Is the conditionality principle of international monetary institutions justified?
Introduction
The conditionality principle was introduced in the International Monetary Fund in the 1950s
as a method of ensuring that governments would be able to repay their loans by instituting
structural changes that would improve their ability to repay the loans they took. The 1980s
and 1990s however saw a drastic increase in the application of this conditionality principle.1
The conditionality principle has caused an enormous amount of debate and contention within
the global economy and even the world bank concurs that loan conditionality has been abused
and overused in some instances.2 While this indeed may be true the attitude of International
Financial Organisations on conditionality has been that they do not represent an external
ambition to push policies on developing nations but rather conditionality presents a
partnership between the aid recipient and the IFO.3 The mission creep of IFOs such as the
world bank and the International Monetary Fund (IMF) is visible with the application of the
conditionality principle.
This essay seeks firstly, to address the meaning of conditionality and its origins then expand
on the justification of the conditionality principle as stated by other scholars and then proceed
to the cons of conditionality as stated by leading academics. The conclusion of this essay will
be an analysis of both sides of the debate followed by a conclusion as to the justification of
the conditionality principle.
What are the origins of the conditionality principle?
Conditionality is the practice of giving financial assistance contingent on the implementation
of specific policies4. As the IMF's Articles of Agreement put it, “borrowing countries'
policies have to be in line with the purposes of the Fund, avoiding "measures destructive of
national or international prosperity". They have to guarantee that resources are made
"temporarily available . . . under adequate safeguards.” According to the IMF, loan
repayment would be at risk without conditions; to secure the revolving character of the
Fund's resources conditionality is thus inevitable. When a country borrows from the IMF, its
1
Ariel Buira, An Analysis of IMF Conditionality, G-24 Discussion Paper Series
William Branson, Nagy Hanna, Ownership and Conditionality, OED Working Paper Series, No 8
3
n2 above
4
Axel Dreher, IMF conditionality: theory
2
government agrees to adjust its economic policies to overcome the problems that led it to
seek financial aid. These policy adjustments are conditions for IMF loans and serve to ensure
that the country will be able to repay the IMF. This system of conditionality is designed to
promote national ownership of strong and effective policies5. Conditionality covers the
design of IMF-supported programs, that is, macroeconomic and structural policies and the
specific tools used to monitor progress toward goals outlined by the country in cooperation
with the IMF. Conditionality helps countries solve balance-of-payments problems without
resorting to measures that are harmful to national or international prosperity. At the same
time, the measures are meant to safeguard IMF resources by ensuring that the country’s
balance of payments will be strong enough to permit it to repay the loan. If the conditions are
not met, the funds are withheld6. The concept of conditionality was introduced in a 1952
executive board decision and later incorporated into the Articles of Agreement. These
conditions are known as the Washington Consensus and these include;
I.
II.
Cutting expenditures or raising revenues, also known as austerity
Trade liberalisation, or lifting import and export restrictions
III.
Focusing economic output on direct export and resource extraction
IV.
Enhancing the rights of foreign investors vis-a-vis national laws
V.
Devaluation of currencies
The member country has primary responsibility for selecting, designing, and implementing
policies to make the IMF-supported program successful. The program is described in a letter
of intent, which often has a memorandum of economic and financial policies attached.
These loan conditions ensure that the borrowing country will be able to repay the IMF and
that the country will not attempt to solve their balance-of-payment problems in a way that
would negatively impact the international economy7. As of 2004, borrowing countries have
had a good track record for repaying credit extended under the IMF's regular lending
facilities with full interest over the duration of the loan. This indicates that IMF lending does
not impose a burden on creditor countries, as lending countries receive market-rate interest on
5
Mohsin S. Khan, Sunil Sharma, IMF Conditionality and Country Ownership of Programs, IMF Institute,
International Monetary Fund, 2001
6
Jensen, Nathan (April 2004). "Crisis, Conditions, and Capital: The Effect of the IMF on Direct Foreign
Investment".
7
"Factsheet: IMF Conditionality"
most of their quota subscription, plus any of their own-currency subscriptions that are loaned
out by the IMF, plus all of the reserve assets that they provide the IMF8
JUSTIFICATION OF THE CONDITIONALITY PRINCIPLE
Only when a small country asks for concessional external credit, such as that provided by the
IMF or by bilateral aid programs, is there a case for international discussion of that
country’s stabilization plans. This is the key justification for “conditionality”; if you ask for a
gift, you must listen to your patron.9 – Carlos Diaz Alejandro 1984
The above statement and analysis by Carlos Diaz Alejandro simply states that the relationship
between the IMF and other IFOs with countries requiring aid or loads is that of a patronbeneficiary. It is only sensible financially that loans ought to be given out when the recipient
nation is able to prove its ability to repay the loans. The same principle is reflected even in
private contract agreements where a lender requires some kind of collateral in order to give
out a loan. In actuality, the existence of financial markets is premised on the ability of the
donor recipients to repay loans.10 Secondly, under article 1 of the articles of agreement of the
International Monetary Fund) IMF, the organisation is mandated to give temporary financial
assistance to members facing balance of payments under adequate safe guards. It can thus be
states that the conditionality principle is nothing but the IFOs keeping to their mandates as
given under their articles of agreement.11
According to the world bank, the conditionality principle is a method of ensuring a
partnership between the IFO and the receiving nation rather than an attempt to coerce nations
into adopting measures or policies that are inorganic and foreign.12 This particular thinking is
evidenced by the case study of Brazil as documented by the former finance minister of Brazil,
Joaquim F. Levy stating the successes of the streamline conditionality by the IMF and how
8
Isard, Peter (2005). Globalization and the International Financial System: What's Wrong and What Can be
Done. New York: Cambridge University Press.
9
See n5 above
10
See n5 above
11
Article 1, IMF Articles of Agreement
12
See n2 above
the partnership proved successful for Brazil.13 In his analysis, Levy shows how Brazil
overperformed and was careful not to promise actions or moves it did not believe in or knew
they would be unable to uphold. In short, the presentation by Levy epitomises the concept of
conditionality as stated by Branson et al as being a partnership.14
The conditionality principle has been justified as a mechanism for effective national ownership
of strong and effective socio-economic structural policies aiding to the development of low
income nations whilst minimising risk for the international monetary institutions. As a
preference by international monetary institutions, the policies in place must afford individual
states to advance their development inclusive of solving balance-of-payments problems and
yet not crippling the support ability of the international monetary institutions. In other words,
the principle is a risk assessment and risk management instrument that ensures the safety and
minimal risk accrual on the side of the monetary institutions. To have an innate appreciation
of this concept, one must attest to the fact that international monetary institutions have to be
able support all nations that need their support and as such, inability to manage and minimise
risk can potently dislocate the institutions’ ability to serve their purpose in supporting other
states and manage global monetary systems. The above therefore brings to account the need
by international monetary institutions to ensure that funds in the case such being prospected
towards a state, the state diligently executes it’s duties to citizens and curb misappropriation of
proceeds meant for development purpose and curing an upset balance-of-payments.
CRITICS OF THE CONDITIONALITY PRINCIPLE
LOSS OF SOVEREIGNTY
A chief critism is that conditionality principle undermines domestic political institutions. The
recipient government are sacrificing policy autonomy in exchange for funds, which can led to
13
14
Koeberle et al, The World Bank, Conditionality Revisited: Concepts, Experiences and Lessons
See n2 above
public resentment of the local leadership for accepting and enforcing
conditions by
international monetary institutions. Critics have argued that International Monetary Institutions
are part of new global power system where sovereignty is globalized, taking power and
constitutional authority away from nations and giving it to the global markets and international
bodies. The Tanzanian president, Julius Nyerere even criticized the conditionality principle and
claimed that debt ridden African States are ceding sovereignty to the international Monetary
Fund and World Bank. He posed a question, “…. Who elected IMF to be the ministry of finance
for every country in the World?” This means that the IMIs15 are taking away political
sovereignty of states by their conditionality principle. When States are exercising their
sovereignty they are the ones that regulate rates and taxes that are justified to the people in that
State. The IMF contravenes this obligation of states by imposing the tight monetary policies
like high interests rates. For example in the Asian crisis of 1997, many countries such as
Indonesia, Malaysia and Thailand were required by IMF to pursue tight monetary policy and
tight fiscal policy. This imposing of conditions took away the country’s sovereignty. Mahathir
Mohammad speaking during the Asian financial crisis stated, that in order to receive financial
bail outs, countries were asked to “surrender their independence”16 and sates had to give up
their sovereignty. Walsh argues that a state has to give up some of its sovereignty temporarily
in order to get financial to elevate itself from financial crisis and this has been a criticism for
the conditionality principle because the State will not have the power to control its dealings
rather it will be controlled by the IMIs.17
Additionally, the conditionality principle by International Monetary Institutions usually affect
the sovereignty power of developing and less developed countries as they are in dire need of
debt relief. Failure by the countries to follow the IMIs conditions result in them not getting
debt reliefs and because of this countries have to sacrifice their political sovereignty into the
hands of the IMIs. For instance, in the case of Zambia, the government had to follow the IMF
conditions of privatizing companies and banks so as to get one million debt relief 18despite the
rejection by the Parliament to follow this condition. Hence, it is crystal clear that the
conditionality principle is criticized because it led to the loss of sovereignty of States.
15
International Monetary Institutions
Al-Jurf (n47) 45
17
Professor Brendan Walsh Irish Finance, Ireland’s Need to Regain Economic Sovereignty,28 Dec 2019
18
Situmbeko and Zulu –Al – Jurf
16
CREDITOR DOMINANCE
The conditionality principle is not justified because the system of voting power distribution
through quota system institutionalizes borrower subordination and creditor dominance. The
resulting division of the IMF’s membership into borrowers and non- borrowers has increased
the controversies around conditionality because the borrowers are interested in increasing loan
access while creditors want to maintain reassurance that the loans will be repaid. Developed
countries were seen to have a more dominant role and control over less developed countries.
19
The conditions that make the creditors more dominant include, reducing government
borrowing through higher taxes and lower spending, higher interest rates to stabilize the
currency, allowing failing firms to go bankrupt. All of these conditions promote creditor
dominance in the sense that all the activities that will be carried on in the borrowing country
will be furnished towards repayment of the debt to the creditor ignoring the needs of the country
to develop and cater for its citizen’s needs.20 In some countries where the IMF loans were
given, no developments were done instead difficult economic situations were made worse. For
example in 2001, Argentina was given a loan and a condition was imposed on fiscal restraint
which led to a decline in investment in public services which arguably damaged the economy.
Therefore, the conditions set by the international monetary funds are there to satisfy the
creditor’s interest.
Unsustainable to local conditions
The International Monetary Institution has been criticized for not having the same idea with
local economic conditions, cultures and environments .The economic advice the IMF gives
might not always take into consideration the difference between what spending means on paper
and how it felt by citizens. Countries charge that with excessive conditionality they do not own
the programs and the links are broken between a recipient country’s people, its government
and the goals being pursued by IMF, Jefrey Sachs argues that the IMF’s “usual prescription is
‘budgetary belt tightening to countries who are much too poor to own belts’ ” He wrote that
the IMF’s role as a generalist institution specializing in microeconomic issues needs reform.21
Hence, the conditions set by the IMIs sometimes are not justifiable because they are
19
A Buira. An analysis of IMF Conditionality. Department of Economics Series, University of Oxford, 2002
Criticisms of International Monetary Fund- www.economicshelp.org
21
J D Sachs, Theoretical issues in International borrowing. Princeton Studies in International finance- no54:
Princeton University,1984 pg 278
20
unsustainable to local conditions. Thus the conditions will not be benefiting the country rather
making it poorer.
ANALYSIS AND CONCLUSION
Conditionality is one such way that IFOs can gain leverage and institute the changes they are
mandate to bring about such as economic development, reduction in poverty, ensuring that
there exists international monetary cooperation.22 From the general perspective, it is justified.
However, the principle ought to be in keeping with other principles of international law such
as economic freedom and economic sovereignty.
It has been stated that IFOs such as the World Bank and The IMF have strayed from their
original duties and that the conditions being imposed by IFOs exceed their scope and
mandate. Mugota in particular gives in her analysis of the mission creep a Zambian case
study whereby the developing nation was forced to privatise ZESCO (Zambia Electricity
Supply Corporation) and state bank ZNCB (Zambia National Commercial Bank
inorder to receive aid worth 1 billion dollars. Mugota further compares the bargain
power and leverage that developed nations such as the United Kingdom posses vis
a vis nations such as Zambia. 23 Killick differentiated between hard pressure and soft
pressure emanating from IFOs. It is thus our assertion that conditionality in itself is
justified however it is necessary for IFOs to determine the amount of pressure that
ought to be placed on nations looking to receive temporary financial assistance so
that it does not become a matter of coercion. Waller’s idea of positive conditionality
is indeed a better method keeping with the mandate to ensure that borrowing nations
are able to repay their loans without impinging on the sovereignty of nations.24 This
stance also reiterates the recommendations of former Brazilian finance ministers to
the IFO:
22
Zvichanzii Mugota, Have International Monetary Institutions Crept Away From Their Mandates? A Look At
the Mission Creep Dpctrine On International Monetary Institutions pg 2
23
See n22 above
24
Georg Freks, Concepts, Definitions and Approaches To Aid and Peace Conditionality
there should be no conditionality associated with policy initiatives or structural measures
that unnecessarily corner country authorities (for example, stiff targets for variables that
depend essentially on market demand);