Adjustment without Accumulation: Evidence on Capital Formation from IMF Programs

The mission of the International Monetary Fund (IMF) is to promote international financial stability through liquidity support, surveillance and capacity building. Emerging market and developing countries frequently turn to the IMF during balance-of-payments distress. IMF liquidity support comes with conditionalities that require borrowing countries to commit to a series of policy reforms. These conditionalities have often prioritized fiscal consolidation alongside wide-reaching liberalizations.

There is a significant debate over the determinants and efficacy of IMF program conditionality in the academic literature. With some exceptions, research shows that IMF programs have limited success with respect to their desired economic outcomes and ambiguous to negative impacts on social and environmental outcomes.

A new working paper by Daniel Rinner, Kevin P. Gallagher and Rebecca Ray addresses a gap in the literature by evaluating the effect of IMF programs on gross fixed capital formation (GFCF) in low- and middle-income countries from 1990-2024. Capital accumulation is a primary mechanism of productivity increases, economic diversification and other developmental priorities.

Leveraging a novel empirical strategy, local projections difference-in-difference (LP-DID), the authors examine both total GFCF and private GFCF. Based on IMF statements and known mechanisms of growth, IMF programs should improve the investment environment and catalyze GFCF, especially from the private sector.

Main findings:

• LP-DID estimates indicate that IMF participation has statistically significant negative impacts on both total and private GFCF. These findings remain robust to alternate control inclusions and two absorption lag specifications.

  • Total GFCF: In year two, the effect of IMF participation is a 14 percent reduction in GFCF relative to counterfactual. By year five, the gap widens to over 36 percent.

  • Private GFCF: The effect of IMF participation is less frequently significant than for total GFCF, but it remains the case that estimates are universally negative after the first year of IMF participation.

Based on the study, there is no evidence indicating the IMF successfully stimulates total or private GFCF in low- and middle-income countries. Without successful real investment catalyzation, cuts to public consumption and social support programs have no countervailing impact on growth. In the absence of tangible investments, IMF borrowers do not experience the desired structural transformations. These results support existing calls for the IMF to reconsider core aspects of lending program design.