AFRICAN DEVELOPMENT BANK GROUP

AN EVALUATION OF BANK GROUP POLICY-BASED LENDING OPERATIONS, 1986-97

OPERATIONS EVALUATION DEPARTMENT (OPEV)

NOVEMBER 1997

TABLE OF CONTENTS Page EXECUTIVE SUMMARY i I: OVERVIEW OF THE BANK GROUP POLICY BASED LENDING 1 1.1 Background and Context 1 1.2 Procedures 3 1.3 Policy Based Operation and Policies 4 II: EVALUATION OF BANK GROUP EXPERIENCE 5 2.1 Context 5 2.2 Design, Ownership and Related Policies 5 2.3 Implementation and Related Issues 10 2.4 Impact Assessment 12 2.5 Sustainability 15 2.6 Overall Programme Performance 16 III: THE WAY FORWARD 18 3.1 Rationale for Bank's Involvement in Pbls 18 3.2 The Bank's Role and Effectiveness 18 3.3 The Future of Policy-Based Lending Operations 19 3.4 Conclusions 20 List of Annexes No. Number of Pages 1. Policy-Based Operations Reviewed 1 2. Evolution of ADB Group Policy-Based Lending 1985 to September 1997 1 3. Bank Group Policy-Based Lending 1985 to September 1997 3 4. Evolution of ADB Group Policy-Based Lending 1985 to September 1997 Distribution of ADB's and ADF's commitments by Country Category 1 5. Selected Indicators of Country Performance 2 1

1This report was produced by Messrs. O. OJO, OPEV and F. ATABANI, consultant. Questions on the report should be addressed to Mr. G.M.B. KARIISA, Director, OPEV on extension 4052 or to Mr. O. OJO on extension 4262.

ACRONYMS ADB African Development Bank ADF African Development Fund Bto Back-to-office BWIs Bretton Woods Institutions CIRs Country Implementation Reviews CSP Country Strategy Paper EU European Union EECI Electricity Company in Côte d'Ivoire EPCP Economic Prospects and Country Programming Paper ESAL Energy Sector Adjustment Loan ESW Economic and Sector Work GCI General Capital Increase IMF International Monetary Fund ISOs Institutional Support Operations IU Implementation Unit MDBs Multilateral Development Banks MPDE Methodology for Project Design and Evaluation OED Operations and Evaluation Department OPEV Operations Evaluation Department PALMS Projects and Loan Management Systems PBL Policy-Based Lending PCR Project Completion Report PEs Public Enterprises PER Public Expenditure Review PFP Policy Framework Paper PIP Public Investment Programme PPAR Programme Performance Audit Report SAL Structural Adjustment Loan SAR Staff Appraisal Report SDA Social Dimension of Adjustment SSA Sub-Saharan Africa SECAL Sector Adjustment Loan SIP Sector Investment Programme SPA Special Programme of Assistance for Africa TAF Technical Assistance Fund UA Unit of Account

PREFACE In response to the directives of ADF VI mid-term review, Management, in 1993 commissioned a study on Bank Group experience in policy-based lending operations for the period 1986-1993. The study was carried out by a team of two consultants. The present report is written in response to a similar directive on ADF VII to: "Assess the development impacts of policy-based lending (PBL) instrument and report

on experience". The report is prepared by OPEV with the assistance of one of the consultants who prepared the 1993 report. Partly as a result of the non-availability of ADF resources for the period 1993-95, the Bank financed only very few projects and by implication, few policy-based operations. Thus the attempt to produce a report similar to the 1993 one is severely constrained by this fact and by the limited number of Project Completion Reports and Performance Audit Reports. This report updates the 1993 report to include policy-based lending operations undertaken since 1993. Virtually all these operations -- most of which were approved in 1996 and 1997 -- are still under implementation. In the absence of PCRs and PPARs for these projects, this report inevitably relied on the information contained in the Appraisal Reports. While attempts have been made to utilize new information (from available SARs, PCRs and PPARs) in this report, this report necessarily draws heavily from the 1993 report, as most of the observations and conclusions of that report are valid today as they were at that time.

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EXECUTIVE SUMMARY From cautious beginnings, the Bank Group rapidly expanded its policy-based lending (pbl) operations in response to the severity of economic problems facing many regional member countries and the mounting doubt over the effectiveness of financing traditional projects in the absence of a sound macroeconomic framework. From 1986 to 1997, the Bank Group supported a total 83 pbl operations of which 57 were for general structural loans (SALs) and 26 were sectoral adjustment (SECALs). Of the total, 30 were ADB operations and 53 were ADF operations. Total committed resources were UA 2449 million for the ADB and UA 1003.77 for the ADF. The introduction of pbls as a lending instrument was accompanied by a number of policy documents and instructions to staff for handling this type of operation. Rules were drawn up to ensure close cooperation with the Bretton Woods Institutions (BWIs), but more specifically with the World Bank, mainly to enable the Bank staff to benefit from the experience and knowhow of these institutions and to coordinate policy advice. In spite of the rise in the number of pbl operations, the Bank Group continued to emphasise its commitment to project finance as the principal lending instrument both in terms of the number of operations and the volume of approved loans. However, the widespread exposure to policy-based lending and especially the awareness it brought to many staff members of the functional linkages between macro and micro economic variables has had a beneficial impact on project analysis. The Bank came to the adjustment process with limited human and financial resources. It therefore had to follow the main thrust of the BWIs programme, essentially through co-financing. While this has brought benefits to the Bank in terms of exposure, training, and experience, it had some shortcomings in that the Bank has been perceived by critics of adjustment programmes as being involved with flawed programmes. Alleged programme shortcomings include lack of ownership, defective design, inappropriate pace of reform, lack of selectivity, inadequate attention to poverty alleviation and long-term growth, etc. In essence, these criticisms were primarily aimed at the BWIs and only by extension of the ADB Group and should be viewed in their proper perspective. While the Bank can take responsibility for some of the observed shortcomings of Pbls, but in so far as they have been successful as explained below, the Bank Group can also ascribe to itself some measure of that success. To influence the policies of member countries, the Bank needs leverage which comes from the conditionality attached to the disbursement of funds. At present, the Bank's conditionality is either similar to that of the World Bank or decided on a pick-and-choose basis from the matrix of the PFP. In general, stipulated conditions for the release of the first tranche are easy to fulfill, first, because they relate to administrative actions and commitments to undertake certain measures, and second, because countries facing imminent crisis are eager to fulfill conditions that would trigger the flow of resources to finance the adjustment process and then become lax in fulfilling subsequent conditions. In future the Bank will seek and emphasise the implementation of those conditionalities that are likely to deepen specific reforms. In terms of outcome, the impact of Pbls has varied from country to country and from one macroeconomic variable to another. Some countries (e.g. Uganda) have experienced real significant growth as a result of implementing structural adjustment programmes, while in others (e.g. Zambia) growth is erratic and hesitant. Some key economic variables (e.g. external debt) have worsened while some others like the inflation rate, have improved. But in general, it can be said that the reform process has been relatively successful in countries which persevered therein. Perhaps the greatest achievement of the adjustment process is the extent to which they have almost irrevocably altered government philosophy in the management of national economies. In most countries, central planning has given

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way to the reliance on markets in the allocation of resources and increasingly, governments are doing away with controls and regulations over their economies. Partly as a result of the introduction of market-oriented economic systems and partly as a result of the removal of price and cost distortions which came in their wake, a conducive atmosphere is being created in most African countries for private sector initiative. Bank Group experience with pbls has not been problem-free. There were problems with their design and implementation. In the area of design, the notable shortcoming was the policy conflict among the numerous reform measures to be implemented, and the timing and sequencing of the measures. In the area of implementation, one issue that figures prominently is that of ownership of the programmes. It was observed that where implementation was weak, this was usually as a result of lack of political commitment to the programme. There were also human and institutional limitations both on the part of the Bank and on the part of most borrowing countries. But overall, the adjustment process has provided the Bank with the opportunity to engage in policy dialogue with member states particularly on the important questions of economic policy reform and governance. To that extent they have helped to create a conducive policy environment for the success of other types of lending operations. In addition, by altering the policy stance of governments, Pbls are increasingly creating the appropriate conducive atmosphere for private sector initiative, which it is now agreed by all, is of critical importance to Africa's development efforts. Furthermore, it is also observed that the opportunity to co-finance Pbls with the BWI has strengthened the collaboration between the Bank and these institutions, not only in the area of policy reform but in other important areas of operations. From the above analysis, the Bank has concluded that it is important for it to continue its involvement with Pbls, not only as a means of deepening the reform process in countries which have embarked on it, but also as a means of encouraging those that are yet to commence the process. In doing so, the Bank will continue to co-finance Pbls with the BWI and will also work actively with them to eliminate the observed shortcomings of Pbls. Strong emphasis will be placed on shifting the focus of Pbls from crisis management to address the goals of long-term development and economic integration in Africa. This way an increasing number of ADF-only countries would be able to graduate into the `blend' category, if not immediately into ADB-only category. This of course will require the Bank to strenghten its capacity for policy analysis, economic and sector work and its ability to translate its sensitivity to and understanding of African realities into workable operational models. For maximum impact, the Bank will strive to be more selective in the choice of countries it will support with this kind of operation. Similarly, it will be more selective in its areas of intervention.

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I: OVERVIEW OF THE BANK GROUP POLICY-BASED LENDING OPERATIONS 1.1 Background and Context 1.1.1 Policy-based lending (pbl) in the form of structural or sectoral adjustment is a relatively new lending instrument. A combination of adverse circumstances starting in the 1970s -- the oil price increase of 1979-80, a drastic fall in export earnings brought about by world recession, a substantial reduction of external resource flows -- called for a fundamental restructuring of economic policies in most developing countries. It also became apparent that discrete marginal changes to economic policies would no longer be sufficient to tackle these fundamental problems. New policy initiatives to correct the macroeconomic policy framework would be needed. First, there would be a stabilization programme aimed at bringing about an orderly reduction in domestic demand in line with available resources. This type of programme would be implemented with the support of the International Monetary Fund (IMF). As these problems go beyond stabilization issues, a second set of programme designed to bring about changes in relative prices and institutions in order to enhance the efficiency and responsiveness of the economy, would be implemented with the support of the World Bank and other MDBs. Thus was born the so-called structural adjustment programmes, the theoretical underpinnings of which were initiated by the World Bank. The adoption of economic reform programmes of these types is to be supported by substantial amounts of additional resource flows in the form of quick disbursing loan and credits. These flows support structural adjustment loans (SALs) designed to increase the efficiency of the economy at the macro level or sectoral adjustment loan (SECALs) designed to support policy changes and institutional reform in a specific sector. However, SALs and SECALs are interdependent and need to be carefully synchronized to achieve maximum impact of allocative efficiency and sustained reduction in poverty. In addition, a reformed and efficient macro-economic framework is a precondition for the success of SECALs. 1.1.2 The adverse developments in the world economy severely aggravated the problems facing African countries many of whom suffered from long standing macro-economic imbalances, heavy foreign debt obligations and stagnant or falling per capita consumption as a result of the inappropriate development strategies adopted in the post independence era. At the heart of this has been a consistent bias against agriculture, an expansion in inefficient public enterprises, growth in unproductive Government expenditures, an emphasis on public sector employment, neglect of maintenance and rehabilitation expenditures and severe shortages of qualified manpower. Combined with rapid population growth, these policies resulted in little or no improvements in the standard of living. As a result, embracing structural adjustment policies encompassing both short term stabilization and medium term structural reform became inevitable for the majority of African countries. The adoption and implementation of pbls are seen as a means of creating the necessary policy environment for the resumption of growth in these countries. 1.1.3 Although the Bretton Woods Institutions took the lead in this area, the African Development Bank Group decided in 1986 to strengthen its intervention in the area of economic policy and dialogue with member states. At a broad level, the Bank, as Africa's leading finance institution, felt sufficiently concerned about the need to improve the policy environment for the resumption of growth on the continent. But at a narrower plane of self interest, the Bank felt there was a need to improve the policy environment in which its projects are located for maximum development impact. 1.1.4 ADB management realized that undertaking policy-based lending would entail considerable reorganization and reorientation in that internal mechanisms needed to be set up to initiate and carry out policy studies and dialogue. The existing structures, policies and orientation

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designed for traditional project lending would fall short of the needs of this new lending instrument. In January 1986, the ADB management submitted to the Board of Directors an approach paper which discussed the different ways in which the Bank Group could engage its member countries in policy analysis and dialogue. It was however, clear that the Bank Group Management viewed pbl as contributing only modestly to policy dialogue with, and lending to member countries. The paper was realistic about the demands of pbls and cautious about the capability of the Bank to undertake such lending on its own. It, therefore, attempted to limit the role of the Bank to "collaborate and co-finance" with other institutions. But even this would require core staff of "requisite skills and experience". The paper addressed the staffing implications of the involvement in pbl operations in terms of numbers, quality and type. It also discussed the implications of pbls on the need for additional financial resources for both ADB and ADF. 1.1.5 Thus ADF lending policies started to reflect this need as far back as ADF IV in 1984 when the Board of Directors, in the context of ADF IV, approved the involvement with non-project lending to regional member countries and laid down the necessary guidelines such that the Fund would support institutional and policy reforms already being undertaken by borrowing countries and in close collaboration with the World Bank and IDA. Lending conditions should be harmonized with those of other co-financiers. Non-project lending was limited to about 5 per cent of the volume of resources. The guidelines also emphasized that due diligence should be exercised to ensure effective and successful completion of these multi-purpose operations. 1.1.6 The guidelines for ADF V further reaffirmed the Fund's commitment to pbl operations and allowed for expansion of its involvement. Once more, coordination with the World Bank and other co-financiers was stressed particularly in the preparation of Policy Framework Papers, Consultative Groups and similar mechanisms. ADF V allowed for an expansion of total pbl lending up to 20 per cent of total resources. In its involvement with the financial sector, the guidelines call for the Fund to ensure that interest rates remain positive. ADF VI, while highlighting the leading role of project lending in ADF's activities, also emphasized the role of pbls to regional member countries who meet the SPA criteria. ADF VI guidelines increased the resources devoted to pbls to 22.5 per cent of resources. Again, the guidelines reaffirmed the need for close collaboration with the World Bank in general and with the World Bank and UNDP on the social dimensions of adjustment in particular. 1.1.7 The caution of the ADB towards involvement with pbls had to accommodate the increasingly pressing needs of many of the African countries and the pressures they were likely to place on the Bank Group to commit more resources to structural adjustments. In the event, these pressures led to substantial increase in structural adjustment lending by the ADB to its member countries over the years 1986-1996. Pbl lending by the ADB Group increased from UA 85 million for the Bank and UA 9.2 million for the Fund in 1986 for a total of three operations in three countries to a 1991 peak of UA 327 million for the Bank and almost UA 176 million for the Fund for a total of seventeen operations in seventeen countries. The total declined to about UA 150 million for the Bank in 1996. Due to the lack of resources resulting from the delay in ADF VII, no new ADF structural adjustment lending was undertaken in 1994 and 1995. However, with the approval of ADF VII, UA 22.8 million and UA 110.71 million of ADF resources were committed in 1996 and 1997 respectively. Between 1986 and 1997 the Bank Group committed UA 2449 million of ADB resources and UA 1003.77 million of ADF funds in support of the structural adjustment efforts of the African countries. However, lending to pbls was within the ADF establishment guidelines for ADF V and ADF VI, (Tables 2 and 4). 1.1.8 Inspite of the rapid increase in pbl operations, traditional project lending continued to

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be the principal lending instrument for the ADB Group both in terms of numbers of projects and the volume of approved resource transfers. However, there has been growing realization of the complementarity between project lending and policy-based operations in that a favourable macroeconomic environment resulting from structural adjustment programmes enhanced the financial and socio-economic viability of investment in projects. If sustained, macro-economic improvements would lead to an increase in numbers, volume and quality of ADB financed projects. On the other hand, the continued exposure to policy-based lending made the Bank staff more aware of the functional linkages between macro and micro economic variables and has had beneficial effects on project analysis. There is more awareness that the effects of the macro economic setting on projects viability are no less important than the micro economic variables like prices, subsidies etc. 1.1.9 This overview of Bank's involvement with pbls will not be complete without a discussion of the Bank's contribution to the Special Programme of Assistance to Africa (SPA). Established in 1987, the SPA has played a major role in the evolution of international assistance to the poor, debt distressed countries of Sub-Saharan Africa (SSA). As an aid coordination mechanism, it responded rapidly to the financial and economic crises facing a number of SSA in the 1980s. Its initial efforts focussed donor resources in the form of quick-disbursing assistance in the form of pbls. It has demonstrated its usefulness in facilitating among donor community a better understanding of the complex issues of macroeconomic and structural policy reform. It has helped to move the international community from confrontational to productive dialogues and progress towards the harmonization of donor positions and relationship as well as their assistance policies, procedures and practices. The pbls which the Bank financed in the poor, debt distressed countries of SSA were financed in the context of the SPA. 1.2 Procedures 1.2.1 To facilitate pbl operations, guidelines and procedures were issued. These emphasized the importance of the ADB Group cooperation with other multilateral and bilateral agencies especially the World Bank. Particular emphasis was placed on the ADB being a full and equal partner in all aspects of the lending operations through the full participation of the Bank staff in all phases of the structural adjustment lending cycle. In addition, the Bank Group was to develop a comprehensive pipeline of pbl operations to be approved by the Board of Directors. To achieve this and to cope with increased load of pbl operations and to strengthen the Bank's capacity to formulate and monitor policy and reform measures the numbers of staff, particularly macro-economists were increased and their quality and experience enhanced through participation in joint missions with the World Bank staff, attending appropriate seminars and relevant training programmes. In an attempt to improve the programming of operations, the Economic Prospects and Country Programming Papers (EPCPs) and their successors, the Country Strategy Papers (CSPs) were initiated to define Bank Group's lending strategy (including pbl operations) and other assistance in each country in terms of a three year rolling lending programme. These papers are to be discussed by the Board of Directors and to be revised periodically. 1.2.2 Furthermore, detailed guidelines and operational procedures were worked out to assist staff involved in pbls and to ensure consistency and product quality through appropriate consultations and clearance with relevant units within the Bank and continuous guidance by senior management. The guidelines set out the mechanisms and responsibilities for initiating policy based operations and defined the role of operational departments as well as those of support departments in the Bank. They also laid down the steps to be followed during each phase of the pbl cycle from identification and appraisal to evaluation. Also clearly laid out are different reports and papers (Bto reports, Decision Memoranda, Issues Papers, Loan Committee Memoranda, etc.) that should be produced at different

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stages of the cycle, their content and clearance process. However, adherence to these procedures has not been uniform in the sense that due to staff shortages and time pressures, more often than not, many steps in the preparation/clearance process are left out. 1.3 Policy-Based Operations and Policies 1.3.1 Between 1986 and 1997 the ADB Group co-financed (primarily with the World Bank but also with the European Union and some bilateral donors), eighty three policy-based operations. Of these fifty seven were SALs and twenty six SECALs the bulk of which were in agriculture and industry. Of the total, thirty operations were ADB and fifty three ADF operations (Tables 2 and 3). 1.3.2 All policy-based reforms are designed to bring about macro-economic stability and a favourable environment for sustained growth. The main categories of policy reform are: a) Trade reform policies designed to reduce external imbalances. These usually include

exchange rate adjustment, reduction or abolition of export distortions (mainly export taxes), abolition of quantitative restrictions and placing more reliance on import tariffs which are to be streamlined and harmonized.

b) Public finance and monetary policy reforms designed to reduce internal imbalances that

generate macro-economic instability and high rates of inflation. Policy measures would include reduction in current expenditures, improved resource mobilization through expansion of the tax base and improvement in tax administration as well as review and rationalization of public investment programmes. Reforms of monetary policy include measures to ensure positive real interest rates and reduction of Government borrowing from the banking system.

c) Public sector management reforms to ensure that gains from structural adjustment are

more lasting in that improved management may render recurrence of economic instability less likely. Polices in this respect would include wide ranging privatization programme, strengthening of critical agencies, enhanced budgetary control, improved public service pay and personnel policy reform.

d) Financial sector reform policies to improve the mobilization of savings and channelling

them into investments. Like all sector adjustment polices, the success of financial sector reforms depend to a large extent on the creation of a conducive macro-economic framework.

e) Sectoral reform policies designed to remove price distortion, institutional rigidities and

generally enhance the supply response. These will need to be preceded by measures to create a conducive macroeconomic framework.

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II: EVALUATION OF BANK GROUP EXPERIENCE 2.1 Context: 2.1.1 As explained above, the ADB Group embarked on pbls with almost no prior experience and limited trained human resources. The GCI IV guidelines required that the Bank "should proceed cautiously in this area, taking care to build the necessary analytical expertise by way of country strategies and sector studies and, as appropriate, collaborating with the World Bank and other development finance institutions with similar experience in non-project lending". This required a high degree of pragmatism and on-going constructive evaluation. However, the Bank did not evolve adequate methodologies to assess performance during and after implementation. It is, therefore, only through delays in disbursements that implementation difficulties surface and can be assessed and measured. Project Completion Reports (PCRs) and Programme Performance Audit Reports (PPARs) have been produced for a number of adjustment operations but it seems that these reports do not receive the attention they deserve nor do they seem to have the desired operational impact. (This could be partly attributed to the fact that the PCRs have always been produced with considerable time lag). Right now, feedback is weak and it needs reemphasizing that lessons from PCRs and PPARs must be fully integrated in the design of future pbls. 2.1.2 This report is based on information gathered from several sources. First, Project Completion Reports (PCRs) and Programme Performance Audit Reports (PPARs), Country Strategy Papers (CSPs), Economic Prospects and Country Programming Papers (EPCPs) and Staff Appraisal Reports (SARs) were reviewed. Second, qualitative information was drawn from interviews with Managers and Bank Staff. Third, materials produced by BWI on structural adjustment and implementation of operations were consulted with a view to place the Bank's experience in perspective and to relate it to the overall performance of adjustment support. Fourth, statistics were produced by the Strategic Planning and Research Department of the ADB. Based on these, the issues addressed, and which constitute the heart of the report, are the design and ownership; implementation; impact assessment; sustainability; overall programme performance; and the Bank's role and effectiveness. 2.2 Design, Ownership and Related Policies: 2.2.1 Ostensibly the programming of Bank operations and development assistance are based on EPCPs, their successors the -- CSPs -- and the resulting three year rolling programme. However, in reality it seems to be the case that the Bank's policy-based operations have been driven by the Policy Framework Papers prepared by the World Bank and the IMF. This being the case, and inspite of genuine attempts to improve the quality of EPCPs and CSPs, it is not immediately obvious that these papers have had the desired impact on the Bank's policy-based operations. This is not to deny that there has been, over time, an improvement in the quality of these papers nor that through them, Bank staff has been exposed to strategically important issues. But given the present staffing situations, these papers impose a heavy burden on limited human resources without having a corresponding influential impact on the Bank's operations. Nevertheless, they constitute a valuable institutional memory and tools which, when combined with adequate staffing and adherence to appropriate procedures, could underpin future improvement. 2.2.2 All major institutions involved in pbls have developed their own particular approaches that reflect their immediate concerns. Thus virtually all IMF programmes reflect their adherence to the monetary approach to the balance of payments driven by a demand management model of a short term nature. The World Bank's approach deals with supply side components responsive to efficiency gains which hinge on liberalization. EU's concerns in structural adjustment is for securing adequate financing

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for the social sector and their internal and external efficiency. By contrast, the Bank Group still needs to develop its own stronghold and privileged areas in policy-based lending, though the Bank has, of late, supported a number of operations in the area of Social Dimension of Adjustment (SDA) to complement and enhance the viability of adjustment programmes. Yet the Bank has not adopted or developed a set of key parameters to be used in determining the soundness of a given adjustment programme. At the moment, human resource constraints and weak coordination prevent cross fertilization between the various departments in the Bank, and support to programme staff from non-operational parts of the Bank remains virtually non-existent. In addition the Bank needs to undertake more economic and sector work if it is to strengthen its analytical capacity and tools in support of adjustment operations. The Bank should be the instigator of and catalyst for indigenous thinking in member countries and should promote in-house analytical economic work both at the macro and sectoral level. The Bank should take stock of its expertise and build upon it with a view to define the programmes it could support as well as devising mechanisms for internalizing and institutionalizing the key findings of economic and sector work and operational successes. 2.2.3 The methodology used to design or contribute to the design of pbls is based on the Logical Framework approach with its matrix of measures. While Staff Appraisal Reports (SAR) produce these matrixes, they do not attempt to expose linkage mechanisms and clearly spell out the assumptions that are necessary for their realization. In the absence of such transparency, it is not clear that stylized models can be tailored to prevailing specific conditions that may enable the Bank to exercise its strength of being a leading African institution. It is only through addressing the linkages and weaknesses that the Bank can minimize the risk of failure of programmes found to be successful elsewhere and complementary measures could eventually be taken to enhance the successful implementation of reforms. 2.2.4 A major criticism of structural adjustment programmes is the sheer number of policy reforms to be undertaken with little or no attention paid to the severely constrained administrative capacity in recipient countries. Most programmes pay little or no attention to the interaction of competing and conflicting objectives of policies and policy instruments. These criticisms apply to the World Bank first and foremost, but it is also valid for ADB operations co-financed with the World Bank. The ADB should therefore seek to be more selective and gradually link its intervention to reforms that are more realistic and coherent. It should encourage and introduce ways to foster continuous discussions of policy issues. 2.2.5 In general, issues that have not been adequately dealt with include: (i) the trade-off between policy objectives and instruments, (ii) labour market segmentation and distortions that contribute to adjustment slow-down, (iii) sequencing and the pace of adjustment, (iv) complementary action and projects needed to ensure that policy reforms bear fruit, (v) institutional capacity to implement adjustment programmes, internalization and acceptance of the adjustment process, and (vi) the regional or sub-regional implications of adjustment programmes. 2.2.6 PPARs raise the issue of conflicting objectives encountered in the design of adjustment programmes that tend to undermine their smooth implementation and favourable development impact. The reform of public enterprises (PEs) in almost all African countries has encountered major implementation difficulties because of inadequate budgetary allocation for that purpose or because of expenditure reduction in the face of shortfalls in public revenues. In the Gambia, groundnut producer prices were set on the advice of the IMF at 30% above international parity price implying that the budget was to cover the difference in the form of subsidies and transfers, at a time when overall expenditures were being curtailed in the context of a stringent stabilization programme. Also in the Gambia the distribution of agricultural inputs was liberalized, leading to higher prices and adverse

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impact on demand for inputs. Before 1994 (when its currency was overvalued), trade liberalization turned out to be incompatible with the franc zone setting as tariffs and subsidies became ineffective substitutes for devaluation. Finally as the PPAR on Zambia, Zimbabwe and Uganda have indicated issues relating to regional integration in Eastern and Southern Africa were ignored, thereby causing significant distortions, policy disharmony and ineffective adjustment process. For the above situations as well as other similar conflicting aims, prior and adequate analytical work would lead to better programme design. 2.2.7 The appropriate sequence and pace of reform are of paramount importance to the success of adjustment. However, the sequencing and pace of reform have been mostly motivated by the desire to reach the desired situation as quickly as possible without regard to resulting hardship and its adverse effects. In some cases this has led to the dismantling of existing structures, leaving a vacuum that is unfavourable to development and stability and may lead to stalling the adjustment process because of the unrealistic demands placed on the country. Perhaps the most striking examples of inappropriate pace of adjustment are to be found in the area of public enterprise reform and privatization. 2.2.8 When exchange rate adjustment and financial reform were not accompanied by an effective improvement in the overall incentives system to investors, it has benefitted traders and damaged producers including otherwise viable ones. Trade reforms have usually allowed for a gradual decrease of effective protection but they tended to undermine the emergence of entrepreneurs willing to take risks and reap the return on investment in the medium to long term. Some of the better performing countries have managed to achieve a sustainable high rate of growth by relying first on export orientation before initiating across-the-board trade liberalization. Other areas of policy conflicts include the goal of a market-determined positive real rate of interest versus that of promoting investment; liberalization of the tariff structure versus the reliance on external trade for government revenue; and the goal of poverty reduction versus the requirements of eliminating budget deficit. 2.2.9 The lack of programme ownership by the country poses perhaps the most difficult problem in implementation. In the best of circumstances only a thin strata of politicians and senior officials in the Government are aware of and committed to the reform programmes. To be successful and sustainable, the programmes need to be acceptable to large sections of civil society organizations and strong opposition especially from those who are likely to be affected, need to be openly faced and weakened. Hitherto, reforms have too often been brought about through coercion rather than persuasion, and no broad-based support has been sought for the programmes. Popular acceptability would be enhanced through the promotion of indigenous thinking and fostering consensus building. The probability of successful implementation will also be enhanced when the views of the Government are taken into account. 2.2.10 The Bank may wish to play a role, together with IMF and the World Bank, in assessing the size and prioritization of the permissible budget deficits since unduly stringent fiscal policies have adversely affected reform implementation and the protection of priority expenditures. Indeed the Bank should increasingly be involved in the preparation of Policy Framework Papers (PFPs) which would afford it an opportunity to influence the concept and design of the programme. The Bank is learning from its involvement with policy-based lending but needs to ascertain strengths and build upon its experience in order to acquire credibility in policy discussions. Outside the Bank, there is widespread perception of the usefulness of its early involvement in the preparation of structural adjustment mainly because of its keen understanding of African realities. 2.2.11 A growing number of countries are increasingly committed to structural adjustment programmes that would unleash private initiative and liberalize the economy. A few countries have

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internalized the process and have demonstrated leadership in the design of the adjustment programmes in the context of a collaborative process with donors. However, in the majority of cases, external donors are usually the driving force behind the adjustment process, though programme preparation is formally the responsibility of the borrowing country. Programme ownership by the recipient country can be secured if donors demonstrate flexibility and pragmatism. In many cases, Government commitment to the adjustment programme was secured without its views being well taken. 2.2.12 If the Bank wishes to influence the policies of member countries, it needs leverage which comes from the conditionalities attached to the disbursement of its funds. At the present moment the Bank's conditionality is often similar to that of the World Bank and in many cases depends on actions to be taken by co-financiers e.g studies, or relate to areas where the Bank has no expertise (tax systems, customs, labour code etc.). As a result the Bank is not always consulted as required by loan agreements. In some cases, countries comply with conditionality common to the World Bank and the ADB Group, but fail to send the required documentation to the Bank. Compliance with conditionality is often judged from the formal point of view, without bothering too much with effective implementation. This will need to change if the Bank wants to influence policies of its member countries. Conditionality should reflect the Bank's concerns even if this, in some cases, is at odds with the IMF prescriptions particularly in the area of protecting priority expenditures and should refer to reforms that are within the reach of the country and not to economic performance as an outcome of policy changes and/or exogenous factors. 2.2.13 In general, stipulated conditions prior to the release of the first tranche are easy to fulfill first, because they relate to administrative actions and commitments to undertake certain measures, and second, because countries, facing imminent crisis, are eager to fulfill the conditions that would trigger the flow of resources to finance the adjustment process and then become lax in fulfilling subsequent conditions. In general, conditionality is either similar to that of the World Bank or retained on pick-and-choose basis from the action matrix of the PFP. There is a general perception, widely shared by ADB staff, that the Bank is occasionally less rigorous in defining and enforcing conditionality. While it is understandable that funds should be promptly disbursed as soon as there is agreement on the programme, precipitous disbursement on the basis of soft conditionality can adversely affect successful implementation of the programme. While actions need not be different from those envisaged in the PFP, the Bank should seek to emphasis conditionality that is likely to deepen specific reforms and facilitate their implementation. This would certainly be in line with efforts to adopt floating tranches with core and non-core conditionalities reflecting the fact that some conditions are more important than others, thereby preventing borrowers from choosing the easy way to disbursement without addressing the full reform agenda. 2.2.14 As they stand at the moment, Staff Appraisal Report (SARs) for pbl operations are deficient in many respects. They do not provide the information needed to assess the adequacy of loan amounts which, in principle, should be determined with due regard to creditworthiness considerations along with the country's financial needs. SARs usually indicate the country's financial needs and donors' contributions but they fail to quantify the efforts required on the concerned country's part and to access their realism. As a result these efforts have been overly optimistic, leading to difficulties with programme implementation and frequent disruptions of external assistance. This is closely related to the question of the adequacy of the Bank's resources devoted to pbl operations. There is a widely held presumption, shared by many of the Bank staff that Bank's resources for pbl operations are not sufficient in the sense that they do not enable the Bank to share the leadership with the BWI in setting the tone of the adjustment design, particularly for ADF eligible countries. Limited external resource availability may have had negative impact on the success and viability of some key reforms. Thus the Bank's loan to Zambia received by all importers of industrial raw materials and spare parts through the foreign exchange auction scheme was probably too small to spark a

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sustainable capital expansion of the concerned industries. Similarly in the Congo, limited resources were probably behind the failure to complete the liquidation and privatization of PEs. To adequately respond to the needs of member countries and the enhance its leverage in policy dialogue, the Bank will have to determine the minimum level of its policy-based lending volume with regard to projected residual resource gaps and other relevant criteria. The Bank may find it useful (and necessary) to exercise some degree of selectivity thereby focusing most of its resources in performing countries for maximum impact. 2.2.15 SARs, in general, do not adequately assess the conditions under which targeted groups (farmers, industrialists, etc.) would be able to access foreign exchange, credit inputs etc. especially when the trade regime and the foreign exchange market are being liberalized. The inability of targeted groups to secure local currency resources has been a recurrent problem in obtaining allocative efficiency in structural adjustment programmes. In the Gambia, for example, liberalization of fertilizer prices, interest rates and cuts in public investments more than offset incentive measures provided to agriculture. In Kenya, the negative list for the SECAL did not allow the procurement of goods to play a decisive role in influencing the composition of commodity imports thereby meeting sectoral priorities. 2.2.16 Closely related to the above discussion is the issue of earmarking counterpart funds. In the Special Programme of Assistance for Africa (SPA) discussions of October 1990, it was agreed that the case for earmarking of counterpart funds for specific uses should decrease as progress is made in effective public expenditure monitoring and periodic reviews. Effective procedures for monitoring budget implementation should be ensured through provision, where appropriate, of technical assistance. Counterpart funds should be pooled into the general government budget (as they are now) and used to finance broad budgetary headings such as priority public expenditure which includes outlays for investment, development and economic rehabilitation projects as well as recurrent operations for essential maintenance and allocations to socio-economic services. 2.2.17 In 1992 SPA report on PERs recognized that generally agreed aims of priority spending are not easily achieved. Spending in support of development priorities often conflicts with existing patterns of spending, generating political opposition from adversely affected interest. BWI, though conscious of the need for some quality control of the expenditure budget, were nevertheless urged to be flexible and pragmatic in taking into consideration donors views and their financial support when preparing the framework for stabilization and growth. The issue of counterpart funds earmarking is of sufficient importance for the Bank to establish clear directives on the transitional steps to be taken till such a time that non-earmarking becomes a viable option. In the limited number of cases when earmarking of counterpart funds was done by the Bank, it has often proved to be useful (Chad, Guinea-Bissau, Mauritania). On the other hand, while key reforms in the Congo did not receive adequate funding, non-earmarked budget support might have eased the pressure to implement some difficult reforms such as civil service reforms. The World Bank's policy is not to earmark counterpart funds, but on occasion, itself was led to earmark its funds (Chad, Sierra Leone). Also in a few sectoral adjustment credits, especially those for the rehabilitation of PEs, counterpart funds were earmarked for the restructuring of public entities. The "Independent Evaluation of the SPA as a Mechanism to Promote Adjustment and Development in Sub-Saharan Africa" report (World Bank, OED, October 3 1997) notes that a significant number of bilateral donors still earmarked and managed counterpart funds inspite of the guidelines agreed to earlier. 2.3 Implementation and Related Issues 2.3.1 In general and since the Governments' commitment to the programme is one of the key determinants of success, implementation of measures prior to entry into force of programmes is desirable since it is a reflection of that commitment. While this is a feature of ADB lending policies, in

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practice there are wide variations in implementation, reflecting differences in institutional and administrative efficiency among recipients. On the one extreme, as a condition of loan effectiveness, the borrower is required to open a special account with the Central Bank and to agree on the use of counterpart funds. Some major delays in some countries were experienced in the timely approval and making the loans effective (Chad, Togo, Zambia, Mauritania) with adverse effects on programme implementation. On the other extreme, loans had been declared effective while the overall programme was not yet fully agreed with the other major donors. While the Bank may want to be free to independently judge the opportunity and pace of disbursement, it has to be careful not to jeopardize, by its actions, the chances for appropriate design and implementation of the programmes it co-finances. 2.3.2 Borrowers' non-compliance with legal covenants in loan agreements remain a serious problem, particularly in relation to financial and audit requirements. Appropriate amendments or waivers on the basis of mid-term reviews have often been made. The Bank has always exhibited flexibility and pragmatism when conditions took time to be implemented or when external resources were not commensurate with the financial requirements. In some cases, the Bank accepted, in line with the World Bank, to defer some of the loan conditions to expedite the release of the first tranche. However, the Bank has not always been in tune with other co-financiers in deciding about waivers e.g. in Mauritania the Bank redefined two conditions -- the privatization of the Banks and the restructuring of CSA -- at the time when the IMF and the World Bank found it necessary to bring this programme to a halt. It appears that the Bank finds it difficult to deter against non-compliance by withholding or nullifying tranche releases. It is only on few occasions that the Bank withheld tranche releases in the face of worsening macroeconomic framework or non-compliance with conditionality. It is even reported that tranches were released inspite of serious implementation problems. While the Bank has systematically sought cooperation and co-financing with the World Bank, it seems the Bank has tried to maintain its independence in assessing the advisability of tranche releases. However, in engaging in a new programme, the Bank still looks for approval from BWI. 2.3.3 Projections for disbursement are done on a loan by loan basis taking into account the processing time table and disbursement profile. Although a crunch on Bank resources due to higher disbursements than expected may be experienced now and then, the more recurrent problem is that of delays in disbursements arising mostly from borrower inability to fulfill loan conditions, particularly those relating to second tranches. But there are also some delays associated with procurement procedures and delays related to the conclusion of ADF VI. Of course, the recent delay in the conclusion of ADF VII brought ADF's lending operations including pbl operations, to a halt. Loan agreements were generally flexible to expedite disbursement of often front-loaded tranches. Due to liquidity problems facing its member countries, the Bank has been pressured to further relax its procedures and speed up disbursement, and in some cases, tranches have been disbursed in one slice contrary to loan agreements. While the Bank has, in general, been ready to stand by distressed member countries, it has not been tough in resorting to sanctions when the adjustment process slowed or broke down. In these cases, the number of tranches were often increased and spread out over a longer period of time. 2.3.4 In general, the Bank has developed strong ties with the World Bank in the field of policy-based lending so that the exchange of information, documents and views has become routine both at the formal and informal levels. Coordination with the World Bank relates to joint missions, appraisal, PERs, ESW and other stages of the programme cycle. Unfortunately, the Bank has not established similar collaborative links with other relevant development finance institutions on policy-based lending.

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2.3.5 Collaboration and co-financing with the World Bank enabled the Bank to undertake a greater number of operations than would have been possible with the Bank's available staff and financial resources. But, as explained earlier, the relationship with the World Bank may become strained if the Bank is perceived as being lax with respect to quick disbursements without due regard to compliance with conditionality. However, the Bank cannot be expected to be permanently and systematically tuned to the agenda of the BWI who have an understandable tendency to put their interest first. 2.3.6 While the Bank's quality as an African institution enables it to understand local realities, the lack of human resources impairs its ability to deepen and broaden the policy dialogue with and advice to member countries. While policy dialogue has improved in many instances, many member countries still fail to consult the Bank in some major issues in accordance with loan agreements. Low frequency or indeed lack of supervision and follow-up missions is a major reason for insufficient Bank/Government coordination. While some Governments occasionally ignore the World Bank, it is the Bank whose support is taken for granted by member countries with adverse impact on compliance with conditionality. 2.3.7 The weak institutional capacity of borrowers compounded by programme complexity and the number of programme components is a common cause of implementation difficulties. Efforts are often insufficient to ensure that the country can realistically deal with the number and complexity of measures. A major problem has been the failure to correctly assess the institutional capabilities of recipients to carry out wide ranging reforms. As a result donors have failed to enhance the countries' capabilities to ensure accountability. However, the Bank has learned from earlier experiences and recent adjustment programmes supported by the Bank either encompass technical assistance or are accompanied by Institutional Support Operations (ISO) notably in the areas of debt management, public investment and economic management. It is to be hoped that under ADF VII, high priority would be accorded to technical assistance and the financing of programmes of special emphasis that the Bank is promoting notably in poverty alleviation in the context of Social Dimension of Adjustment (SDA). 2.3.8 At the recipient country's level, implementation and monitoring of pbls is normally entrusted to an Inter-Ministerial Commission assisted by a Technical Secretariat made up of high ranking civil servants. The Technical Secretariat is usually supported by technical assistance with the financial support of the donors. The success or failure of the programme may revolve around the competence of the Technical Secretariat usually referred to as the Implementation Unit (IU). Effective monitoring of structural adjustment requires adequate, full time and committed human resources supported by sufficient financial resources. Persons chosen for IU should be competent and senior enough to have easy access to decision makers. Therefore, strengthening the IUs should receive considerably more attention from the Bank. 2.3.9 The Bank's efforts to support programme implementation has been limited to a mid-term review mission -- which is in fact no more than a tranche release mission. The Bank has failed to mount launching or regular follow-up missions as required by the loan agreements due, in the main, to lack of human and financial resources. Desk work is also inadequate since no regular progress reports are sent to the Bank. Besides, the results and observations of supervision missions are generally not followed up by action on part of the Bank beyond writing to the Government.

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2.3.10 However, supervision deficiencies can be highly detrimental particularly in an African context where adequate implementation of programmes requires continued monitoring. The Bank has a comparative advantage in extending substantive implementation assistance and in making managerial and professional inputs to implementation. Implementation assistance is probably one of the priority areas that should be emphasized and strengthened. The performance assistance exercise is a valuable first step towards introducing systematic Country Implementation Reviews (CIRs) which are useful means to trigger programme management diagnosis and address recurring implementation problems. 2.4 Impact Assessment 2.4.1 The evaluation of the outcome of policy reforms is usually fraught with difficulties. For one thing it is not easy (in the absence of macroeconomic models of national economies) to isolate the impact of policy reforms from the impact of exogenous factors taking place alongside policy reforms in an economy. Under the circumstance, what policy analysts have tried to do is to compare the performance under a programme to the situation that prevailed prior to the introduction of the policy measures. Using this approach, this report reviews the response of African economies to the policy reform measures contained in Bank Group policy-based lending programmes. The approach however suffers from one major limitation in that it cannot provide information on what might have happened to the economies in the absence of the programmes. For another thing, most of the programmes reviewed herein were co-financed with other donors, notably the Bretton Woods Institutions. In virtually all cases, the ADB Group was a minor player in terms of the volume of resources involved. Thus, attribution to the Bank Group becomes difficult, and although one can talk of ADB experience in policy based-lending, it may not be that easy to talk of the impact of the ADB in the area of policy based lending operations. But in so far as Pbls have recorded some success in Africa, the ADF as a cofinancier, can claim a part of that success. Similarly, the Bank should assume a measure of responsibility for the observed shortcomings of Pbls. 2.4.2 In virtually all countries where they were introduced, the first generation of pbls was put in place in response to severe economic crisis which manifested itself in internal and external imbalances, unsustainably large budget deficits, macroeconomic instability, widespread price and cost distortions, and declining GDP growth rates. In short, the then prevailing economic environment was not conducive to GDP growth. When evaluated against the background of the unfavourable initial conditions, the macroeconomic performance of adjusting countries can be described as relatively satisfactory. In some countries, growth has actually resumed. In Chad, cotton production has increased as a result of the reforms. In Uganda, growth has accelerated at an impressive rate. But in some countries (Zambia and Zimbabwe), growth performance is erratic and hesitant largely because of the uncertainty surrounding weather conditions and by the poor response of the economy to some of the policy measures. In some other countries, growth has been propelled by special circumstances. For example, growth in Morocco was fuelled by good export performance, while in Guinea Bissau, growth was due to the rechannelling of previously smuggled cashew nuts to official exports. In Mauritania growth was due to exogenous factors. 2.4.3 Sectorally, agriculture appears to have benefitted from the reform measures. By decontrolling trade in agricultural products and by eliminating currency overvaluation, the reform measures have encouraged agricultural production and exports. To the extent that the bulk of Africans derive their means of livelihood from this sector, the reforms could be said to have improved living conditions in general. But an examination of the poverty situation in Africa would tend to suggest a modification of the last statement. While improvements in the agricultural sector appear to be alleviating the poverty situation, the indiscriminate cuts in public expenditures on the social sector (health, education) appear to be negating the gains made in the agricultural sector. Thus, poverty, rather than decline, is on the increase in most African countries. In some, the living wage is lower

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today than say thirty years ago. In Uganda, Zambia and Zimbabwe, the initiatives taken so far for poverty alleviation have produced only limited successes. The situation is further aggravated by limited access to credit (a product of monetary restraint which accompanies reform programmes), and by the retrenchment of workers of liquidated public enterprises. But it must be admitted that much of what is known of the poverty situation in Africa is hazy. Very little is known of its dynamics, spread and depth, not to mention its appropriate measurement. If the Bank Group is to be in a position to frontally attack poverty and its root causes, then the Bank needs to devote some resources into research aimed at enhancing the understanding of the nature, dynamics, spread and depth of poverty in Africa. 2.4.4 Unlike the agricultural sector, the industrial sector has been severely hit by the reforms. This outcome is not unexpected. Most industries grew up behind the walls of protection and heavy subsides. Thus, as liberalization took place, these industries necessarily became uncompetitive. In Kenya, industrial production declined sharply. In Zambia, the textile industry collapsed in the face of stiff competition from the market from second-hand clothing. While the reforms are instilling economic efficiency into these economies, they appear to be undermining the process of industrialization. But it must be mentioned that there are few cases (e.g. Mauritius), where the reforms have enhanced the process of industrialization. Furthermore, the failure to put these reform measures in a regional or sub-regional setting is also hurting the industrial sector. For example, policy disharmony between Zambia and the Republic of South Africa is leading to the dumping of South African exports in Zambia. In future designs of these programmes, it would be essential to situate them in the context of sub-regional economic integration schemes. Admittedly this might be difficult, but the difficulties could be overcome through research efforts. 2.4.5 On the external front, considerable success has been recorded. Overvaluation of national currencies is now a thing of the past as most exchange rates are now market determined. But they remain by and large, unstable (eg. Ghana's cedi). The continuous depreciation of currencies implies lack of confidence in the system and/or official inability to control the budget deficit. But currency depreciation has also not contributed to better export performance and diversification of the export mix. Analysis shows that the elasticity of African exports is low (less than one). This implies that Africa's share in world imports will continue to decline, unless an improvement in the supply response as a result of structural adjustment policy packages is achieved in the near future. As expected, current account deficits continue to widen in most countries. 2.4.6 External debt continues to be a problem, though not on the scale of the last two decades. Even taking into account the concessionality of the outstanding debt, the debt burden has increased to unsustainable levels for many of the Sub-Saharan African countries (According to debt sustainability assessment made in the framework of the HIPC initiative, 13 of the 29 SPA countries were considered sustainable, 9 possibly stressed and 7 unsustainable). Debt service ratios have approached the 30 per cent threshold for most of the African countries. A possible side effect is that the continent hardly benefits from the world-wide upswing in foreign direct and portfolio investment. While for the world as a whole, international capital inflows have increased by a factor of at least four, net private capital inflows into Sub-Saharan Africa have remained stagnant. But the situation is not all that bleak as the implementation of policy reforms is restoring confidence in these economies thereby opening up opportunities for debt relief. Uganda now appears set to benefit from the new initiative on debt relief, thanks to its commitment to policy reforms. While progress is being made on external debt reduction, in some countries (e.g. Zambia), the growth of domestic debt is posing a new threat to macroeconomic stability. 2.4.7 The financial sector has also benefitted from the reform measures. Interest rates are, for

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the most part, now market determined and real interest rates are positive. But the financial system in most countries (Zambia, Uganda, Zimbabwe) remains highly unstable. This instability is traceable in part, to the weak regulatory and supervisory mechanisms in place and to the nature of the reforms. Where, for example, macroeconomic stability has not been fully restored, the liberalization of the financial system is likely to lead to financial collapse as occurred in Zambia. Thus, the timing and sequencing of these reform programmes are critical to their outcomes. 2.4.8 In most countries, the budgetary process has been strengthened and public expenditure rationalized. Revenue authorities have been established (Uganda, Kenya and Zambia) while the tax system has been drastically overhauled in Kenya. Thus, revenue collection is better today than it was in the past. But in most countries, governments continue to have difficulty in controlling the budget deficit. In some, this is due to official fiscal laxity while in others it is due to exogenous factors like drought. The inability to control the fiscal deficit partly explains the existence of double digit inflation rates in several countries. If policy reforms are to have lasting effects, there is a need for stricter control over the budget deficit, and the issue of what is `optimal' budget deficit agreed upon at the appraisal stage. 2.4.9 Inspite of all these efforts, the efficiency of both internal and external public sector need to be further improved. Public Investment Programmes (PIPs) still contain large numbers of projects that have not been adequately prepared or appraised and the choice of projects does not seem to be based on economic or social rates of return and fail to assess the impact on the recurrent budget and the rest of the economy. In addition, public expenditure reductions seem to have fallen mainly on capital expenditures. The weakness of the public investment pipeline is now the major constraining factor in expanding investment which has been stagnant over the years. This, coupled with the lagged growth in private investment (it takes time to respond to a more favourable incentive climate), may have adverse long term effects on the sustainability of whatever economic recovery is generated. In addition, public expenditure budgets do not make adequate provisions for recurrent expenditures besides those for meeting wages and social expenditures are increasingly financed by external donors. However, stabilization efforts centred around public finance reform, have not yielded significant reduction in the budgetary deficit. There is growing belief that fiscal gaps are holding back investment and growth and a general awareness that determination of aid requirements based of fiscal gap would be more appropriate to the next phases of structural adjustment. 2.4.10 Perhaps the single most important achievement of these reform measures is the almost irrevocable alteration in government philosophy towards the management of national economies. Central planning has given way to the reliance on markets in the allocation of resources and increasingly, governments are doing away with controls and regulations over their economies. This is a major achievement which these countries should be encouraged to continue and indeed, intensify. Policy reversals must however be prevented at all costs. Partly as a result of the introduction of market-oriented economic systems and partly as result of the removal of price and cost distortions which came in its wake, a conducive atmosphere is being created in most African countries for private sector initiative. Increasingly, governments are divesting themselves of unprofitable state enterprises -- some are being commercialized while others are being privatized. Zambia is usually cited here as a success story. Its Privatization Agency has made considerable progress in liquidating loss-making enterprises and in setting in motion the privatization of the giant Zambian Consolidated Copper Mines. Elsewhere in Africa, the trend is broadly similar. If as it is currently being proposed, the private sector is to serve as Africa's engine of growth, then ongoing momentum towards the restructuring and eventual commercialization and privatization of public enterprises should be encouraged and assisted by all donors. 2.4.11 Pbls have contributed to a clearer delineation of the rights and obligations of all parties

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involved and to the setting up of coherent macroeconomic and sectoral strategies. Few countries have managed to marshall political support for the reform programmes, and the majority of African countries have not internalized the adjustment process and are therefore in extremely weak position in negotiating with external donors. More often than not, Governments embark on far reaching reforms such as exchange rate liberalization and depreciation without adequate preparatory work or consultations with and participation of their civil society. 2.4.12 Unlike the World Bank, the ADB lacks facilities to provide financial support for carrying out certain activities (surveys, studies, programme design, think tanks etc.) needed for project preparation. Under ADF VII 90 per cent of the Technical Assistance Fund (TAF) was earmarked for grants or loans for project preparation or implementation and the remainder is made available for institution building support. As such, technical assistance loans for institution building have been modest in scope and mostly limited to financing technical assistance personnel in a Government ministry for the preparation of some needed study or plan rather than for fostering institutional development through funding of infrastructures and related operational costs, long term staff development plans or public sector restructuring. Technical assistance has not been used to help borrowers internalize the mechanism of policy analysis and dialogue within their institutional framework. The Bank needs to look at these needs very carefully and incorporate them in its approaches to pbls in order to enhance the impact of structural programmes. 2.4.13 The first generation of adjustment programmes was an instrument of crisis management. The crisis now appears to have relatively subsided as growth is on an upward trend in most countries. In addition, most governments have now accepted the fact that there are no substitutes to sound economic policies. The next challenge is how to avert policy reversals and how to address the more difficult question of economic transformation. The next generation of adjustment programmes must therefore address the issues of long-term development such as trade reform, restructuring and privatization of public enterprises, the reform and regulation of the financial system, improving the environment for private sector initiative, poverty reduction, human resource development, the environment and Africa's economic integration. 2.5 Sustainability 2.5.1 As argued above, the impact of structural adjustment in Africa has so far been below expectations. There is growing realization that early thinking about structural adjustment was too optimistic about the time frame required to bring about such fundamental changes. To sustain the achievements so far, more deepening and broadening of the adjustment process is needed, taking into account the lessons already learned on ownership, design, pace, sequencing and selectivity. In addition it is important for the Bank to realize that the sustainability of benefits resulting from its involvement may be impaired by the lack of complementary measures, the lack of institutional mechanism to support the reforms and the failure of the programmes to make allowance for uncertainties. 2.5.2 However, it is clear that the debt overhang remains a risk and may threaten the future course and success of adjustment programmes. Despite successive reschedulings, the debt service burden for most African countries remains substantial. In addition, the African economies have failed to diversify the base and direction of trade and the balance of payments remains vulnerable to external shocks. It is equally important for future success of structural adjustment that the social dimensions are effectively tackled. A third factor that might affect further sustainability of structural adjustment is the streamlining of the budgetary process. Although this is desirable in its own right, the curtailment of budget outlays should not be allowed to continue to constrain investment and undermine the mobilization of human and material resources.

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2.5.3 The sustainability of current reform programmes would depend on the extent to which their social consequences are ameliorated. If poverty increases in incidence and coverage, it might become increasingly difficult for the political leadership to carry the people along with it. The social unrest which accompanied the increases in the price of maize meal in Zambia in the 1980s, and the subsequent abandonment of the reform programme that gave rise to it, point to the risk inherent in the failure to ameliorate the social consequences of adjustment. Zambia paid dearly for that policy reversal in the form of prolongation of its economic crisis. 2.5.4 Closely related to this is the commitment of the political class. Where this is lacking, the possibility of policy reversals is high. But where the political leadership is committed (as in the case of Uganda), sustainability seems assured, particularly when the political class institutionalizes economic efficiency as a government objective. 2.6 Overall Programme Performance 2.6.1 Although programme implementation suffered from some weaknesses and results were below expectations, it is clear that a number of countries under adjustment have witnessed some significant real growth and some improvement in their balance of payments. However, economic growth was accompanied by inflation largely due to currency depreciation, fiscal deficits and exogenous factors like drought. Only a few countries (Mauritius, Morocco and Tunisia) are at a stage of adjustment deepening without recourse to large price shifts. In countries where adjustment has not improved economic growth, it has at least improved the overall incentive system and laid the foundation for economic recovery. 2.6.2 The countries where adjustment has been reasonably successful exhibit at least five common features. First, they have carried out exchange rate adjustments. Second, although export promotion was high on the policy agenda, it was preceded by successful across-the-board trade liberalization. Third, they have persevered with cautious and selective adjustment supported by extensive external aid resource flows. Fourth, prior stabilization efforts were carried out so as to provide the conducive environment for effective programme implementation. Finally, political commitment to the adjustment process was usually strong. While effective and quick stabilization is a pre-requisite for successful adjustment, the question arises of how to reconcile it with concerns expressed about stringent fiscal policies, the need to alleviate poverty and to protect vulnerable groups. In addition, the Bank also needs to be concerned with sound design of adjustment programmes taking into account the lessons of past experience with programme design and implementation. 2.6.3 It is generally admitted now that the record of structural adjustment to date in Africa has been below expectations (this is general and is not limited to those programmes in which the ADB participated) in that the results in Africa have been less dramatic than in other parts of the world. This may in part reflect the severity of the initial conditions of the African economies on the eve of the adjustment process. It may also be due to the sheer number and complexity (in the form of extensive conditionalities) of reforms to be undertaken in the face of limited institutional and implementation capacities. Yet others blame lack of ownership by African countries of the adjustment process and poor design of the adjustment policies. A recent World Bank study (OED: Adjustment Lending in Sub-Saharan Africa: an Update, Washington 1997) recommends that to improved the performance of Structural Adjustment in African, there is need for:

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i) increased selectivity in adjustment lending; ii) improved design; iii) Improved benchmarks and indicators of progress towards the objective of poverty

alleviation and fiscal sustainability. It is now generally recognized that the structural adjustment process would take more time to bear fruits in the African context than elsewhere. Indeed it has been argued that economic reform needs to be seen as the foundation upon which sustainable and equitable development can be built in Africa.

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III: THE WAY FORWARD 3.1 Rationale for Bank's Involvement in Pbls 3.1.1 The economic crisis which engulfed African countries in the 1970s are traceable to external and interal factors. Notable among the internal factors was the pursuit of inappropriate economic policies by most African countries. Consequently, it was thought, rightly, that the reform of policies should be a first step towards the restoration of growth. The BWI took the lead in this area with pbls -- a form of quick-disbursing loans aimed at providing balance of payments and other support for countries implementing reform programmes. One of the advantages which Pbls conferred on BWI is the opportunity to engage in policy dialogue with countries implementing them. Impressed by these advantages, regional member countries themselves began to demand such lending operations from the Bank. Partly in response to this demand, and partly in response to the directives of ADF Deputies on the matter, the Bank decided to expand its operations to include Pbls. But in doing so, it also followed the directives of ADF Deputies that such operations should be cofinanced with the BWI. 3.2 The Bank's Role and Effectiveness 3.2.1 The Bank entered the adjustment scene with limited human and financial resources. It therefore had to follow the main thrust of the BWI programmes especially through co-financing. While this has brought benefits to the Bank's involvement with pbl operations, it also had many shortcomings. These include the criticisms of the programmes relating to lack of ownership, inappropriate design, pace of reforms, lack of selectivity, lack of attention to institutional capabilities of recipient country, inadequate attention to poverty alleviation and protection of vulnerable groups. In essence these are primarily criticisms of the BWI and only by extension of the ADB Group, and need to be viewed in that perspective. However, recent though limited initiatives, notably in the areas of SDA and ISO may be seen as manifestations of the Bank's maturing in policy-based assistance. The Bank can further enhance its effectiveness through active involvement in identification and preparation which are the most dominant stages in the policy-based lending cycle. Programme identification is critically dependent on continued diagnostic economic and sector work and an active dialogue with potential beneficiaries on macroeconomic and sectoral issues. It is during identification and preparation and through intensive and extensive ESW that key areas of intervention, the strategies to be adopted and the macroeconomic and sectoral policies to be pursued, are clearly defined. Bank's effectiveness could be further advanced if the Bank carved a role for itself from among the list of reform measures in the PFP. For example, it could choose to concentrate its resources say on poverty reduction programmes. This way it would be able to effectively monitor developments in this area. 3.2.2 It is to be noted that when the Bank was involved early in the preparation and appraisal of pbls, it has shown ability and willingness to contribute to programme design. Although the World Bank has identified the need to deepen the reform programme in Mauritius by extending it to the level of the sectors (industry) on the basis of studies undertaken during the SALs, it was the Bank that actually initiated action on the industrial sector programme. The Bank played a key role in the ESAP of Côte d'Ivoire especially on the final packaging of the loan and with respect to ECCI 's short term debt reduction. In the case of Zimbabwe weaknesses were diagnosed by the ADB and not the World Bank and it was the Bank that took the lead in the SDA operations. The Bank has also approved structural adjustment operations without co-financing with the World Bank (Equatorial Guinea, Mali, Algeria) which entailed, among other things, drafting or helping the Government in drafting Letters of Development Policy. 3.2.3 While the Bank has developed direct beneficial operational and other links with the

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World Bank, it had not, until recently, forged direct operational links with the IMF. The ADB needs to strengthen these operational links if it is to ensure timely access to crucial information on its member countries. The Bank would find it extremely difficult to play a significant leadership role in structural adjustment operations without developing such close operational links with the IMF. In addition, the Bank will need to devote enough human and financial resources to enhance its capacity in policy-based lending operations. In co-financing, the Bank has found itself in an unequal position vis-a-vis other co-financier and as such, unable to have much influence on the design of the programme. 3.3 The Future of Policy-Based Lending Operations 3.3.1 As an instrument of policy reform, there is no doubt that Pbls have been largely successful in Africa. From one adjusting country to the other, they can be credited with the changing perception about the role of government in economic activity. In most countries, government control has given way to reliance on markets for the allocation and utilization of resources. Consequently, price and cost distortions are being gradually eliminated and this is paving the way for the resumption of growth in most of these countries. But as mentioned earlier, the first generation of Pbls was an instrument for managing the crisis which engulfed the continent in the early 1970s. Partly as a result of the implementation of the Pbls and partly as a result of the assistance of the international donor community, this crisis now appears to be subsiding. The challenge now is how to consolidate the gains of the past by redesigning Pbls as instruments of long-term growth rather than instruments of crisis management. 3.3.2 One area of weakness of Pbls in Africa is their design. The Bank should use its understanding of African realities to test programme design against such critical features as: (i) consensus around the programme and its acceptability; (ii) the institutional ability to implement and sustain the programme; (iii) selectivity, sequencing, pace and realism of reform taking into account the country's institutional capacity (iv) the assessment of risks and uncertainties and the necessary flexibility to adapt the strategy; (v) clarification of the conditions necessary for programme coherence and consistency; (vi) enumeration of performance and implementation indicators and the conditions that would trigger revision in programme design. The Bank should also take a longer-term view of the adjustment process by refocussing Pbls on issues of long-term development and the integration of African economies. 3.3.3 In view of the numerous problems associated with Pbls in Africa, it is tempting to propose that the Bank should now withdraw from such operations. This temptation should be resisted for several reasons. Firstly, Pbls have improved the policy environment in Africa and it would be difficult to imagine an African policy landscape without an instrument for policy reform. Secondly, Pbls have provided the Bank with a forum for engaging in policy dialogue with regional member states particularly on the important questions of economic policy reform and governance. They have also provided a forum for discussing other lending operations with member states. Third, Pbls are useful in creating the environment for private sector initiative, which is of critical importance to Africa's current development efforts. Finally, by co-financing them with the BWI, Pbls have strenghtened the collaboration between the Bank and these institutions, not only in the area of policy reform but in other important areas of Bank Group operations. 3.3.4 From the above, it can be concluded that the Bank should continue to be involved in policy-based lending operations as they facilitate policy dialogue with member countries. But the Bank

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should be more involved in upstream operation such as extensive and intensive ESW, and preparation of PFPs and downstream activities such as poverty alleviation and ISOs as well as direct dialogue with the RMCs. When co-financing a pbl operation, the Bank should clearly define its domain of intervention and modalities and adapt the programme design to maximize performance. Together with more stringency in country eligibility and selectivity in the type of operations to be supported, the Bank also needs to improve the quality of its intervention through better management of the whole project cycle and enhancement of the quality of Bank resources in terms of volume, timely approval and disbursement of loans. 3.3.5 Throughout this report and elsewhere in the Bank's Annual Portfolio Performance Review, it was found that SECALS probably perform better than SALs. On the basis of this finding, it is tempting to recommend to the Bank to concentrate on SECALs. Again, this temptation should be resisted. First, SECALs are not in anyway easier to design and implement than SALs, not to mention their shortcomings as vehicles for achieving macroeconomic objectives. The seeming ease of implementing SECALs may be due to their limited menu of policy actions as compared with SALs. Second, SECALs require sound economic policies (the outcome of SALs) in order to be successful. On the other hand, SALs have the disadvantage of having too many policy actions to be implemented -- most of the time, simultaneously -- and these often tax the limited human and institutional capacities of member states. But as economy-wide programmes, they have the potential capacity for creating an appropriate domestic macroeconomic environment not only for the success of SECALs, but also for the success of other project lending operations. Thus, the choice is not between one or the other, but rather how to direct Pbls -- as a body of reform measures -- to the goals of long-term development whereby an increasing number of ADF-only countries could graduate into the `blend' category if not immediately into ADB `category'. But there could be cases however when SECALs are to be preferred. Such cases might include the need to address sectoral issues in greater depth or to focus on microeconomic strategies for sectoral development. 3.3.6 African countries are at different stages in the adoption and formulation of reform programmes. While the need of some will be for SALs, the needs of some other countries will be for SECALs. The problem before the Bank is one of selectivity for maximum impact. Since the Bank is a small player in terms of the resources it can deploy for Pbls, it may want to be selective in the choice of country to support for Pbls. It may also want to be selective in its areas of intervention. These choices should be part of the overall country assistance strategy -- a strategy that could be made easier by the evolving performance-based allocation of resources. 3.3.7 In order to further enhance its effectiveness in Pbls the Bank will need to strengthen its capacity for policy analysis and economic and sector work and its ability to translate its sensitivity to and understanding of Africa realities into workable operational models. It will also need to foster indigenous thinking and programme preparation for a more effective role in pbl operations, utilizing its comparative advantage as an African institution in constructive dialogue with member countries. 3.4 Conclusions It is now more than ten years since the Bank started adjustment lending. Pbls have achieved relative success in creating conducive macroeconomic environment in countries where they were implemented. The Bank has thereby acquired considerable leverage in policy dialogue with such countries. But the experience has not been problem-free. There have been problems with the implementation, ownership and design of such programmes. Policy-based lending programmes have provided the Bank with the opportunity for regular policy dialogue with member states and this has positively influenced the environment in which other project lendings are situated. But the Bank may

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wish to be more selective in the choice of countries to support with this kind of lending in order to achieve maximum country impact. Selectivity is also called for in the areas of intervention. Finally, the Bank should take a longer-term view of the adjustment process. Now that the initial crisis is more or less over in most countries, the Bank should redesign the next generation of adjustment programmes to focus on issues of long term development as spelt out in paragraphs 2.4.13 and 3.3.2.

Table 1 Policy-Based Operations Reviewed

Country Year Operation Amount (UA Million)

Gambia 1986 Multisector Rehabilitation 9.21

Zambia 1986 Industrial Reorientation Loan 25.00

Congo 1987 Structural Adjustment Loan 40.00

Guinea-Bissau 1987 Structural Adjustment Loan 9.21

Mauritius 1987 Industrial Sector Adjustment Loan 30.00

Senegal 1987 Structural Adjustment Loan 27.63

Tunisia 1987 Industrial Sector Adjustment Loan 80.00

Côte d'Ivoire 1988 Energy Sector Loan 120.00

Ghana 1988 Industrial Sector Loan 50.00

Mauritania 1988 Structural Adjustment Programme 13.82

Togo 1988 Structural Adjustment Programme 13.82

Uganda 1988 Economy Recovery Loan 27.63

Chad 1989 Public Sector Economic and Financial Restructuring Programme 27.63

Kenya 1989 Industrial Sector Adjustment Loan 18.42

Morocco 1989 Structural Adjustment Loan 100.00

Zambia 1991 Economic Recovery Loan 18.42

Tunisia 1991 Agricultural Sector Adjustment Programme 90.00

Ghana 1991 Private Sector Structural Programme 18.42

Zimbabwe 1991 Structural Adjustment Loan 125.00

Uganda 1991 Structural Adjustment Programme II 23.03

Equatorial Guinea

1992 Structural Adjustment Loan 8.29

Morocco 1993 Consolidation of the Structural Adjustment Programme 100.00

Malawi 1993 Agricultural Sector Adjustment Programme 15.66

Gabon 1994 Economic Recovery Programme 50.00

Tunisia 1994 Economic and Financial Reform Strengthening Loan 80.00

Côte d'Ivoire 1996 Agricultural Sector Adjustment Programme Phase II 15.00

Mozambique 1997 Economic Rehabilitation Loan III 50.00

Uganda 1997 Structural Adjustment Programme II 27.77