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by Mohsin S. Khan and Sunil Sharma

For the international community, one of the biggest challenges is how to reconcile the need for more country ownership of adjustment and reform programs with the need for conditions on IMF loans. Critics charge that IMF

conditions are too numerous or too intrusive and hence undermine country ownership. A variety of solutions are being explored, including focusing conditions not just on policies but also on outcomes.

When the IMF lends to member countries, it attaches conditions to those loans - known as "conditionality." This is nothing unusual in the world of borrowers and lenders. Indeed, the finance literature shows that some form of conditionality must be present in virtually all borrower-lender relationships. The IMF is mandated by its charter to extend temporary financial assistance to its member countries facing balance of payments difficulties "under adequate safeguards." It thus has to have assurances that it will be repaid.

Countries in need of IMF loans generally do not possess internationally valuable collateral. If they did, they could use to borrow from private lenders and would not require IMF funding. In the absence of collateral, private loan contacts typically include various forms of covenants designed to protect the lender and prohibit the borrower from taking actions that could reduce the probability of repayment. IMF conditionality can be viewed as a complex covenant written into the loan agreement. It thus serves, in a sense, as a substitute for collateral.

In recent years, the international community has become increasingly aware of the importance of country ownership of adjustment and reform programs, which by aligning the incentives of the borrower and the lender, contributes to the programs' success. For the country, program ownership, by reflecting a firm commitment from the government, implies that the difficult policy measures designed to correct macroeconomic problems are more likely to be implemented. For the IMF, program ownership raises the probability of the success of programs and thus increases the "value" of the safeguards on its resources provided by conditionality.

Clearly, both IMF conditionality and country ownership have a rationale, but the challenge is reconciling the two.

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