Overcoming Barriers to Reform: On Incentive-Compatible International Assistance

30 Pages Posted: 28 Nov 2007

See all articles by Alexandros Mourmouras

Alexandros Mourmouras

International Monetary Fund (IMF) - Policy Development and Review Department

Wolfgang Mayer

University of Cincinnati - McMicken College of Arts and Sciences - Department of Economics

Date Written: October 2007

Abstract

International financial assistance (loans and grants) can potentially raise recipients' welfare in two ways, by affecting a direct resource transfer and by facilitating efficiency-enhancing reforms. In practice, barriers to reform limit the potential of assistance to deliver these two dividends. In this paper, we analyze assistance programs designed to ensure that recipient governments voluntarily adopt reforms and overcome barriers associated with: (i) the reaction of special interests to the prospect of reform; (ii) the possibility of default and political instability in the recipient country; and (iii) adverse selection and moral hazard. Reform barriers raise the cost of incentive-compatible assistance and may result either in no assistance being forthcoming or assistance that ensures repayment but not the implementation of reforms. Critical to the choice of assistance programs is the size of the rent accruing to special interests in the absence of reform and the limited liability rents needed to ensure that repayment terms do not threaten the country's political stability. Optimal assistance contracts feature flexible repayment terms related to real economic growth in recipient countries.

Keywords: Working Paper, Economic reforms, Development assistance

Suggested Citation

Mourmouras, Alexandros and Mayer, Wolfgang, Overcoming Barriers to Reform: On Incentive-Compatible International Assistance (October 2007). IMF Working Papers, Vol. , pp. 1-28, 2007. Available at SSRN: https://ssrn.com/abstract=1033211

Alexandros Mourmouras

International Monetary Fund (IMF) - Policy Development and Review Department ( email )

700 19th St. NW
Room 5-311
Washington, DC 20431
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Wolfgang Mayer (Contact Author)

University of Cincinnati - McMicken College of Arts and Sciences - Department of Economics ( email )

1202 Crosley
P.O. Box 210371
Cincinnati, OH 45221-0371
United States
513-556-2600 (Phone)
513-556-2669 (Fax)

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