[ Five years of HIPC II ]

Sleight of hand and debt relief

International creditors point out that HIPC countries (HIPCs) have already had approximately US$ 30 billion of their debts written off. Consequently, some countries have been able to use more money to fund reforms such as the abolition of school fees or increased expenditure in the health sector. And yet the debt problem is more serious now than ever before. It has become apparent that the hopes pinned on HIPC II were based on far too optimistic assumptions concerning economic development in the debtor countries. Secondly, the creditors now want to withdraw from some of the pledges they made at the Cologne summit. For some time, the trend in the debt relief debate has been to reverse the progress made through HIPC II – which is a further cause for concern.

There are 42 countries officially eligible for assistance under the initiative, most of which are in sub-Saharan Africa. Of these, 13 have been granted debt relief. A further 14 have reached the so-called “decision point”. This means that their creditors have given them a binding commitment that their debts will be written off as soon as they have met the conditions set by the International Monetary Fund (IMF) thereby reaching the “completion point”. US$ 53 billion has so far been granted or promised in relief. This amounts to approximately one quarter of the total foreign debt of all HIPCs.

The central issue of the initiative is the amount of foreign indebtedness that is sustainable. This is deemed to be a maximum of 150 per cent of a country’s annual export earnings or, alternatively for a small group of countries, of no more than 250 per cent of total public revenue. These targets reflect a political compromise between, on the one hand, the need to exceed the criteria of the former HIPC-Initiative (200-250 per cent of export earnings or 280 per cent of public revenue) and, on the other hand, a maximum relief amount which the creditor nations believed they could fund. There is no plausible reason why a debt position should become no longer sustainable on exactly 150 per cent of export earnings or 250 per cent of public revenue. However, since the Cologne G7 summit there has been an informal agreement between governments and non-governmental organisations that it makes sense to implement the relief promised at the time. These arbitrarily defined levels of sustainability were considered to be acceptable interim targets by the international debt relief campaign. After all, the World Bank had forecasted that most countries would in fact exceed these levels by far.

There were two reasons for optimism on the part of the World Bank. First, the bilateral creditors had promised to waive further debts after the completion point, on top of the multilaterally agreed debt forgiveness. In particular, all outstanding development assistance debts were to be forgiven. Secondly, the World Bank’s projections assumed extraordinary growth rates once the HIPCs benefited from debt relief. This, however, is now totally out of the question. Even the World Bank concedes that about one half of the HIPCs will not reach the levels of sustainability or will clearly exceed them again immediately after debt relief. The reason for this is that, after the euphoria of the Cologne summit had died down, the creditors did all they could as determining forces in the World Bank and IMF to interpret the decisions as economically as possible for themselves.


Mathematical tricks following the Cologne summit

After the Cologne summit, the World Bank forecast a debt-service ratio averaging 8 per cent of annual export earnings, which the debt forgiveness campaign also considered acceptable. However, the bank based its calculations on unrealistically high exports by the HIPCs. The World Bank’s V-shaped graphs symbolised this deliberate miscalculation. These graphs showed a miraculous reversal in the previous trend of falling export earnings. The World Bank’s estimate of the debt-service ratio was therefore artificially low. After considerable criticism it revised its optimistic and frequently unfounded assumptions. The G7 countries conceded at their 2002 summit in Kananaskis, Canada that their forecasts were too high and the relief amounts derived from them were too low.

As a result, the G7 offered to “top up” the debt relief to the affected countries. However the top-up is only granted in well-argued exceptional circumstances. The debtor country must prove that outside influences such as natural disasters or falling commodity prices have caused its economic outlook to deteriorate. It should not be difficult for some debtor countries to provide the necessary evidence. The political trick by creditors, however, is to rule out from the outset any other reason why the forecasted growth has not happened. The fact that the Bank’s projections were nothing more than an attempt to calculate debt relief as economically as possible, has been hushed up. Obscuring this ploy even appears to be a generous adjustment of the debt relief to deteriorating framework conditions. In the meantime, the V-shaped graphs in the World Bank’s documents have not changed, except that the point at which export earnings stop falling and start to grow is later and the forecasted rise is less rapid.

A second reason why the expectations of HIPC II have not been fulfilled is that no additional bilateral debt relief was granted. At the Cologne G7 summit, most creditors committed to waive all bilateral claims against the HIPCs in addition to the multilaterally-agreed debt relief. This is the only way in which the low debt-service ratio of 8 per cent would be attainable. However, even when Uganda’s debts were forgiven in 2000, the bilateral contributions were only counted as part of the multilateral debt relief and not granted as an additional amount. The bilateral waiver thereby benefits not the debtor countries but the World Bank and the IMF, which can correspondingly reduce their contribution to attaining the levels of sustainability. However, the debtor country’s burden does not decrease by a single cent less, contrary to what was promised.


Manipulation using the net present value calculation

Thirdly, creditors can use the so-called net current value calculation as a means of manipulation. Indebtedness and debt forgiveness are calculated on the basis of the “discounted present value” of a country’s debts at the decision point. The present value is the total of all debt servicing obligations of a country (repayment and interest), reduced (discounted) by a reference interest rate which is adjusted to market interest. The nominal value of the debt level of an HIPC country at the decision point disguises the fact that part of this debt was raised on concessional terms. The difference between market interest and the interest payments actually made, by which the present value is reduced, corresponds to the grant element in the total indebtedness. By calculating the present value, the different conditions on which the individual creditors have granted loans (e.g. interest rate, term) should be taken into consideration for distributing the debt forgiveness amounts.

Since the present value of indebtedness is material to the amount waived under the HIPC rules, the reference interest rate which is used as a basis to calculate the present value is very important. The higher it is, the lower the present value and consequently the relief amount, which leaves the door open for manipulation. In the current case of Niger, a much lower reference interest rate was used in the revised calculation of the present value at the completion point than two years ago at the decision point, because market interest rates had fallen in the meantime.

The present value of the debts is correspondingly higher today, so additional relief of approximately one third of the sum previously provided is needed to keep the country under the level of sustainability. Even German ministries, today, disagree on whether calculations of this type do not adversely affect the credibility of the creditors.


A new definition of debt sustainability

The re-interpretation of the HIPC initiative is proving to be a way in which the commitments made in Cologne can be tacitly withdrawn. Consequently, a discussion began earlier this year in the IMF on the expression “debt sustainability”. Non-governmental organisations have, unsuccessfully, been demanding this for years. So far, the World Bank and the IMF had always insisted that the relief targets under the HIPC were the ideal solution. The IMF-board of governors and its committees discussed a draft of the IMF staff at the spring meetings in Washington in April, in which the sustainable indebtedness of low-income countries was set much higher than previously under the HIPC initiative. This is openly justified by the fact that the money for the commitments given by the Cologne G7 summit was simply not available. There is no money in the HIPC Trust Fund meant to finance the debt repayment waiver by multilateral donors and save those institutions the book loss.

Thus the bar for the creditors has in practice been lowered. The IMF paper interprets the level of sustainability of 150 per cent of annual export earnings simply as a “safety buffer” which has been agreed in addition to the reduction of the debt position to 200-250 per cent of exports. It is implied that the latter figure is in fact adequate. Redefining the level of sustainability used since Cologne as a “safety buffer” puts creditors in a favourable position: most countries which have passed the decision point will in the foreseeable future show a debt position of between 150 and 200 per cent of their exports, in other words, they will exceed the previous level. If the threshold is raised back to 250 per cent, the creditors can nevertheless chalk up this result as a success. What’s more, they can even promote as an act of great generosity the fact that their relief pushes the debt position under the new level of sustainability – which, however, has been increased again. And none of this implies any additional cost.

The question of what exactly “sustainable indebtedness” means will be the central issue in the debate on the continuation of the debt forgiveness initiative in the coming months. Using a regression analysis with questionable methodology, the IMF paper establishes limits which lie a little above the current HIPC sustainability criteria. It is to be welcomed that this debate is not limited to the HIPCs but will apply to all low-income countries. However, the attempt to separate the question of debt sustainability from the question of debt waiver is problematic. The paper defines itself as a “forward-looking approach”. That might imply that the new parameters will guide future lending or borrowing, but not the writing-off of unsustainable prior debts.

The warning about the consequences of new borrowing by countries with two-time HIPC debt forgiveness is indeed important. However, this does not help poor countries if they are not told where they will get concessional funds and grants in order to close their balance of payments deficits and plug their fiscal gaps in the future. The advice from the spring meeting, that one should not blindly walk into the next debt trap, would be considerably more credible if it were combined with a clear top-up of development aid and the commitment to end the manipulation in the HIPC initiative. The most effective form of development financing is still the consistent waiver of unpayable old debts.

Literature and Links:
Romilly Greenhill, Elena Sisti: Real Progress Report on HIPC.
London, Jubilee Research 2003
http://www.erlassjahr.de; http://www.jubileeresearch.org
http://www.debtchannel.org; http://www.worldbank.org/hipc