Difficulties in the IMF's Financial Programming


One of the most trusted and criticised macroeconomic models is the International Monetary Fund's (IMF) so called 'financial coding' model. The mentioned objective of the model is to attain desired macroeconomic focuses on in countries enduring a crisis or are about to receive debt relief. To follow this objective through the financial programming device, in its macroeconomic programme the IMF utilises the Monetary Method of the total amount of Payments (MABP) and fiscal identities. Through these identities the model is wanting with an effect on the amount of international reserves and inflation which is trying to calculate the quantity of credit card debt relief and transfer rate necessary for growth.

The initial tries were come up with into one analytical model by Polak in 1957, setting up the building blocks of financial development. Other succeeding techniques were all predicated on the modification and improvement of the Polak model. Simply the model can viewed as an attempt to integrate the before existing platform of economic and credit factors. The importance of this model is undeniable, as all models applied in the financial development have their root base in the Polak model.

Nonetheless, the Polak model has its restrictions as well. Among these is the assumption that changes in local credit haven't any influence on income and local interest levels, thus not having influence on money demand. Another downside of the model is the fact it assumes a well balanced money demand function, assumption proved to be false in many cases. All these come up with and the actual fact that the model is specified only in nominal conditions may lead oftentimes to unreliable macroeconomic projections.

Realising a few of the model's limits, many other IMF workers tried to boost and tweak the model including: Robichek (1971), Crockett (1981) and Gutian (1981).

This newspaper, through a brief explanation of the financial programming approach, will try to highlight many of these limitations and will discuss several criticisms regarding its performance in targeted economies.

Financial Encoding in action

The basic framework of financial development is designed round the demand and offer of goods, money and forex. The amount of money and foreign exchange marketplaces are assumed to clear always, while permanent aspects are launched in the products market where short term demand may be different from the long term supply.

The groundwork of the IMF's financial development approach for building economic adjustment programmes is manly consisting of country specific experiences. The features of such a model are very evident. It really is easy to use and it is very clear. However, its biggest strength things to its biggest weakness: data consistency making it susceptible to even low levels of data discrepancy.

According to Tarp (1993), the process of financial development, through which an adjustment program is developed, can be set up in ten important steps implemented through in most of the scenarios. The first step is choosing a desired target varying level. Generally this variable is R - foreign reserves, but inflation or change in private sector credit may also be a aim for. In the second step projections are made for the exogenous factors (y - real result, X - exports, ‹F - change in capital move). Predicated on the first two steps, in third step the worthiness of import (Z) variable is assessed. In step four the need for devaluation is evaluated, followed by the fifth step where in fact the demand for the money is established. This step includes an research of the need to influence the interest which would have an impact on money demand. Within the next step, sixth, the entire change in domestic credit expansion is set (‹DC). Inside the seventh step the worthiness resulted from the last step is confronted with the demand for home credit. This step is one of the very most painstaking of most, as in the majority of the cases domestic credit enlargement for the private sector is specifically targeted and any space at this time alerts that the borrowing required by the federal government is exceeding the permitted level. Step eight consists of intense negotiations about the way in which the gap from step seven should be closed down. When this is done, in step nine the regularity of the methods are tested and in step ten, in the form of a notice of objective the performance monitoring criteria are arranged and the notice is delivered to the IMF.

Built-in constraints and exterior criticism

The stated goals of the IMF, that of 'working to foster global monetary assistance, secure financial steadiness, help international trade, promote high work and sustainable monetary expansion, and reduce poverty' (IMF 2010), are relatively idyllic taking into consideration the piling critiques towards the potency of the approach in a number of conditions. Although, IMF adjustment programmes were created with the above mentioned objectives at heart, results and post assessments tend to show some other picture as oftentimes the execution of the suggested coverage is not associated with the expected degrees of income and work.

Criticism targeting the financial development model can be divided into two major categories: interior and external. Internal criticisms are those questioning the model in its inner structure and logic of steps and assumptions. Exterior criticisms are produced targeting exact procedures demanded by the programme in specific countries.

One important concern properly highlighted by Tarp (1993: 75), is the fact despite the declare that the IMF's approach has gradually advanced through time, the theoretical framework has continued to be in primary the same because the 1950s. Accordingly, if prices are considered as given, exchange rate is set and imports depend on income, the 'financial coding model is really similar to the Polak model'. Carrying on, Tarp increases further questions concerning the model. He argues that the model is not considering uncertainty and objectives and when you are static it does not adopt some of the new improvements of macroeconomic theory like the role of risk and self-insurance in profile selections, the role of time regularity and pre-commitments in economical plan, the inter-temporal characteristics of the current accounts, the economics of equilibrium real exchange rates and several other more subjective aspects like the economics of agreement and reputation and the idea of speculative attacks and devaluation turmoil. Although it has to be said that due to the abstract nature of the new advancements in macroeconomic theory, their inclusion in the model would plainly undermine Polak's intention of keeping the model as easy and as translucent as possible.

Nonetheless, transparency has its price. As the model mainly depends on data given by the prospective country, Easterly (2006) effectively demonstrates, that the use of low quality data in many situations may lead to different projections and can manipulate the underlying causalities.

It has to be said though, that all macroeconomic models contain identities which are being used for the elaboration of projections. However, because of the way these identities are used and constraints assumed, we might be faced with the fact that by the end, the info simply rejects the limitation.

Another data related problem with the identities is related to the interpretation of certain ideas. The IMF is not totally consistent by using certain concepts even as we can find different estimations for the same principles. It happens frequently that in the IMF's statistical publication (International Financial Information - IFS) an estimation is different from that in the IMF's country statement. Easterly (2006) shows this with a set of randomly assembled test data gathered from recent country records and compares it the IFS data for the same period, finding significant differences which can lead to serious misrepresentations and options. Although it has to be said that in the majority of the identities, the IMF usually includes something called 'net mistakes and omissions' meant to slightly counterbalance possible inaccuracies. However, financial development in practice does not usually try to resolve all the various identities from different data options, making the doubt sustained about whether the identities really balance.

Buira, already back 1982 highlighted a few of the model's weaknesses in three major areas. The first one is related to devaluation. Here Buira argues that the devaluation's (possible) depressive results should be considered through the elaboration of the program, also proclaiming that the period of time over which devaluation is applied should be lengthened. The next weakness stated by Buira is related to the total amount of payments and the degree of economic deflation making a more adaptable credit ceilings plus more prompt a reaction to their adjustment desirable. Regarding to him, in cases like this the problem arises from the idea of ecological BOP position which involves the estimation of certain economic variables which are difficult to quantify, getting in touch with for 'considerable judgement'. Therefore a substantial disparity becomes noticeable, regarding the uncertainties surrounding a sustainable BOP and the exact aim in domestic credit expansion placed by the model. His third concern relates to the length of the programme and costs of the adjustments. While he never questions the need of some type of intervention, he will question the priorities associated with a few of the targets and the used time frame, arguing that too much pressure is put on wanting to circulate the IMF's resources leading to damaging prescriptions.

The main source of exterior criticism, regarding financial coding is the actual fact that financial support is always destined to so called conditionalities. It is argued that these conditionalities in many cases undermine social stableness leading to increased poverty thus, contradicting the stated aims of the IMF. These preconditions in several cases are the adoption of 'austerity actions' even in countries where the economy has already been weakened. These steps may include an increase in fees with the purpose of lowering budget deficit, restrains on general public spending - professional medical, education, cultural welfare - providing budgets nearer to balance.

The IMF's recent approach was also criticised by Stiglitz (2002), arguing that the IMF, by converting to a more monetarist approach, experienced no more a valid goal as it was mainly made to provide funds for countries to carry out keynesian reflations, and that the Fund was beginning to mainly echo the interests of the traditional western financial community.

The overall success of the IMF is perceived as limited. The actual fact so it couldn't prevent problems from occurring and there are a few suggestions that it even caused the eruption of several turmoil (including the one in Argentina in 2001 according to many was induced by IMF required budget constraints) is highly discrediting many IMF guidelines.

Due to the actual fact that, as mentioned by Stiglitz, the IMF is advocating a monetarist approach and sometimes campaigning for money devaluation, criticism is mounting from the side of supply-side economists as the proposed measures are believed inflationary and an increased tax rate is known as to lead to financial contraction.

The the truth is that the obstacles that the IMF financial encoding approach is confronted with are nowadays completely different in complexity and framework making any attempt to tackle them increasingly more demanding. Associated with simple: the model was formerly intended to offer with temporary crises, yet present day crises in less developed countries (LDCs) and more recently even in developed countries, is delivering new issues highlighting the need for changes in the way these circumstances are approached.


The main final result that may be deducted out of this paper is best synthesised by Agenor & Montiel (1999):

'Although every one of the models to be reviewed have been applied frequently in coverage formulation in growing nations, we will argue that all of them are at the mercy of limitations that constrain their effectiveness for both insurance plan direction and analytical are medium-term models. '

This paper has made an attempt to briefly present a few of the reasons why sometimes the financial development approach is apparently not working. Discussions on the topic are very strong made only more central by the existing crisis the planet is facing. However, in having less a better alternate the best advice available is the fact one must be aware of the model's limitations in order to minimise the likelihood of undesired benefits and constantly make efforts to really improve and tweak the structure of the model without burning off its simpleness and transparency.

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