External financing and balance of payments adjustment in developing countries: Getting a better policy mix

Countries deal with balance of payments deficits by financing or by pursuing adjustment policies. A binding external financing constraint forces governments to opt for relatively quick-acting demand-side adjustment strategies. in some circumstances demand-side adjustment may be appropriate, but in many developing countries structural adjustment is needed, and here adjustment and external financing are complements rather than substitutes. Evidence from the 1980s suggests that, often under the auspices of the International Monetary Fund (IMF), there has been a significant shift toward short-run adjustment, with adverse consequences for investment and future economic growth. The mix between adjustment and external financing needs to be reassessed. A shift toward structural adjustment needs to be accompanied by increased short-to medium-term external financing. For many low-income countries this implies an important financing role for the international financial institutions. (C) 1997 Elsevier Science Ltd.