Debt

FfD-Agenda

United Nations, A/ AC. 257/ L. 2, June 2000

"Debt

8. Confronting external debt challenges: addressing debt problems of developing countries, including cases of high indebtedness and moral hazard issues; enhancing and expanding the Heavily Indebted Poor Countries Debt Initiative; avoiding the recurrence of debt crises, through, inter alia, preventive measures to avoid unsustainable public and private debt; technical assistance for debt management. "

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First Working Paper of the Facilitator

United Nations, A/AC.254/24, March 2001

" V:  Debt

Debt financing is an important option that countries have to mobilize resources for public and private investment. Many developing countries and countries with economies in transition have managed debt financing effectively to expand their level of investment and this, in turn, has led to growth and has generated ample resources to repay the debt and support both consumption and investment expenditures. Others—for different reasons, including domestic economic mismanagement, conflicts, natural catastrophes and external economic shocks such as terms of trade changes, international interest rate hikes or contagion— are faced with difficult, or even unbearable, debt burdens.

It is important to note that most low-income countries do not face primarily a debt problem. They face a broader problem of development financing and the focus should be not so much on one particular type of flow but on the volume and flexibility of the aggregate net transfers to each country from donors. Debt relief should be additional and not at the expense of development assistance.

Bearing in mind the importance of fully funding and implementing HIPC:

Are there any exceptional situations in which even more drastic relief may be called for? For instance, in the face of natural catastrophes or as countries emerge from conflicts? When countries, in spite of their efforts on policy and governance, fall "off-track" in the pursuit of the poverty reduction and other basic social targets included in the Millennium goals?

Which other special measures, including debt cancellation, should be considered to address the challenges of poverty eradication and sustainable development, particularly in Africa?

How to avoid " cross subsidization" of debt relief by other developing countries?

How best to ensure, for low income countries, adequate grant financing and appropriate concessionality of new borrowing along with sound debt management capacity —to prevent the problem of excessive debt burdens from recurring?

For countries with a mix of official and private creditors and relying on access to international financial markets (where attempts to offer debt relief raise questions on moral hazard and future access to financing):

Which preventive measures, including through technical assistance, could be put in place to avoid unsustainable accumulation of public and private debt ?

What kind of mechanisms can help expedite the resolution of debt crises when many types of creditors are involved and ensure fair burden sharing among them and the debtor? How best to develop clearer principles and more transparent mechanisms for working out debt problems? What is the feasibility of mediation-type mechanisms?"

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Report of the Secretary-General
to the Preparatory Committee for the
High-Level International Intergovernmental Event
On Financing For Development

United Nations, A/AC.257/12, January 2001

"Bilateral and multilateral creditors should pursue debt relief vigorously and expeditiously, including steps to provide significant and immediate debt relief to the poorest countries. Steps should also be considered to provide, in exceptional situations and where appropriate, for a moratorium or even for debt cancellations. Similarly, there should be continued flexibility in addressing the debt problems of low-income countries and for additional proposals to be formulated, where needed, to complement the HIPC initiative.(...)

Donors should be called on to ensure that resources are provided for debt relief without detracting from the resources that were already intended to be available for development assistance to low-income countries. Debtor countries should, in parallel, ensure that resources freed up by debt relief measures are used to support growth and poverty reduction-oriented programmes. To ensure that further debt problems do not emerge, efforts should be made to improve debt management, and new financing for all low-income countries should be on highly concessional terms or, in the case of countries with severe limitations in their capacity to pay, on grant terms.(...)

All creditors to developing and transition economy countries should support measures to ensure that debt financing becomes an integral part of their development efforts and not a hindrance to them. To complement other initiatives under way, the potential value of a mediation-type mechanism deserves particular consideration. Such a mechanism could be made available to debtor countries as an additional, voluntary option for restructuring debt from private and official bilateral creditors.(...)

International organizations should ensure that they are equipped to respond effectively to requests from developing and transition economy countries to improve their debt management systems. International financial institutions should also be encouraged to vigorously pursue efforts to enhance transparency in financial transactions so as to strengthen capacity for liability management by national authorities."

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Joint Statement of the Co-Chairmen
at the Conclusion of the First Part of the
Third Session of the Preparatory Committee

United Nations, 8 May 2001

"V. Debt

Many Member States, international organizations and civil society representatives participated in the discussion of external debt.10/ The convergence of views on many of the issues seen in our summary of the February session of the Prep Com was confirmed. In particular, delegations agreed that debt relief of lower and middle-income countries needs to be accompanied by appropriate economic, trade and financial policies at the national and international levels. At the same time, a strong case was made that when debt relief is accorded, it’s funding should be in addition to and not at the expense of development assistance.

Towards policy priorities

The need to focus on prevention of external debt problems in the future. In this respect, there were calls for technical assistance by developed countries and international organizations to improve debt management in developing and least developed countries.

Reaching debt obligations that are within the capacity of countries to service in the long term was seen as critical. There were calls for measures to ensure that the debt reductions that take place as a result of the enhanced programme for the heavily indebted poor countries (HIPCs) are sustainable over the longer term. The option within the HIPC framework to consider additional debt relief at the completion point in exceptional circumstances if exogenous factors cause fundamental changes in country circumstances that severely affect debt sustainability was mentioned. It was also recommended that post-HIPC assistance to some countries should be in the form of grants and highly concessional funds.

Better supervision of private financial institutions, both domestic and foreign, and transparency of lending transactions, which would help to ensure more appropriate lending decisions by private creditors.

Continuation of efforts towards strengthening surveillance capabilities of IMF and the design of early warning systems.

While there was less convergence on the following issues, some Governments wished that they be considered further:

Until full and additional funding of multilateral debt relief under the enhanced HIPC initiative has been provided, a discussion on broadening current debt relief efforts is premature.

Regarding temporary assistance in debt servicing following natural disasters, it was asked whether new instruments were required or whether the existing system already had the requisite flexibility to ensure an appropriate response.

The issue of more focus on policies for extending support to middle-income countries with debt-servicing difficulties was raised.

In the past, Governments have taken over responsibility for the excessive borrowing by the domestic private sector after a financial crisis, sometimes even nationalizing the banks. Not only does this impose a fiscal burden, but it also creates a "moral hazard" that borrowers and lenders will not pay sufficient attention to the risks they take. The practice should be discouraged.

Need to have clearer principles regarding debt work-outs and the resolution of debt crises. In this respect, some delegations pointed out the need to involve private creditors in the resolution of debt crises. [See also, Systemic Issues chapter]

The possibility of naming a mediator to bring together all interested parties from the creditor and debtor side for helping to resolve debt crises. The question remains one of arriving at a mechanism for selecting appropriate mediators acceptable to all concerned.

More prudent approaches by official lending institutions to ensure that new loans are extended only when there are clear indications that repayment capacity will be adequate when loans fall due."

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High-Level Panel on Financing for Development -
Recommendations & Technical Report

United Nations, A/55/1000, 26 June 2001

Recommendations:

" Further debt relief for highly indebted poor countries

The campaign spearheaded by Jubilee 2000 resulted in a welcome reduction in the debt burden on heavily indebted poor countries. The official estimate is that under the HIPC Initiative the highly indebted poor countries will pay $1.1 billion per year less in debt service than they would otherwise have paid, and $2.4 billion per year less than they would have owed. The scheme is welcome despite the fact that the actual delivery of substantial debt reduction has taken a very long time and that it has not been fully financed by additional ODA, as many had originally hoped. Some donors are simply reassigning part of their traditional aid resources to finance commitments to the enhanced HIPC initiative.

While the enhanced HIPC scheme is clearly providing increased resources for poverty reduction, in most cases it has not gone far enough to make these countries’ debt sustainable. Certainly the principle that debt obligations should be repaid is central to the functioning of credit markets; debt relief programs are an exception for extraordinary circumstances. Yet the situation of several countries is still desperate. A further effort is needed to reduce debt in HIPC to sustainable levels and thus help to improve those countries’ ability to attract private finance.

In the view of some Panel members, a further debt relief agreement would be an excellent step. Others believe it would perhaps be worth serious consideration. Most important, all agree that a further debt relief agreement would only be worthwhile if it is based on a firm commitment from donors to provide strictly additional resources for its proper financing. If a re-enhanced HIPC scheme is not financed by increased ODA, then its main effect would be to redistribute aid among poor countries—an outcome that must certainly be avoided. All Panel members also believe that any debt relief scheme should be designed so as to reduce, not increase, moral hazard; that is, it should not weaken borrowers’ responsibility for their own actions. (...)"

Technical Report:

" The HIPC Initiative

In retrospect, everyone welcomes the reduction in the debt burden on the world’s heavily indebted poor countries that resulted from the campaign by a broad coalition of nongovernmental organisations under the banner of Jubilee 2000. The lowering of their debt should go part way towards achieving the desired increase in net financial flows to lower-income countries. The official estimate is that debt service will decline by $1.1 billion a year from what would otherwise have been paid, and by $2.4 billion a year from what would have been due. But at best, debt relief will offset only a small part of the estimated shortfall in ODA, and this suggests one reason why the question is still being posed as to whether debt relief has been pushed far enough.

When the HIPC initiative was first launched, in 1996, a number of very poor countries had built up high levels of debt, to donor countries and their export credit agencies and to the MDBs. Servicing that debt would have absorbed an unconscionably large proportion of those countries’ fiscal revenue and foreign exchange receipts. In reality, not all of that debt service was paid. But even so, what should have been priority social expenditures, on education and health and so on, were being squeezed out by the need to service debts incurred in the past, sometimes with little to show for the borrowing. The result was a lose-lose situation. If the debts were not serviced, the debtors’ reputation suffered, and with it their ability to access new credit, even trade credit. If they were serviced, it was at the expense of desperately needed spending. Given this situation, it was not too difficult to win agreement in principle that, despite the importance of the axiom that in general credit markets will function only if debt contracts are honoured,, debt reduction made eminent sense. Getting from agreement to actual delivery of substantial debt reduction, however, has taken a very long time. Some initial measures of debt relief were agreed in 1996, but these proved insufficient. An enhanced HIPC initiative was therefore agreed in September 1999. This revamped but maintained the conditions attached to debt relief, designed to ensure that the savings on debt service were in fact channelled into increased spending on growth-enhancing social programmes, while increasing the relief available.

In addition to the point of principle of whether circumstances justify overriding the normal presumption of the sanctity of debt contracts, three technical factors must be considered in appraising the desirability of debt relief. The first is who pays for it. In principle, it has always been said that the HIPC initiative will be paid for by additional ODA. Since ODA is undersupplied (as argued above), that is appropriate, provided that it actually occurs. But one must not take it for granted that this is necessarily the way things will work out. For example, it is sometimes argued that the MDBs could find the resources to forgive their claims by drawing on their reserves, but the question is whether this could be done without cost to their borrowers. Accountants have recently argued that their triple-A credit ratings could survive such use of the MDB reserves. This is doubtless true, but one would still have to anticipate a widening of the spreads on the MDBs’ borrowing, and that is a cost they would have to pass on to their borrowers. These countries, in effect, would thus pay the bill for debt relief to the poorest. Presumably the MDBs have already tried to optimise the size of their reserves, balancing the benefit of being able to charge less to their borrowers against the benefit of being able to devote a larger part of their net income to development causes[16] . Perhaps they have got the calculation marginally wrong, but the presumption is that getting the MDBs to foot the bill for HIPC really amounts to getting other developing countries to pay.

But matters could be even worse. Suppose that debts owed to the International Development Association (IDA, the World Bank Group affiliate that lends on a concessional basis to low-income countries) were forgiven under the HIPC initiative, and that this were financed by cutting future IDA lending. In this case debt relief would be paid for by those low-income countries whose new IDA loans decline by more than their debt service payments. These would mostly be low-income, non-HIPCs such as Bangladesh. It is possible that some of these countries have been making more effective use of funds to reduce poverty than have the HIPCs. If so, debt relief would actually have a perverse effect on the global fight against poverty. This may be a worst-case scenario, but it would be wrong to assume that it could not happen. Who really pays for debt relief is a crucial issue.

It is not just how much more or less money countries get, and where it comes from, that is relevant in appraising the desirability of debt relief. There are two major reasons why, even if debt relief were offset one for one by a reduction in new aid receipts, it might still be a boon to the debtor. The first is that debt relief provides aid that is not tied to imports (of food, technical assistance, and so forth) from the donor country; such tying reduces the real value of much bilateral aid[17] . The second is that debt relief may release resources for spending on basic social services. This is because most aid is given as support for particular projects, whereas the payment of debt service pre-empts general budget resources, and a lack of these may squeeze higher-priority social expenditures. Moreover, this ability to increase spending on basic social services has been reinforced by the conditionality that has accompanied the HIPC initiative, which has a mandate to see to it that the savings from debt relief are indeed directed to such spending.

These considerations suggest strongly that the debt relief already given is to be welcomed. Donors have promised that they would finance that debt relief without cutting other ODA, which gives hope that most of the resources are, in the final analysis, really coming from the donors themselves. In particular, there is little reason to fear that other low-income countries have paid for it, inasmuch as the donors have promised to increase their subscriptions to IDA. Debt relief financed by bilateral donors resulted in the untying of aid. And, as already noted, debt service was so high that it was squeezing out what should have been priority social expenditures on education and health. It is difficult to see a downside to the enhanced HIPC initiative.

Debt campaigners have compared debt service payments still due with projected social spending and concluded that, in a number of the HIPCs, debt service will still exceed spending on education or health. Perhaps more important, they have also argued that some of the HIPCs remain unable to finance minimally adequate levels of social spending, and are for this reason unlikely to be able to achieve the International Development Goals. And they have pointed to a new IMF/World Bank study on debt sustainability[18] to establish that many of these countries will still be vulnerable to adverse shocks (e.g., from commodity price declines or climatic catastrophes) undermining their ability to service their remaining debts. These considerations imply that not enough has yet been done to help the HIPCs.

A possible concern is that if a re-enhanced HIPC initiative, a HIPC3, were to be agreed but it was not substantially financed by increased ODA, then its main effect would be to redistribute aid between countries. In particular, a HIPC 3 would distribute more resources to countries that have built up high debts in the past, and the danger is that this could be at the expense of less indebted but equally poor countries. Insofar as aid is now being distributed rationally, taking into account both the prevalence of poverty and the presence of policies that make aid effective in reducing poverty, this would risk undermining the fight against poverty. In other words, while some Panel members believe that a further debt relief agreement would be an excellent step and all agree that it merits serious consideration, it would be essential that a HIPC3 be financed by strictly additional resources.(...)

There is also a case for supplying ODA to low-income countries on very concessional terms. The vast majority (approaching 90 per cent) of bilateral ODA is in fact already provided on a grant basis, the main exception being Japanese aid. In contrast, IDA disbursements still take the form of concessional loans. One way to reduce the probability that low-income countries will again become over-indebted, and therefore require a repeat of the HIPC exercise, is to increase the concessionality of IDA loans. For example, these loans could have a term of 99 years and a grace period of 40 years. As a quid pro quo, there should be a moral obligation on countries that graduate from IDA borrowing to themselves become donors promptly once their income per capita rises to that of an industrial country. The importance of improved IDA terms should not be exaggerated, however. The bulk of the past debt problem of the HIPCs originated in export credits rather than ODA, and official export credit agencies in the industrialised world are now taking a more cautious attitude towards lending to such countries. "

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Draft Outcome Prepared by the Facilitator

United Nations, 09/17/01

"Sustainable debt financing

37. Sustainable debt financing is an important option that countries have for mobilizing resources for public and private investment. It is in the common interest to avoid serious mismatches between financing needs and repayment capacity and maturity of borrowings, as well as excessive debt burdens that divert resources of developing countries and countries with economies in transition from key productive investments and constrain the ability of governments to finance basic priority expenditures. It is essential to put in place preventive national and international measures, including through technical assistance, to avoid unsustainable accumulation of public and private debt of low- and middle-income developing countries.

38. Noting the importance of providing financial sustainability for the most highly indebted developing countries, we welcome the bilateral initiatives undertaken by many governments to reduce outstanding indebtedness and invite further bilateral and multilateral initiatives in this regard.

39. The Highly Indebted Poor Countries’ Initiative is making additional resources available for development, but a further effort is needed to reduce debt in the HIPC countries to sustainable levels. We call on industrialized countries to expeditiously provide the resources needed for full implementation of HIPC, through strictly additional resources and within arrangements that take fully into account the asymmetries and differentiated responsibilities among creditors.

40. Building on the experience of HIPC II, we also call on the International Monetary Fund and the World Bank to propose further steps to enhance the HIPC initiative, so that its benefits can be more far-reaching, based on the following criteria:

Assessment of debt sustainability in terms of each country’s capacity to raise the finance needed to achieve the multilaterally agreed development goals. Commitment from industrialized countries to provide strictly additional resources, thus preventing the financial burden from falling on developing countries.

41. We further call on the International Monetary Fund and the World Bank to propose policy actions for prompt, comprehensive debt relief to low-income countries, SIDs, and landlocked developing countries, in the face of natural catastrophes and severe terms of trade and capital account shocks."

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Revised Draft Outcome Prepared by the Facilitator

United Nations,12/06/01

"Sustainable debt financing and external debt relief

41. Sustainable debt financing is an important option for mobilizing resources for public and private investment. National comprehensive strategies to monitor and manage external liabilities, embedded in sound macroeconomic policies, are a key element in reducing national vulnerabilities and avoiding serious mismatches between financing needs and repayment capacity. Technical assistance for external debt management can play an important role.

42. Noting the importance of providing financial sustainability for the most highly indebted developing countries, we welcome the bilateral initiatives that many governments have undertaken to reduce outstanding indebtedness, and we invite further bilateral and multilateral initiatives in this regard.

43. The Highly Indebted Poor Countries’ (HIPC) Initiative provides a unique opportunity to strengthen the economic prospects and poverty reduction efforts of its beneficiary countries, as they commit to sound policies. But a continued effort is needed to reduce debt in low-income countries to sustainable levels, and speedy and full implementation of the HIPC initiative is critical. Any further steps to enhance this initiative should be based on two considerations. First, debt sustainability should be assessed in terms of each country’s capacity to raise the finance needed to achieve the Millennium development goals. Second, any new arrangement should avoid imposing burdens on other developing countries.

44. We call on the IMF and the World Bank to propose flexible policy actions for prompt, comprehensive debt relief for least developed, small island, landlocked developing countries and other low-income countries with severe debt-servicing problems, hit by natural catastrophes, suffering severe terms of trade shocks, or emerging from conflict.

45. While recognizing that a flexible mix of instruments is needed to respond appropriately to countries’ different economic circumstances and capacities for public expenditure management, we underscore the value of ongoing efforts to support the development of clearer rules for equitable distribution of the cost of crisis-resolution adjustments between the public and private sectors and among debtors, creditors, and investors. We also encourage exploring innovative mechanisms to address debt concerns of developing and transition countries."

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