Out of the Trap

• Author: Ambroise Fayolle
• Position: Assistant Secretary in charge of Multilateral Affairs, Trade, and Development Policies at the French Treasury Department

How to improve financing for fragile states

Since 2001, the donor community has identified fragile states as a specific group requiring its own development approach, especially in terms of financing, reforms, and capacity building. The term fragile states encompasses many situations and includes countries recovering from conflict (postconflict countries) and those classified by the World Bank as low-income countries under stress (LICUS), meaning that they have weak institutions and policies.

While the situation in postconflict countries is often very volatile, with big medical and humanitarian needs, LICUS countries are more likely to face bottlenecks and problems of poor performance caused by weak institutions. Although both types of countries are highly heterogeneous, most of them are aid orphans and none is able to attract private financing on a sustainable basis. They face a common set of challenges, including high security risks and threats to development, which require, beyond the current ad hoc treatments, a quick, tailored, and harmonized response by donors.

Although much has been done to improve the speed and effectiveness of donors' response to these countries, a lot more can be achieved. Multilateral institutions are hamstrung by overly restrictive rules, and bilateral donors often put too much emphasis on fiduciary risks and the ring fencing of donor monies. It often appears as though the international community has lost sight of its ultimate goal: preventing the resumption of crisis (and its additional costs) and fully supporting countries that are turning themselves around.

This article looks at specific constraints faced by fragile states and how donors are addressing these issues and suggests possible ways forward.

Failing to address needs

Fragile states face volatile situations that can deteriorate very fast. They urgently need to promote "quick wins" to consolidate their citizens' confidence. The international community needs to grab every chance it gets to create momentum in favor of reformers and, in each country, agree on the appropriate timing and sequencing of donor assistance. Yet, for various reasons, aid programs are not properly designed to assist fragile states. In particular, international financial institutions (IFIs) have set up their own roadblocks that constrain swift action.

The first concerns countries' arrears. During a crisis, most fragile states will have accumulated arrears to institutions like the World Bank and the IMF. Under their rules, IFIs have to stop lending to states that are in arrears on repayments. This rule ties the hands of multilateral lenders when it comes time to help in the wake of the crisis.

A second roadblock is the conditions countries must meet to restore sound relations with the IMF. Restoration of normal relations with the IMF, and the creation of a positive repayment track record, is crucial because it permits other donors to resume fulfilling their commitments. But fragile states often find it difficult to meet the IMF's conditions, which may be hard to achieve in the short term in many cases, even if the Fund is able to show flexibility in program implementation by taking into account weak institutional capacity and the time needed to implement structural reforms.

A third roadblock is eligibility, where different criteria are used for debt relief and IMF lending. The successive extensions of debt relief to...