Debt cancellation? Or an exercise in book-keeping?

21 September 2004

Talk of full multilateral debt cancellation has been in the air since the June G8 summit against the backdrop of the impending end of the Heavily Indebted Poor Country (HIPC) Initiative. The US Treasury Department is apparently pushing for full multilateral debt cancellation and could announce this at the G8 ministers meeting ahead of the Bank and Fund annual meetings.

Debt campaigners have been calling for 100% debt cancellation without harmful economic conditions for all impoverished nations, and that the cancellation should be paid for using the IMF and World Bank’s resources. According to a UK official source, agreement on modalities for full cancellation is however unlikely before the spring of 2005.

Cautiously welcoming these developments, CSOs are fearful that the benefits of a full write-off may be offset by reduced levels of aid. According to Romilly Greenhill of Action Aid: “It is vital that any deal results in real new money and is not just a piece of financial housekeeping”

Long live HIPC?

The World Bank and IMF’s latest report on the HIPC Initiative acknowledges that it has neither delivered debt sustainability nor ensured an exit from the debt crisis for impoverished countries. Nations that have successfully qualified under the programme still hold debt burdens equivalent to at least 150% of exports-a level considered unsustainable by World Bank standards. Yet the report falls short of addressing the initiative’s shortcomings, calling only for an extension of the programme with changes to the benchmarks for debt sustainability. The Bank and Fund paper on options regarding the HIPC sunset clause was discussed by the boards of the Bank and Fund in July and a decision taken to extend the initiative for a further two years.

The HIPC initiative has been heavily criticised. According to Barbara Kalima of AFRODAD, “HIPC is still framed within a conditionality regime whose macroeconomic elements do not promote sustainable development”. An analysis by the European Network on Debt and Development (EURODAD) points out that the initiative leaves the Bank and Fund in charge of calculations of debt sustainability and ensures a dominant role of creditors.

EURODAD and other CSOs are calling for discussions on a new initiative based on a set of fair and transparent rules with equal partnership between creditors and debtors. A multistakeholder evaluation of HIPC in the framework of the financing for development follow-up process is suggested. Short of this they conclude that the initiative “will remain essentially a simple exercise in book keeping”.

Alternative forward looking strategies?

The Bank’s latest debt sustainability framework is intended to reduce the accumulation of future debts to unsustainable levels unlike the HIPC initiative that sought to deal with the debt overhang brought about by past borrowing. The new framework assesses debt sustainability based on 3 factors: the ratio of debt to gross domestic product (GDP) and to exports, the quality of country policies and institutional capabilities, and vulnerability to external shocks. The HIPC initiative only used the debt to export ratio as an indicator for sustainability. The suggested use of the Bank’s Country Policy and Institutional Assessment (CPIA) in the new framework is highly contentious and has been criticized. (See Update 40)

To deal with the debt crises in emerging market economies the IMF is considering linking debt repayments to country GDP. The idea of growth-indexed debt replayment is seen by economists as a way to reduce vulnerability of countries to external shocks. This would offer them some kind of insurance, reduce the likelihood of crisis and mitigate against adverse effects on debt sustainability. GDP-linked debt has been promoted in Latin America and discussed in the context of Argentina’s debt restructuring.