IFIS' ACTIONS IN ETHIOPIA REMAIN IFFY

C O N F I D E N T I A L SECTION 01 OF 05 ADDIS ABABA 003462 SENSITIVE SIPDIS DEPARTMENT FOR EEB/IFD, ODF, AF/E, AND AF/EPS TREASURY FOR REBECCA KLEIN AND STEPHEN ALTHEIM USAID FOR AFR/EA TREASURY PLEASE PASS TO WORLD BANK USED OFFICE E.O. 12958: DECL: 12/05/2017 TAGS: EAID ECON PGOV EFIN PREL IBRD ET SUBJECT: IFIS' ACTIONS IN ETHIOPIA REMAIN IFFY REF: A. ADDIS 3422 ¶B. ADDIS 3100 ¶C. ADDIS 2800 ¶D. ADDIS 2254 ¶E. ADDIS 1439 ADDIS ABAB 00003462 001.2 OF 005 Classified By: Ambassador Donald Yamamoto for reasons 1.4 (b) and (d). This is an Action Request; please see para 13. SUMMARY -------------- ¶1. (C) As Ethiopia grapples with an increasingly dire economic crisis its need for financial and development assistance from international financial and development institutions (IFIs) is acute. The International Monetary Fund (IMF) and World Bank (the Bank) have not engaged the Ethiopian Government (GoE) substantively on the structural macroeconomic and governance reforms increasingly critical to Ethiopia's long-term stability and prosperity. The donor community was taken aback by the IMF's endorsement of what even its ResRep has called the GoE's "highly dubious" economic statistics in its own documents in exchange for gradually expanded access to GoE data and policy-makers. The Bank and African Development Bank (AfDB),on the other hand, appear more intent on programming the next funding tranche than substantively engaging the GoE on, or tying subsequent funding to performance on, structural reforms. ¶2. (C) While we have seen a slight change in World Bank/Ethiopia's position over the past five months from once condemning "Ethiopessimists" to now at least taking note of the current crisis, such change does not appear to have yet translated into the robust dialogue needed to spur reforms. The United States has put these institutions on notice in recent weeks through discussions and strong statements at voting time (Ref. A). The IMF is now developing an emergency balance of payments (BoP) support package for Ethiopia through its Exogenous Shocks Facility (ESF). The World Bank is revising a follow-on project to its flagship Protecting Basic Services (PBS) program and contemplating a new direct budget support (DBS) package. As such, now is the time for U.S. leadership and intensive engagement with the IFIs to establish with the GoE clear policy reform benchmarks and underscore that additional funding could be affected unless Ethiopia introduces the macroeconomic and governance fundamentals critical to long-term development and sustainability. End Summary 2005 SET THE TONE -------------- ¶3. (SBU) The violent and repressive aftermath to the May 2005 national elections set the current tone for GoE-donor engagement. In response to actions by the GoE severely limiting political space, major donors including the Bank, Canada, the UK, Ireland, and European Union withheld DBS from Ethiopia. Without the support of the U.S., which refrained from overtly criticizing the GoE's actions, the donors were able to note their frustration with the GoE, but not able to leverage adequately their assistance to secure a re-opening of political space. Facing a stalemate, the Bank, UK, and other donors devised a scheme of block grants to Ethiopia's regional governments to fund social service delivery. The program, known as "Protecting Basic Services" allowed these donors to save face by diverting DBS, but to continue their development activities in Ethiopia. In response to the public criticism of threatening to withhold aid, however, the GoE severely restricted access by both diplomatic and development representatives from these countries/institutions to senior GoE officials for the next year. In the two years since, donor assistance to meet the humanitarian and development needs of Africa's second largest population and the world's seventh least developed country has increased dramatically. Robust economic growth through late-2007 and a ADDIS ABAB 00003462 002.2 OF 005 strong roll-out of public services gave donors a silver lining to focus on despite the greatly restricted political space. Since early 2008, however, the on-set of hyperinflation, evidence of exaggerated official harvest figures, and global commodity price increases began to demonstrate to Ethiopia-watchers that the strong 2004-2008 growth was driven predominantly by external transfers -- accounting for almost 25 percent of GDP -- and the precarious ideology-driven macroeconomic fundamentals of the statist economic approach became clearer. WORLD BANK: PROMISING SAFEGUARDS -------------- ¶4. (SBU) The World Bank sold PBS to donors by highlighting a series of transparency and accountability safeguards in the "component four" social monitoring element of the project. Under "component four" the GoE agreed not only to open its books to PBS funders and be subjected to quarterly audits, but agreed to post financial data about PBS-funded expenditures at local administration offices for public review and subject the program to monitoring by domestic and international civil society organizations. The Bank assured its Board of Directors that PBS funding would be disbursed in tranches and only following assurances of full compliance with all safeguard provisions as evidenced through the quarterly audits. In a step to maintain pressure on the GoE following the shift from DBS to PBS, the World Bank also passed an Interim Country Assistance Strategy (ICAS) in May 2006 in a tepid attempt to exert pressure on the GoE by indicating that it would not return immediately to business as usual. ...BUT NOT ABIDING BY THEM... -------------- ¶5. (SBU) The Bank resumed business as usual within months of the PBS roll-out. While the GoE has taken tremendous steps in opening its books to donors and accepting quarterly audits, progress on the "component four" social monitoring provisions was significantly delayed by administrative delays by the Bank for over one year. While the social monitoring component was designed to produce an indicator of GoE receptivity to establishing a conducive political environment of accountability to the public, these delays delayed the availability of this indicator. Another, more explicit, indicator of such receptivity was the conduct of the April 2008 local elections and campaign period, in which the GoE impeded the ability of the opposition to access constituencies. Without the social monitoring indicator, willing to accept the GoE's verbal commitment, and unwilling to halt its flagship program, the Bank's team continued to authorize subsequent funding tranches without strictly honoring its accountability safeguards pledge to Executive Directors. Only in late 2007 did a few pilot social monitoring woredas (counties) become operational. In May 2008, however, the GoE unveiled a draft Charities and Societies Proclamation (CSO Law, Ref. B) which imposes significant prohibitions on foreign-funded NGOs. Despite pledges by the Bank in the Donor Assistance Group (DAG) -- the local donor coordination body which the Bank co-chairs -- to explore the implications of the CSO Law on PBS, the Bank has failed to provide such an analysis to date. ... JUST KEEPING THE MONEY FLOWING REGARDLESS OF RESULTS -------------- -------------- ¶6. (SBU) In March 2008 an internal Bank Country Assistance Evaluation (CAE) assessed that Bank assistance to Ethiopia from 1998-2006 was "moderately unsatisfactory" particularly in the governance, accountability, and private sector development sectors. The CAE argued that outcomes would have been better had the Bank 1) more candidly recognized differences with the GoE on key issues of policy, and 2) ensured a more demanding approach to the governance dialogue. The report recommended tightening the link between the ADDIS ABAB 00003462 003.2 OF 005 quality of policy dialogue and resource transfers. ¶7. (SBU) Instead of honoring its own concluding recommendation, just one month later the Bank loosened the reins on the Ethiopia program further by approving a full Country Assistance Strategy (CAS) arguing that the improvements made by the GoE since 2005 alleviated the concerns that prompted the more tenuous ICAS. The CAS is predicated on the fable of a "dual take-off" of economic productivity and service delivery, but ignores the facts that both of these are based overwhelmingly on external drivers and that the GoE has not made the structural reforms needed to sustain these in the medium-to-long term. In fact, in discussions with us, neither the Bank or IMF ResReps could identify indigenous drivers of Ethiopia's economic growth, instead pointing to the steady growth in foreign transfers and the luck of good weather conditions resulting in good harvests -- both of which have taken notable downturns in recent months. In arguing that transparency and accountability of basic service delivery by local governments is the best evidence of Ethiopia's improved governance since the ICAS, the CAS explicitly hides the fact that the GoE has refused to implement the very accountability and transparency measures that the Bank's staff insisted to donors in 2006 would be maintained for the PBS project. ...YET STILL IGNORING THE STRUCTURAL CHALLENGES -------------- -- ¶8. (C) The end of the Bank's allegiance to Ethiopia only started to emerge after passage of the CAS, but not before a series of Op/Eds by the Bank's ResRep in prominent Ethiopian newspapers late-summer 2008. In these, the ResRep condemned the "Ethiopessimists" for harping on the country's challenges and dismissing its advances and opportunities. By November, however, Ohashi himself adopted the tone of "Ethiopessimism" in a presentation to donors highlighting the Ethiopian economic "crisis." Despite on-going GoE-IMF dialogue on an ESF that would secure strong policy commitments from the GoE in exchange for BoP support (Ref. C),the Bank unilaterally presented its own de facto BoP support package to the GoE -- and without consulting donor partners -- under the guise of a Global Food Crisis Response Program (GFRP). Twice we engaged the Bank about our concerns over this effort and were told by the ResRep that it was a fait accompli diversion of funds diverted solely from previously-approved Bank projects in Ethiopia, rather than new money (Ref. D). As such, we were surprised to learn only in early December when the package was presented to the Bank's Board of Directors that the package included $137 million in new grants for Ethiopia and included no commitments from the GoE to address the structural imbalance that prompted the very need for the BoP support. Further, despite the GoE internally having accepted the conditionality required for a full-scope IMF ESF -- as confirmed to Post by two Cabinet ministers in October and reported in Ref. C -- the coincidence of this $275 million de facto BoP support from the Bank helped lead the GoE to reject the more robust IMF facility with its requirements for performance on policy reforms, in favor of the unconditioned Bank support. In discussing this project, the World Bank/Ethiopia's Chief Economist informed us that the Bank was "seeing significant progress" in its on-going policy reform dialogue with the GoE and expressed the Bank's expectation for this to lead to a Direct Budget Support package from the Bank for Ethiopia in the coming few months. IMF: WE'LL SAY ANYTHING TO MAINTAIN ACCESS -------------- ¶9. (C) With the Ethiopians adamantly opposed to foreign "direction" of their affairs, the IMF has long been received coolly in Addis Ababa. In recent years, annual Article IV consultations have offered the only formal Fund engagement in Ethiopia, allowing for a gradual building of confidence and slowly improved access to economic data. Despite acknowledging Ethiopia's economic growth figures as "highly ADDIS ABAB 00003462 004.2 OF 005 dubious," former IMF ResRep confirmed to us in April that if the Fund confirms more realistic but lower figures, it would be "invited to leave" the country. Despite confirming to donors in May that the Ethiopian economy was growing at roughly eight percent (Ref. E) and raving of a greatly improved quality of dialogue, the Fund opened its public Article IV report in July by echoing the GoE's fabled 11 percent growth figure and announced that it would begin sending two Missions to Ethiopia annually. The 11 percent figure was later repeated by the Economist Intelligence Unit and has served as a frequent point of inquiry raised by American investors looking for potential openings but confused by their findings in country. Additionally, based on verbal assurances by state-owned enterprises (SOEs),the Fund internally reported a debt-to-exports ratio of 125 percent, putting the country at stable-to-moderate risk. ¶10. (SBU) Since the IMF's May Mission, Ethiopia's persistent hard currency crunch has led the GoE to pursue a modest ESF BoP loan from the Fund. In contrast to the GoE's propensity, the IMF reported to us on December 11 that the GoE has agreed to deposit a letter of policy intent with the Fund in exchange for a $50 million loan. Despite statements to us by the Trade Minister and Economic Advisor to the Prime Minister in early October that Ethiopia was prepared to accept a $200 million facility or "as much as the Fund is willing to give us," the coincidence of the ESF with the Bank's de facto BoP loan through the GFRP, appears to have convinced the GoE that it did not have to sign on to the larger $150 million ESF facility which would have conditioned the second tranche of the loan on the GoE's follow-through in implementing the pledged reforms. According to the Fund, in exchange for the $50 million ESF facility, the GoE has pledged to: 1) eliminate all government borrowing, 2) eliminate domestic fuel subsidies, 3) increase tracking of SOE resources by the Finance Ministry, and 4) keep the growth of money supply under 20 percent per year. The Fund acknowledged that point 1 above will force the GoE to shift much more of its activities off-budget to SOEs. Still, they reported having received a pledge that the GoE will restrict SOE borrowing to 4-8 billion Birr (roughly $400,000-$800,000, or two percent of GDP). ¶11. (SBU) The Fund assessed that the Ethiopian Birr is roughly 40 percent overvalued, called the financial sector a "black box" into which they had gleaned no insights, and reported that clarifications on SOE debt since July actually put the debt-to-exports ratio at around 140 percent -- well into the moderate risk, and near the high risk, zone for debt distress that triggers restrictions on some donors' approvals of further loans to the country. Visiting team lead Robert Corker stated that the team was "pleased with the government's policy commitments, yet anxious about the situation." Instead of noting the need for the GoE to address its mis-aligned macroeconomic fundamentals, Corker noted that the GoE was "slow on the structural side of things" and urged donors, especially the World Bank and AfDB, to follow through with the over $750 million in pledged assistance to Ethiopia this fiscal year lest dire economic consequences emerge. In response to our query whether the GoE had a strategy to address the structural problems that they have acknowledged to us as having (Ref. C),shockingly Corker admitted that the Fund's team, which had been planning this visit since May "did not discuss the structural issues with the government" on this visit but highlighted that the Fund had "given the government lots of advice and analysis of the issues over the years." FINAL COMMENT -------------- ¶12. (C) As the IMF mission team leader highlighted, the World Bank and AfDB are the largest donors in Ethiopia and those whose support the GoE most needs. Still, the actions of the multilateral development banks to date has demonstrated a wholesale willingness to 1) ignore the GoE's performance ADDIS ABAB 00003462 005.2 OF 005 record, 2) accept the most basic government assurances in order to keep their funding flowing, and 3) forego any truly robust dialogue on reforms with the GoE despite the negative impacts of the fundamental structural imbalances on medium-to-long term sustainability in economic growth or development. For its part, the IMF has lent credibility to the GoE's inflated growth figures while forfeiting its own responsibility to raise, much less insist on, sound macroeconomic policies. Having written off over $4 billion in Ethiopia's multilateral debt in recent years, the IFIs have turned a blind eye while the country has re-acquired almost all of it back -- largely from China -- and taken no action to prevent the continuation thereof. If we are going to help Ethiopia make the tough decisions needed to get its economic house in order to ensure better long term development and growth, the U.S. will have to take a leadership role vis-a-vis the IFIs' approach to Ethiopia now. ACTION REQUEST -------------- ¶13. (C) The abstention votes by the U.S. Executive Director to the Bank on both PBS votes to date have attracted the attention of the GoE (Ref. A),but not yet the Bank itself. Our engagements with the Bank and Fund in early December around the ESF and GFRP have now put them on notice that the USG will look to both institutions, as well as the AfDB, to engage in a more robust policy dialogue with the GoE. Post has begun to engage the Bank staff locally much more on looming programs and will make clear USG expectations that new money into Ethiopia be approached only when the broader GoE policies are in place to ensure longer-term success. We strongly encourage full interagency concurrence as well as support for the Department of Treasury and the U.S. Executive Directors (EDs) assigned to the Bank, Fund, and AfDB to begin conveying to each institution's Ethiopia team and other EDs the expectation that future assistance packages be accompanied by the appropriate reforms or commitments by the Ethiopian government to ensure the longer-term viability and sustainability of the project. We further urge these USG representatives to affirm to these institutions that decisions on U.S. votes on future assistance packages will be predicated on the performance of past assistance and the GoE's follow-through and implementation of the pledges that it made in connection to past assistance. ¶14. (C) This Mission has, and will continue to, discuss and coordinate with the donor group and with the GoE our position on benchmarks and a results-oriented approach to economic development in Ethiopia. In this context, we also recommend that USG agencies advocate the critical importance of other donor nations and the IFIs to coordinate positions with the USG on this approach. We do not achieve our goal nor support Ethiopia's goal of sustainable economic growth by perpetuating Ethiopia's cycle of poverty and aid dependence through continued band-aid style bail-outs without clear support for benchmarks agreed to by, and coordinated with, the GoE and donor community. As a strategic partner, we owe it to the Ethiopian people to help bring about the reforms necessary for Ethiopia to achieve the development and strong growth it both needs and desires. End Comment. YAMAMOTO