From debt reduction to a
pathway towards development
A short history of debt crisis
RomaTre - HDFS
January 2015
Massimo Pallottino
maxpallottino@gmail.com
Debt: an everlasting history
Debt and debt crisis is not something new:
the idea of financing (economic and politic)
ventures, at individual as well as at state
level is found in pre-modern and in modern
history.
Kindleberger: phases of (a) growth;
followed by ‘bubbles’ or (b) manias; and
ending in (c) crisis. (Hanlon, 2012)
Debt - History
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What debt are we talking about?
Private Vs. Public or publicly guaranteed
(Sovereign debt)
Internal Vs External
Privatly owned Vs Publicly owned (bilateral
or multilateral)
Short term Vs. long term
Concessional Vs market terms
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Multiple dimensions
Economic dimensions
Social dimensions (the social costs of debt and its
service)
Internal political dimensions
External political dimensions (power issues
related to to borrowing and servicing – or not
servicing)
Juridical dimensions (legitimacy of debt)
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Old history
• 60’: investment policies in a stable monetary context (USD convertibility)
• Expansion of international trade, with a steep increase of USA imports,
funded by a USD emission
• 1971: USD-gold convertibility discontinued, and increase of the raw
materials
• Had USA strong reasons to oppose oil increase? The opportunity for
exploitation of domestic reserves and comparative advantages vis-à-vis
Germany and Japan
• 1973-74 first oil shock: OPEC countries’ revenues increase and are fed
into the international banking system
• Interest rates decrease
• Prices increase (inflation, but in a context of economic stagnation ->
‘stagflation’)
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The situation in the ‘70
• LDCs need investments and infrastructures
• Interest rates are low and being indebted is ‘cheap’
• Big international banks lend to LDCs: states cannot go
bankrupt!
• In some cases interest rates end up being negative in real
terms!
• Debt stock increases steeply
• The use of the available financial resources is often
inefficient (geopolitical reasons, corruption)
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1979: the second oil shock
• Oil prices increases again, up to twenty times the price of
1973! New inflationary and contractionary pushes for the
world economy
• New UK prime minister: Margaret Tatcher, and new USA
president Ronald Reagan
• The answer to the oil and inflation increase is based on
‘monetarist’ recipes: the inflation is caused by an excess
monetary mass
• USD becomes stronger and interest rates increase
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The crisis
• From 1979 onward the public finance crisis in the LDCs is acknowledged as
structural
• LDC are faced with a steep increase in the value of debt
• In 1982 Mexico declares debt default, followed by other countries
• Structural adjustment policies are based on the ‘monetarist’ approache: in a first
phase they are supposed to produce a stable economic environmnet (internal and
external stabilisation), and in a second phase to provoke the restructuring of the
offer, through the following measures
Reduced public spending
Privatisations
Price liberalisation
No custom taxes
No subsidies
Competitive currency devaluation
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Debt dynamics: from private to public
Debt was initially rather private than public
There was a pressure for the nationalisation of
private debt, in order to make it less risky for
the lenders
 When the problems arose, sovereign debt was
refinanced largely by IFIs, in order to avoid a
crack of the northern banks that had given out
loans

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How to face debt crisis?
Trading on secondary markets
Buy back options
Restructuring/rescheduling
Cancellation
Debt swaps (Debt-for-equity, Debt-fordevelopment,Debt-for-nature Swap)
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The options in the ‘80
Solving the creditors’ problems…
Baker plan (1985): involuntary lending, creditors’
coordination, and structural conditionalities
Brady plan (1989): the principle of the reduction
of debt is acknowledged.




Buyback
Debt for equity swaps
Par bond swaps , where face value is conserved, but
interest rates are reduced to a flat rate of 6%
New financial resources
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From restructuring to debt
cancellation
1987 Venice Terms: debt payment is postponed and the interest
rate is cut
1988 Toronto Terms: non-ODA debt is reduced of a further
33%
1991 London Terms: already restructured debt is reduced of
50%
1995 Naples Terms: all debt is reduced to 67%. Debt service
issue is considered for the first time
1996 Lyon Terms: Net Present Value of the stock is reduced up
to 80%. Heavily Indebted and Poor Countries Initiative - HIPC
1999 Cologne Terms: HIPC II or enhanced
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A turning point
Debt reduction policies are acknowledged
as substantially ineffective
Structural adjustment programmes are
acknowledged as substantially ineffective
A big mobilisation of the international civil
society (Bimingham, 1998; Cologne 1999)
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Cologne: HIPC II - enhanced
Objectives:
To increase the debt cancellation
 To accelerate the debt cancellation
 To widen the number of beneficiary countries
 To guarantee that funds are used for poverty
reduction

The Bank and the Fund change their traditional
facilities
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Sustainability in HIPC II
Debt is unsustainable when:

Its debt NPV/Export ratio is higher than 150%
(debt NPV/public income 250% in the fiscal
window)

Fiscal window: export/GNP >30% and budget
income/GNP > 15%
(See the note of the ppt for explanation)
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HIPC II path
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Over and above the HIPC initiative:
Evian and MDRI
Towards a ‘taylor-made’ approach: Evian (2003) and the ‘top-up cancellation’
The Multilateral Debt Reduction Mechanism (Gleaneagles, 2005)
The MDRI is accessible for the HIPC countries that have reached the completion
point; these countries will receive an additional debt cancellation from the IDA,
the ADF and the IMF.
The MDRI full benefits will be above US$50 billion: about US$37 billion from
IDA, US$8.5 nillion from the African Development Fund, and US$5 billion from
the IMF.
The civil society wins!!!! Additional resources are added, while ‘preserving the
financing capacity of the International Financial Institutions’.
Different financing mechanisms: IDA and ADF, ‘dollar-per-dollar’; IMF: trust I
and trust II
More recently, also the African Development Bank and the Interamerican
Development Bank
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Comments about the MDRI
Flaws:





It concerns only those countries that have completed the HIPC
initiative. And the other low-income countries? They are
excluded!
Should multilateral debt be cancelled at once, it would amount
to about USD 55 billion. However what really matters is what
remains available to fund poverty reduction strategies
According to different sources, the development objectives set
at the international level would require between 30 and 50
billion USD , yearly.
With the MDRI, about 2 billion USD would be made available:
good, but absolutely not enough!
Distributional effect of MDRI
Gunter, Rahman, Wodon (2008) “Robbing Peter to Pay Paul? Understanding Who
Pays for Debt Relief”, World Development, 36(1)
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Conditionality
• On which basis has debt cancellation been
accessed?
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Evolving conditionalities
Conditionality in traditional SAPs (’80)



The ‘small open econoy’ model (‘one size fits all’)
Stabilisation (contraction of internal demand) and structural
reforms (expansion of supply)
Crossed conditionalities
The adjustment with a human face (’90)


Poverty shields
The governance age
After 1999: towards a re-definition of IFI’s role


IMF: short-term compensation chamber  guardian for the
‘good policies’ and ‘trafic-light’
WB: investment bank  guarantee that the poor is listened to
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‘Structural’ conditionalities
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Social conditionalities
PRSP - Poverty Reduction Strategy Paper, introduced
with the enhanced HIPC initiative, in 1999
Document that defines the poverty reduction
strategies, by the individual countries’ governments,
after a wide consultation with all stakeholders



A priority for poverty reduction is introduced
The role of the civil society is legitimised
They are used in the place of the old SAPs
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Criteria for the PRSPs
They are formulated through a country driven
process
 They are results-oriented
 They bear a complex and multi-dimensional
understanding of poverty
 The define a long term perspective geared
towards poverty reduction
 They are partnership oriented

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A synthesis about
conditionalities in the PRSP age
The structural and macroeconomic conditionalities are
mostly based on the ‘good old models’ of political
economy: from this point of view there is no much
change in the macroeconomic frameworks of the
structural adjustment, and that of the PRSP phase
The IMF still plays a ‘traffic-light’ role
The insertion of a priority for poverty reduction is
important; but this is somehow instrumentalised
It is very important to avoid that conditionalities
prevent the governments to determine a really ‘countryowned’ policy framework
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The end of the HIPC initiative
31st December
2006: the sunset
clause
The
grandfathering
process
2011: the last
ringfencing
Zimbabwe
Gambia
Niger
Bolivia
Haiti
Honduras
Rwanda
Madagascar
Senegal
Malawi
Sierra Leone
Burkina Faso
35 PostCompletionPoint Countries
Burundi
Cameroon
C. African Rep. Mali
Nepal
Kyrgyz Republic
Laos
Buthan
Benin
S.Tomé Príncipe
Tanzania
Ethiopia
Mauritania
Uganda
Ghana
Mozambique
Zambia
Guyana
Nicaragua
Rep. of Congo
Afghanistan
Dem. Rep. Congo Liberia
Côte d’Ivoire
Guinea
Comoros
Guinea-Bissau
Togo
1 Interim Countries Chad
3 Pre-Dec. Point
Eritrea
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Somalia
Situation as at September 2013
Sudan
25
The outcomes of HIPC/MDRI
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Effects on the social expenditure
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‘Sustainable’ debt relief
HIPC/MDRI Status of Implementation - September 2011
HIPC/MDRI Status of Implementation - September 2008
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Debt’s burden yesterday and today
(DOD DPPG TDS INT constant billion USD)
LDC External Debt
1973
1985
1997
2000
2002
2004
2006
2008
2010
2012
All Less Developed
Countries
Total ext. debt
72,52 598,60 1.135,74 1.183,74 1.237,93 1.338,73 1.186,81 1.320,81 1.528,94 1.765,60
Debt service
8,57 76,30
162,00
Of which interests
2,67 38,25
54,27
10,87 77,20
168,76
163,92 160,86 166,95 206,40
183,11
155,52
182,33
51,57
54,49
50,23
80,98
161,83 170,64 194,20 124,34
136,40
161,79
199,72
60,59
48,99
49,43
Sub Saharan Africa
Total ext. debt
Debt service
1,26
7,90
9,22
10,10
8,41
9,23
18,78
10,62
9,53
15,04
Of which interests
0,34
3,08
3,22
2,92
2,52
2,69
3,47
3,37
3,02
5,03
Total ext. Debt
6,93 45,91
92,39
90,48
95,31 107,68
83,93
94,28
96,39
104,09
Debt service
0,45
2,32
2,89
2,51
Of which interests
0,14
0,96
0,99
Low Income Countries
2,39
2,40
2,66
3,20
3,48
4,81
Debt
0,73- History
0,78
0,80
0,82
1,12
0,87 29
1,37
A success?
• For Northern governments?
• For Southern governments?
• For banks?
• For civil society?
• For private sector?
(reflect on constituency, interests, tradeoffs)
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A synthesis of the international
debt reduction initiatives
In many countries, following the debt reduction initiatives, the debt
service has been stabilised or reduced. But these benefits have not been
fairly distributed, and have not always been enough.
Many countries that would have needed debt cancellation have been
excluded from HIPC/MDRI.
Furthermore, the HIPC/MDRI exercises had been conceived as ‘one shot’
in order to solve the debt crisis. It has NOT been so! Risk of further debt
distress still remains
We need to go beyond a perspective dominated only by the creditors
The measurement of debt sustainability has proved to be insufficient: there
is a need for a better integration of human development dimensions
This would pave the road for wider and deeper cancellation, including
many countries (middle income) that are currenlty excluded
Debt cancellation should be additional to other development finance
But the landscape is evolving: there are changes in the composition of the
national ‘sovereign’ debt
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System or ‘ad hoc’?
“While preserving the core principles of the HIPC Initiative,
IDA and the IMF have continued to make use of the flexibility
available in the framework governing the Initiative. Judgment
has continued to be used in the area of completion point
triggers. The Boards granted waivers to Afghanistan and
Liberia for missed triggers on the basis that they had been
substantially implemented and sufficient progress had been
made toward the underlying objectives. Comoros reached its
decision point following the progress made on clearance of its
arrears, which will count as debt relief provided by its
multilateral and official bilateral creditors. Flexibility was also
exercised in the area of preparation and implementation of
poverty reduction strategies.”
HIPC/MDRI Status of Implementation - September 2010
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A new approach to debt risk:
the principles of DSA
(i) a standardized forward-looking analysis of debt and
debt-service dynamics under a baseline scenario,
alternative scenarios, and standardized stress test
scenarios (also referred to as bound tests);
(ii) a debt sustainability assessment based on indicative
country-specific debt-burden thresholds that depend on
the quality of policies and institutions in the country; and
(iii) recommendations on a borrowing (and lending)
strategy to limit the risk of debt distress, while
maximizing the resource envelope to achieve the
Millennium Development Goals (MDGs)
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The new sustainability approach
The Debt Sustainability Analysis (DSA), a
‘traffic light system’ that, however,
does not cope with MDG related needs
does not promote mutual responsibility
still promotes the ‘one size fits all’ model
does not look ad private and national debt
does not consider the wider policy
environment (trade, financial flows, etc.)
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