The IMF and precautionary lending: An empirical evaluation of the selectivity and effectiveness of the Flexible Credit Line

This paper provides an empirical evaluation of the Flexible Credit Line (FCL), the IMF’s prime precautionary lending instrument since 2009 to which so far only Mexico, Colombia and Poland have subscribed. We consider both questions of selectivity and effectiveness: first, which variables explain the three countries’ participation in FCL arrangements? And second, to which extent has the FCL delivered on its promise of boosting market confidence in its respective users? Based on a probit analysis, we show that FCL selectivity can be explained by both demand- and supply-side factors. The probability of participation in the FCL was greater in countries that experienced larger prior exchange market pressures, that had lower bond spreads and inflation, that accounted for higher shares in US exports, and that exhibited a higher propensity of making political concessions to the US. Using a synthetic control approach, we find evidence for some, but generally limited beneficial effects on sovereign bond spreads and gross capital inflows into the three FCL countries. Overall, our results suggest that any economic stigma that may prevent eligible countries from entering into an FCL arrangement is unwarranted. Conversely, the apparent link of FCL participation with US interests is not conducive to overcoming political stigma.