In its World Economic Outlook released here on Wednesday, the IMF says that "in India, the weakness of the exchange rate and equity markets in recent months has reflected not only the Asian crisis, but also concerns about the economic sanctions introduced following the nuclear tests in May and the limited fiscal adjustment and reforms contained in the budget in early June."

The document, made public to coincide with the IMF-World Bank annual meeting, says that neighbouring Pakistan faces even greater challenges as a result of the economic sanctions and in view of its vulnerable external and domestic financial situation and unfinished structural reform agenda.

Earlier, in its annual report, the IMF had said that India was in a prolonged recession and was unable to tackle its mounting budgetary imbalances. It found that the fiscal deficit was dangerously large and growing and its reforms were foundering.

The annual report of the World Bank has also spoken of the increased economic uncertainty after the US had imposed sanctions in protest against India's nuclear tests in May.

Finance minister Yashwant Sinha, who is arriving here to lead the Indian delegation at the annual meeting of the IMF-World Bank beginning here later this week, is expected to discuss these issues during his meeting with IMF chief Michael Camdessus.

Meanwhile, Institute of International Finance (IIF) managing director Charles Dallara, at a press conference here on Tuesday released his organisation's policy letter for finance ministers and central bank governors coming here for the IMF-Bank meeting and released its forecasts on private capital flows to emerging markets.

The IIF, the global association of financial institutions with over 300 members including the world's leading private sector financial firms, called for actions to strengthen the international financial system, rebuild investor confidence and restore the momentum of growth.

In outlining a series of proposed initiatives, Dallara underscored that major improvements are needed in the existing global system. He said detailed proposals were being developed by private financial leaders through an IIF steering committee on emerging markets' finance, which will report in the coming days.

The IIF stressed that actions are necessary to ensure soundly managed and well regulated financial systems in emerging markets, as are actions to strengthen risk management approaches at private financial institutions, which take into account all risk aspects of the global financial system.

The policy letter, addressed to the leaders of the interim committee of the International Monetary Fund and the Development Committee of the World Bank, underscored the willingness of the private sector to work with officials to fortify the architecture of the global financial system.

The IIF forecasts show that total net private capital flows to 29 leading emerging market economies, including India, in 1998 will fall to about $160 billion from $240 billion last year. The institute expects the total volume in 1999 to stabilise around the 1998 level.

The forecasts indicate a sharp decline in net portfolio equity flows to emerging markets this year at close to $11 billion after $25 billion in 1997 and $33 billion in 1996.

Foreign direct investment, however, is seen continuing at strong levels in excess of $100 billion both this year and next.

At the same time, the IIF said net flows from commercial banks which gained by $113 billion in 1996 and by about $20 billion last year are not projected to advance this year and are likely to rise moderately to around $12 billion in 1999. Other private flows, including bonds, are expected to total about $40 billion this year, after close to $75 billion in 1997, and are expected to decline further to around $25 billion next year.