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[afro-nets] G8 cancels debt of the world's poorest countries (3)

G8 cancels debt of the world's poorest countries (3)

Another interesting commentary on debt relief is provided by
Jürgen Kaiser, UNDP?s Debt Advisor. (Forwarded from MDG-net by
Neil Pakenham-Walsh, UK)

Subject: [mdg-net] INFO:
Commentary on the G8 Agreement on Debt Relief Beyond HIPC: Con-
sequences for MDG-based Debt Sustainability

Since the 2004 IMF and World Bank Annual Meetings, the British
and the US governments have promoted competing proposals for
what both called ?100% debt relief for the poorest countries?.
The major difference between them was that the UK wanted to re-
finance the current debt service of eligible countries until
2015, while the US favoured a debt stock write-off. The UK pro-
posal thus implied providing fresh money, while the Bush admini-
stration wanted to finance relief through reducing future dis-
bursements from the same institutions that would provide relief
­ the IMF, World Bank and ADB.

This bilateral exchange leading up to the Gleneagles summit was
intermediately disrupted by a competing joint
French/German/Japanese proposal to base enhanced relief on coun-
tries? individual needs - as expressed in their debt sustain-
ability analyses. Although this alternative represented a poten-
tially superior concept, it was poorly elaborated and based on
flawed World Bank definitions of debt sustainability. In fact,
if it had been carried out ­ it would have hardly resulted in
any relief. As this proposal is now off the table - it will not
be further considered here.

The G8 compromise

G8 compromise proposes the cancellation of all debt owed by
post-completion point HIPC countries to the World Bank (notably
IDA), the IMF and the African Development Bank (notably its
soft-loan window AfDF). The agreement will benefit 18 countries,
14 African and 4 Latin America. Preliminary figures suggest a
reduction of 7.7 - 16.7 billion US-$ in present value terms over
the whole repayment period. Calculations by EURODAD suggest an
annual debt service reduction of 1.047billion US-$ for all coun-
tries on average. This looks like a substantial relief at first
sight. However, it is not! The IDA and the AfDF modalities are
largely in line with the US-proposal. For every dollar of cur-
rent debt service relief, IDA and AfDF will reduce disbursements
to these countries by one dollar. Countries will therefore be
paying for their own relief. While new funding will be made
available to ensure that the Development Banks? lending volumes
are maintained ­ the resources will be ?allocated to all IDA-
and AfDF recipients based on existing IDA- and AfDF performance-
based allocation criteria.? This means that each of the 18 bene-
ficiary countries will get, on average, about 8 million in fresh
money per annum (note that his calculation is indicative only,
as there will be huge variations between countries, depending on
size and performance).

The situation looks brighter regarding the IMF. It is a minor,
but not insignificant, victory for the British to have forced
the IMF into the scheme against the will of the US. Unlike with
the other two institutions, it has been noted that there will be
no dollar-to-dollar reduction in disbursements. The IMF is to
finance the relief from its own resources at first. However, the
statement notes that once countries with huge IMF arrears are
approved for tax relief (such as Sudan), bilaterals will provide
additional funds.

Therefore, the only clear winners are the three International
Financial Institutions (IFIs) which can move substantial bad
loans off their books and compensate for lost revenue by reduc-
ing disbursements. Their medium term viability will meanwhile be
guaranteed by fresh commitments from the richest countries on
Earth. Debtor countries may benefit from additional disburse-
ments, yet even G8 governments have voiced doubts about the
long-term commitment, particularly of the US-government (the
most important contributor in absolute terms), to providing ad-
ditional resources to the IFIs.

An additional improvement is also worth mentioning, namely the
G8?s commitment to provide 300-500million US-$ in additional
funds, to cover ?difficult-to-forecast-costs.? What kind of ex-
penses this may actually mean is subject to guessing, as, unlike
the HIPC, no hard-to-forecast medium-term income or variable
sustainability thresholds are involved. Eventually these funds
may be used to help facilitate the inclusion of interim period
HIPCs or bringing other multilateral creditors on board. In any
case, it seems that the G8 has learned a lesson from the some-
times huge discrepancies between the calculated cost for HIPC
relief at their decision points and the ultimate costs. Occa-
sionally adjustments via the ?topping-up? of relief at the com-
pletion point were due to wrong projections or outright errors
by the IFIs.

Additional flaws

Even if the scheme had provided additional resources, rather
than stealing with one hand what the other hand has given, it
would have implied substantial conceptual flaws: · The most im-
portant flaw stems from the nature of fixed quotas. Fixed quotas
lead to systems where countries receive all or nothing. This is
too blunt an instrument for countries which actually require
varying levels of relief. The quota principle necessarily denies
­ for example - a large group of countries the partial relief
they would direly need. It will now be harder for these coun-
tries, as with all excluded countries, to secure relief as
creditors point to the extraordinary efforts they have already
undertaken. Surprisingly, Nigeria seems to be an exception as
the Paris Club vowed to grant them appropriate relief in their
Ministers? communiqué. Ironically a few of the HIPC success sto-
ries like Mozambique or Ghana which will benefit from ?100% can-
cellation? might have eventually not needed full relief. These
countries already received relief way beyond the old scheme?s
thresholds. · 100% is actually not 100% - The proposal refers to
only three multilateral creditors, which are indeed the most im-
portant ones for African HIPCs. However they are less important
for the four Latin American HIPCs. Latin American relief will
therefore fall behind African relief for no reason other than
the British and G8 special effort for Africa. Not even African
HIPCs will be relieved of all their foreign debt as there are 19
multilateral creditors (including some who resisted cooperating
in the existing HIPC framework). As these creditors are not
named by the G8, and given the debtors? newly improved solvency,
creditors are unlikely to follow the example of debt relief. Ad-
ditionally, the burden of some countries? high domestic debt may
even exceed that of external debt.

Who can expect what? Some country examples

It is not yet possible to assess the effects of additional re-
lief on a present value (PV) basis. However, a preliminary view
on the first full year of implementation­ 2006 ­ reveals a stark
difference between the claim of 100% cancellation and the real
reduction. Below is a closer look at four randomly selected
countries which are at least partly representative - as three
Africans and one Latin Americans stand for 14:4 on the eighteen
countries? list.
[In the original message to MDG-net, Jürgen Kaiser's data are in
tabular form, in a format that was not accepted by my email
software. I have therefore converted it manually to text.
Neil PW]

Country: Niger
Debt Service after full HIPC relief in 2006 (m US-$): 30.9
Debt Service to WB/IMF/AfDB (million US-$): 17.4
Remaining debt service after promised reduction (million US-$): 13.5
% Relief: 56%
New debt service ratio: 1.9%
Internal debt service (US-$ equivalent): n.a.

Country: Zambia
Debt Service after full HIPC relief in 2006 (m US-$): 86.3
Debt Service to WB/IMF/AfDB (million US-$): 32.4
Remaining debt service after promised reduction (million US-$): 53.9
% Relief: 38%
New debt service ratio: 3.0%
Internal debt service (US-$ equivalent): 70

Country: Bolivia
Debt Service after full HIPC relief in 2006 (m US-$): 344.6
Debt Service to WB/IMF/AfDB (million US-$): 101.0
Remaining debt service after promised reduction (million US-$): 243.6
% Relief: 29%
New debt service ratio: 10.5%
Internal debt service (US-$ equivalent): 515

Country: Ethiopia
Debt Service after full HIPC relief in 2006 (m US-$): 54.3
Debt Service to WB/IMF/AfDB (million US-$): 15.9
Remaining debt service after promised reduction (million US-$): 38.4
% Relief: 29%
New debt service ratio: 8.6%
Internal debt service (US-$ equivalent): n.a.

First and foremost the numbers show that annual debt service re-
lief falls way short of a 100% cancellation. Surprisingly this
is true for all African countries. Remaining debt not covered by
the proposal includes:

* Debt to other multilaterals such as BADEA, Arab Fund, Nordic
   Fund, OPEC, CAF or IDB;
* Debt to bilateral official creditors which have not committed
   to full cancellation as they have not been part of the Paris
   Club negotiations;
* New debt to either of the above groups after the tentative
   cut-off date (for most countries) of 20 June 2000;
* Remaining debt to commercial creditors, occasionally already
   under litigation.

For some countries it is apparent that the domestic debt burden
constitutes a considerable strain on public budgets. While do-
mestic debt is certainly not the responsibility of international
creditors, it should be acknowledged that states with initially
low levels of domestic debt resorted to domestic financing in
order to comply with external payment obligations. In turn, in-
sufficient relief through HIPC (now implicitly acknowledged by
this subsequent sweeping cancellation exercise) exacerbated the
non-sustainability of their external debt.

Of course, countries need to be examined case-by-case:
* Niger has the most substantial reduction of the group, but a
large amount of old debt will remain unless other multilaterals
can be brought on board.

* In Zambia the completion point document has simply updated
expected export income from an exceptional 50% rise in copper
prices. Therefore the positive future debt service ratio is de-
pendent on copper prices remaining high. A more conservative
calculation building on an expected 25% reduction in copper
prices in 2006, as expected by some commodity trade experts,
would bring the debt service ratio on remaining debt closer to

* Though certainly welcome, relief for Bolivia will only have a
limited effect, particularly considering their huge domestic
debt service obligations.

* Ethiopia is the most surprising case, as its percentage of re-
lief hardly goes beyond Bolivia?s and the debt service ratio
must be expected to remain high above HIPC averages, as fore-
casted by the World Bank.

Further political implications

The proposal has only been broadly outlined as of yet. The final
G8 decision will be made at the meeting in Gleneagles. But only
after formal approval by the Boards and Governors of the World
Bank and the IMF at the annual meeting next September will the
proposal become operational. Many details remain to be worked
out. However, on the basis of the Finance Ministers? communiqué,
some far reaching consequences for the sovereign debt landscape
can already be identified:

* As debtor countries are only receiving minor additional re-
sources, they will most likely balance their current budget and
external balances through new borrowing. With only limited new
money from concessional sources, governments are likely to take
recourse to domestic as well as non-concessional external fi-
nancing at near-market conditions. The London decision is thus
laying the foundations for the next debt crisis in the same

* HIPC, as a WB/IMF driven instrument, has received the third
class funeral it deserves. HIPC Finance Ministers will no longer
make payments based on HIPC sustainability calculations when
they can look forward to the cancellation of current obligations
as well as arrears under the new scheme. HIPC debt sustainabil-
ity thresholds ceased to have relevance over night. Obviously,
creditors and important IFI shareholders have become tired of
the mission creep of HIPC-I - HIPC-II additional bilateral re-
lief ­ topping-up?etc.

* The freshly created and formally still to be introduced Debt Sus-
tainability Framework (DSF) of the IMF and IDA has equally been
deemed irrelevant for an important group of countries. Although
the communiqué speaks about ?utilizing appropriate grant-
financing as agreed? to avoid the piling-up of new debt, the DSF
will not be able to provide the basis for ?informed lending de-
cision?. The DSF defines grant-eligibility through potential
debt distress and poor governance performance. Even if new debt
relief is not 100%, most countries are likely to fall below eli-
gibility thresholds. It will be interesting to see if IDA and
the IMF try to redefine the DSF-thresholds to provide countries
with grants.

* Related to this latter point, the communiqué expresses a com-
mitment towards using grant financing to ?ensure that countries
do not immediately re-accumulate unsustainable external debts,
and are eased into new borrowing.? Comparable commitments have
been made before and regulations regarding the concessionality
of future external financing are routine in IMF agreements under
the Poverty Reduction Growth Facility (PRGF). However, in a num-
ber of instances, these stipulations have not prevented coun-
tries from covering balance-of-payment gaps with resources out-
side of arrangements. If grant financing is provided in line
with the DSF it will imply a 20% overall volume reduction to
compensate for the higher degree of concessionality, for coun-
tries that are to receive grants-only and half of that rate for
?yellow-light? countries (which receive a mix of grants/loans).
This may partly be offset by new resources provided bilaterally
­ however, if not, governments may feel forced to seek loans,
even at less-than-ODA conditions.

* The special paragraph in the communiqué on Nigeria?s treatment
in the Paris Club ­ while certainly due to President Obasanjo?s
scheduled appearance in Gleneagles - does reveal the Ministers?
awareness that there is a world beyond the HIPCs. It remains to
be seen, however, if this commitment will go beyond the Nigeria
case to an acknowledgment of the broader and structural debt
problem which demands more than one-off sweeping action.

Jürgen Kaiser, 15 June 2005

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