CGD BRIEF APRIL PDF.Cra

CGD Brief April 2002 Volume 1, Issue 1 April 2002 Volume Delivering on Debt Relief By Nancy Birdsall and Brian Deese * Summary: Over the last several years, the United States and other major donor countries have supported a historic initiative to write down the official debts of a group of heavily indebted poor countries, or HIPCs. Donor countries had two primary goals in supporting debt relief:to reduce countries’debt burdens to levels that would allow them to achieve sustainable growth; and to promote a new way of assisting poor countries focused on home-grown poverty alleviation and human development. While the current “enhanced HIPC” program of debt relief is more ambitious than any previous initiative, it will fall short of meeting these goals. We propose expanding the HIPC program to include all low-income countries and increasing the resources dedicated to debt relief. Because debt relief will still only be a first step, we also recommend reforms of the current“aid architecture” that will make debt more predictably sustainable, make aid more efficient, and help recipient countries graduate from aid dependence. Debt and Aid: A Nine-Point Program To deliver on debt relief: 1. Deepen debt relief in current HIPCs whose debt payments (debt service) still exceed 2 percent of GNP, to ensure that budgetary burdens remain manageable. 2. Expand eligibility for debt reduction to all low-income countries, including Indonesia, Nigeria, and Pakistan. 3 Safeguard countries for ten years – through a contingency facility in the IMF – against a return to unsustainable debt levels caused by circumstances beyond their control (such as drought, floods, other natural disasters, or a collapse of export prices). To finance these proposals: 4. Mobilize more IMF gold for debt reduction – about $14 billion to expand HIPC eligibility and safeguard countries. 5. Increase foreign aid budgets (official development assistance) by 8 percent a year over ten years to write down mostly uncollectible bilateral debt – with a paper value of about $50 billion. 6. Increase the interest rates paid by upper middle-income countries on loans from the World Bank and other multilateral development banks by 0.5 percent per year, raising more than $4 billion over ten years. To reform the aid architecture: 7. Increase donor efficiency and selectivity, abolishing tied aid, creating a competitive, quasi-market with performance-based allocation of donor funds, and offering grants as well as loans. 8. Increase donor accountability – for example, by providing block grants to recipient countries to monitor and evaluate donor performance. 9. Simplify HIPC procedures, shifting the requirement that countries prepare and commit to a poverty- reduction strategy from a precondition for canceling debt to a precondition for any major aid program managed by the government. * This Brief was prepared by Nancy Birdsall and Brian Deese. It is based on a new book, Delivering on Debt Relief: From IMF Gold to a New Aid Architecture, by Nancy Birdsall and John Williamson, with Brian Deese, co-published by www.cgdev.org the Center for Global Development and the Institute for International Economics. 2 During the past several years, the United States and other major But more debt reduction should only be the first step in a much donors have supported a historic initiative to write down the official larger project: to change the perverse political and bureaucratic debts of a group of heavily indebted poor countries, or HIPCs (see incentives that prompted donors and creditors to make the loans box 1). This unexpected decision to cancel debt was spurred by that led to unmanageable, unsustainable debt. So we conclude political pressure from Jubilee 2000, a worldwide citizens’ move- our nine-point package with three proposals for a new “aid archi- ment supported by the pop star Bono, Pope John Paul II, and mil- tecture.” Our goal is to direct more aid to poor countries with lions of ordinary churchgoing people in Europe and the United honest and sensible leaders who will make the huge invest- States. Jubilee campaigners argued convincingly that the debts ments—in health, education, roads, and good government—that owed by developing countries to rich institutions like the are the preconditions for market-driven, sustainable, poverty- International Monetary Fund (IMF) and World Bank and to the gov- reducing growth. Delivering on Debt Relief ernments of industrial countries were an unjust burden on poor people, who were paying obligations mostly assumed by corrupt past But greater debt reduction will only put well-performing poor coun- leaders. Advocates also argued that debt was undermining the tries at the starting line for growth. Staying on track (and making ability of even the most reformist, well-intentioned governments to progress toward achieving the Millennium Development Goals provide minimal social services to their citizens. adopted by the international community in 2000, such as halving infant mortality and putting all children in primary school) will Donor countries had another reason to swallow hard, organize, require not only better government performance in poor countries, and cancel some of the debt owed to them by the world’s poorest but bigger foreign aid budgets in rich countries. countries. Two decades of official lending at cheap rates had failed to catalyze the increased growth and new economic activi- ties needed to finance the resulting debt. (See box 2 for a discus- Why Do More? sion of why some loans failed to help.) Donors were locked into “defensive lending,” endless rounds of debt rescheduling and new In the 26 countries to qualify for debt reduction under the HIPC ini- grants and loans to help poor countries pay back old loans. tiative so far, there is evidence that governments are using their additional resources and budgetary flexibility to increase spending In this brief, we argue that it makes sense for the donor community on health and education. The World Bank reports that about 40 to go much farther than it already has in reducing poor countries’ percent of the estimated debt savings are being directed to edu- debt. Canceling uncollectible debt is a more efficient way to help cation and 25 percent to health care, including expansion of the poor than just giving more foreign aid. It clears the way for HIV/AIDS prevention and education programs. Tanzania has donors to improve their own performance—to provide new aid ended fees for grade school, and Benin has ended fees in rural only when they are reasonably sure it won’t be wasted or stolen. areas. Honduras is planning to offer three more years of free schooling, through the ninth grade. With debt savings, Uganda We offer here a nine-point reform package with additional debt has achieved virtually universal primary school enrollment, and has relief as its centerpiece. In the first two parts of this package, we explicit plans to hire more teachers and provide more textbooks. propose several ways to strengthen debt relief and to finance Mali, Mozambique, and Senegal plan to increase spending on these proposals. HIV/AIDS prevention. 1: WHAT IS HIPC? The Enhanced HIPC Initiative is a two-step process that provides debt relief from bilateral and multilateral creditors to qualified poor and indebted countries. There are 42 eligible countries (34 in Africa), and 26 have qualified so far. First, countries get debt service relief at what is called a “decision point,” when they have demonstrated adequate adherence to a traditional IMF program and progress toward constructing a national poverty reduction strategy. Second, at “completion point” countries get debt stock relief once they have completed and committed to a comprehensive Poverty Reduction Strategy Paper (PRSP). What Do The HIPCs Have in Common? ● HIPCs have been over-indebted for at least two decades: the ratio of their debts to benchmarks like exports and GNP was already higher in the 1980s than in most other developing countries. ● HIPC countries are poor: because their economies have not grown much, their peoples are generally as poor today as they were decades ago. ● HIPC countries have been major recipients of official development assistance: average net transfers (gross transfers minus debt service paid by them) to the HIPCs have been about 10 percent of their GNP in the 1990s, compared to about 2 percent for all other developing countries. But if the goal of debt reduction is sustainable growth and poverty earnings, at least for the short term, and usually require 3 reduction in the world’s poorest countries, the current Enhanced emergency borrowing. 1, Issue 1 April 2002 Volume HIPC Initiative falls short on two counts. It does not guarantee that HIPC countries will escape from the dual traps of debt and poverty. Uncertain Escape from the Poverty Trap Nor does the Enhanced HIPC Initiative provide the resources coun- Uncertain Escape from the Debt Trap tries need to overcome their crippling disadvantages. Past conflicts, The Enhanced HIPC Initiative does not provide a credible guaran- ethnic tensions, health care crises, weak property rights, low levels tee that these countries will escape their current debt trap, in which of human capital, and a continuing inability to compete in the glob- the burden of existing debt makes managing public budgets impos- al economy because of dependence on primary commodity exports sible and discourages private investment. Under the HIPC initia- can all combine to create a poverty trap. tive, the IMF and the World Bank primarily use the debt/export ratio of a poor country to measure debt sustainability. Current IMF- Success in escaping poverty traps will depend mostly on develop- World Bank projections of debt sustainability rely on three assump- ing countries doing their part with adequate governance and sound tions that may not hold: tax and budget policies.

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