help achieve the required real appreciation. In countries with flexible exchange rates, the pressures on inflation will depend on whether the central bank accumulates the foreign currency proceeds as reserves, and if so, whether such reserve accumulation is sterilized. Note on bullet point 6: Otherwise, there could be risks to the debt sustainability of the receiving country, especially if the increase in aid is very large.

Benin Gleneagles Scenario: Main Conclusions Moderate ODA increase. Meeting Gleneagles commitment in Benin would require moderate increase in aid equivalent to about 2 percent of GDP over next three years. Macro impact. Additional ODA would: have a positive impact on GDP growth; exert some short- to medium-term pressures on inflation; and cause a moderate real exchange rate appreciation.

Benin Gleneagles Scenario: Main Conclusions Risks. Impact on growth and poverty reduction smaller if Benin’s absorptive and administrative capacity is not strengthened.

Niger Gleneagles Scenario: Main Conclusions Relatively large ODA increase. To meet Gleneagles commitment aid would need to increase by amount equivalent to 18 percent of GDP by 2010. Macro impact. Scaled-up ODA would: substantially increase GDP growth; greater government spending could have a sizeable impact on domestic inflation; and as a result, appreciate real exchange rate considerably.

Niger Gleneagles Scenario: Main Conclusions Risks. In light of its size, the scaling-up could increase the risk of debt distress if the grant element of new aid is low.

Togo Gleneagles Scenario: Main Conclusions Sizeable ODA increase. Meeting the Gleneagles commitment would increase annual aid disbursements by 10 percent of GDP over next few years. Macro impact. Gleneagles-consistent ODA would: considerably increase GDP growth; induce a short-lived, moderate increase in inflation; but persistently appreciate the real exchange rate.

Togo Gleneagles Scenario: Main Conclusions Risks. Achieving higher GDP growth rates will depend on loosening the economy’s capacity constraints and strengthening the private sector.

Scaling Up ODA: IMF’s Stance Scaling up aid could greatly benefit recipient countries. Macroeconomic stability need not be at risk if countries follow sensible policies. IMF stands ready to continue assessing scaling up scenarios for low income countries to support country PRSPs and the MDG Africa Steering Group.

Gleneagles Scenarios: Next Steps Extension of Gleneagles Scenario work to more countries. Enhance absorptive capacity to ensure aid used effectively. Consistent with Paris Declaration, ODA should be made more predictable with pre-arranged disbursement schedules. ODA should also be focused on areas identified under Gleneagles Scenarios.