MINISTERIAL MEETING ON ENHANCING THE MOBILIZATION OF FINANCIAL RESOURCES FOR LEAST DEVELOPED COUNTRIES DEVELOPMENT LISBON, 2-3 OCTOBER 2010

Transcription

1 MINISTERIAL MEETING ON ENHANCING THE MOBILIZATION OF FINANCIAL RESOURCES FOR LEAST DEVELOPED COUNTRIES DEVELOPMENT LISBON, 2-3 OCTOBER 2010 Background Paper ADDRESSING THE DEBT PROBLEMS OF THE LEAST DEVELOPED COUNTRIES (LDCS) 1

2 Introduction 1. The Brussels Programme of Action (BPoA) for the Least Developed Countries (LDCs) stresses that the external debt overhang in the majority of LDCs constitutes a serious obstacle to their development efforts and economic growth. Debt service takes up a large part of scarce budgetary resources that could be directed to productive and social areas, and the debt overhang harms the internal and external investment climate. The BPoA also calls upon the LDCs to initiate joint action with their development partners on the debt situation, including a comprehensive assessment of their debt problems and debt sustainability and to intensify efforts to improve debt management capability, inter alia, by regularly consulting with creditors and development partners on the debt problem. 2. The BPoA also calls on the development partners to effectively implementing the enhanced HIPC Initiative and to make expeditious progress towards full cancellation, in the context of enhanced HIPC, of outstanding official bilateral debt owed by HIPC LDCs. The development partners should also consider, on a case by case basis, debt relief measures for LDCs which are not HIPCs as an integral part of development processes. The Non-Paris Club official creditors are encouraged to participate in debt relief measures to assist LDCs. 3. The external debt situation of the developing countries particularly that of LDCs, remains a major and serious concern. The cumulative debt of the developing countries and transition economies increased by 8 per cent from 2007 to 2008, but stabilized at around US$3.7 trillion in This represents close to 40 per cent of their combined GDP. For LDCs, the situation is far worse. Their cumulative debt of is over USD 155 billion. LDCs are stuck in a perpetual debt over-hang. For many LDCs, debt servicing accounts for a major portion of the ODA they receive. External debt of LDCs 4. The total external debt of 45 LDCs for which data is available stands at US$155 billion in 2008, which was US$144 in 2007 (see annex 1). The figure below shows the external debt owed by individual LDCs for the year Figure 1: External Debt of 45 LDCs (for which data is available) in 2008 (million US$) Total External Debt (in Million US$) in LDCs External debt Afghanistan Angola Bangladesh Name of Country Benin Bhutan Burkina Faso Burundi Cambodia Central African Republic Chad Comoros Congo (DRC) Djibouti Eritrea Ethiopia Gambia Guinea Guinea-Bissau Haiti Lao PDR Lesotho Liberia 2

3 Total External Debt (in Million US$) in LDCs External Debt Madagascar Malawi Maldives Mali Mauritania Mozambique Myanmar Nepal Niger Rwanda Samoa Sao Tome and Principe Senegal Name of Country Sierra Leone Solomon Islands Somalia Sudan Togo Uganda U. R. of Tanzania Vanuatu Yemen Zambia Source: Global Development Finance: External Debt of Developing Countries, 2010, World Bank, ISBN: Domestic debt 5. In recent years, many LDCs have been increasingly borrowing from domestic sources to meet their budget deficit and financing gap. For many LDCs, the volume, composition and terms and conditions of the domestic debt are not widely available. However, better data are necessary as the debt sustainability analysis should focus on total debt and study the implication of debt structure. External debt servicing 6. LDCs primarily borrow from official sources from OECD countries and/or the multilateral agencies, such as the World Bank, IMF, and the regional banks. They often lack access to private capital markets. The debt problem of the LDCs, especially debt-servicing, is exacerbated by factors beyond their control. Uncertainty in domestic production, volatility in international prices & the exchange rate and deteriorating terms of trade often make their debt-burden unsustainable. 7. Despite significant debt relief under HIPC and MDRI, the total debt service burden of LDCs (both principle and interest payment) in the year 2008 reached US$6.03 billion of which US$4.18 billion was paid as principle and US$1.85 was paid as debt interest (see annex 1). It is projected that debt service burdens, both as a share of exports and as a percentage of government revenue, will remain more elevated into 2010 and beyond compared to the pre-crisis years 1. In 2009, debt service in relation to government revenue increased by more than 17 per cent in heavily indebted poor countries. This increase is due to both a rise in absolute debt service payments as well as a drop in government revenues. 8. The continued external debt burden greatly aggravates the poverty trap in LDCs. The indebted countries are home to the majority of the world s poor. Debt servicing often crowd-out the much needed public expenditure on productive and social sectors. This affects the long-term productivity of their economies and their abilities to be debt-free. The external debt burden constrains the national policy 1 Secretary General s report on external debt sustainability and development,

4 space and policy independence in many LDCs and their ability to play the role of a developmental State. Some features of debt to LDCs: 9. Average interests on new debt commitments in LDCs vary from country to country. For instance, in the year 2008, Eritrea (5.54 per cent interest), Angola (4.48 per cent), Senegal (2.72 per cent) and Mauritania (2.72 per cent) were among the countries that were subject to high interest obligations from new debt commitment. Equally, grant elements in new debt commitments also vary from country to country. Afghanistan enjoyed an 80 per cent grant element in their new debt commitments in 2008, while the figures for Eritrea and Angola were 14 per cent and 17 per cent respectively. The average grace periods on debt commitments for LDCs also differ with years for Malawi and three years for Guinea-Bissau. (See annex 2 for details) Impact of the financial crisis 10. The debt burden indicators in many LDCs have deteriorated due to the global financial crisis as their economies declined and external and fiscal financing requirements widened. The flows of FDI and remittances have also reduced. Due to the financial crisis, the share of public sector borrowing has increased and private financial flows have dropped. These led to a shift in the trends towards more borrowing from private lenders and more external borrowing by the private sector. 11. To mitigate the negative impacts of the financial crisis, many least developed countries have increased public spending by using their savings made during the previous years. Reduced government revenues combined with sustained or increased public spending, against the backdrop of declining external assistance in some countries, increased budget deficits in most LDCs. They therefore had very little fiscal space to go for targeted programmes and stimulus measures. If the economic recovery takes a longer time, their fiscal space would be quickly exhausted. Debt Sustainability and Debt Management 12. Maintaining external debt at a sustainable level is critically important for a country. This also testifies to overall economic solvency of an economy and ensures high credit ratings in international financial markets. Prudent macroeconomic policies, responsible lending and borrowing and effective debt management can play a crucial role in maintaining debt sustainability. Improving debt management, in particular through institutional reform and capacity building, could help countries to reduce debt vulnerabilities. Debt Sustainability Framework 13. The debt sustainability framework compares long- and medium term projections of the evolution of various debt ratios with debt burden thresholds based on the quality of policies as measured by the World Bank s Country Policy 4

5 and Institutional Assessment (CPIA). In the current Debt Sustainability Framework, no new lending is allowed for countries identified as being in debt distress. As a consequence, the Framework often tends to be overly restrictive in limiting countries capacity to borrow. 14. The use of the CPIA as the sole criterion for determining debt thresholds has been the object of criticisms. Historical series for the CPIA index are not publicly disclosed (only data for IDA countries starting from 2005 are disclosed). As a consequence, all analyses that link debt sustainability to the CPIA have been conducted by World Bank/IMF staff and external researchers have not been able to test the robustness of the links between the two variables. Moreover, it is not clear whether the CPIA is indeed a measure of policies or just a predictor of a debt crisis. While it may be reasonable to include the CPIA as one of the criteria used to define debt thresholds, it is harder to justify an approach that uses this variable as the only criterion 2. Debt relief: HIPC and MDRI 15. By the end of March 2010, of the 40 countries (of which 31 are LDCs, see annex 3) that were eligible or potentially eligible for debt relief under the HIPC Initiative, 30 had reached their completion point and were accorded the full relief programmed for them. They then also qualified for additional relief from remaining multilateral obligations owed to participating institutions under the MDRI. Six countries were between decision and completion points, wherein they receive interim relief, making a total of 36 countries receiving at least some relief under the Initiative. In the year since June 2009, four LDCs Afghanistan, the Central African Republic, Congo and Haiti had fulfilled their conditions for the irrevocable debt relief granted at the completion point of the HIPC process. Owing to the HIPC Initiative and MDRI, as well as traditional debt relief and other additional assistance, the debt burden of those 36 countries is expected to be reduced by over 80 per cent compared to pre-decision-point levels. 16. Delivery of relief through the Heavily Indebted Poor Countries Initiative and the Multilateral Debt Relief Initiative resulted in the cumulative total flows by the World Bank and IMF increasing from US$36.7 billion up to February 2009, to US$38.8 billion by February It is a matter of concern that not all creditors have been delivering on the programmed relief, particularly, smaller multilateral institutions, non-paris Club bilateral official creditors and commercial creditors (all together accounting for 33 per cent of the total cost of HIPC debt reduction). Further more, a number of commercial creditors have initiated litigation against some of the HIPCs, aiming to collect fully on the original obligations. Over the past two years, at least 12 HIPCs have been targeted in at least 54 commercial creditor lawsuits 4. 2 Report of the Secretary General on External debt and development, A/63/181 3 Report of the Secretary General on the Implementation of the Programme of Action for the Least Developed Countries for the Decade , A/65/80 E/2010/77 4 MDG Gap Task Force Report

6 Debt Restructurings with Official Creditors 18. Restructuring of intergovernmental loans and officially guaranteed export credits takes place under the aegis of the Paris Club. Agreements are conducted between the debtor country government and representatives of creditor countries. Debt restructuring treatments are formulated on a case-by-case basis within the context of the guiding principles of the Paris Club and with the consensus of all participating creditor countries. The Paris Club restructured US$3.1 billion in 2008 for six least developed countries, five of them (Democratic Republic of Congo, Djibouti, Gambia, Guinea, Liberia and Togo) being countries eligible for the HIPC initiative. This represents 46 per cent of the combined stock of debt owed to Paris Club creditors by these countries prior to implementation of the agreements concluded in Of the debt restructured, just over half was cancelled and the remainder rescheduled. Debt distress 19. A recent study conducted by the IMF found that 11 countries (out of 39 examined) were debt distressed. Ten of these countries were LDCs and nine of them HIPC-LDCs. The IMF study classified another 16 countries as being at high risk of debt distress, nine of them LDCs. All together, 16 of the 40 HIPC countries are found either debt distressed or at high risk of debt distress (see annex 4). Recommendations: Debt cancellation of LDCs 20. Despite international efforts to address the debt problem, including through HIPC, MDRI and Paris Club initiatives, debt sustainability and indebtedness remain serious challenges for the least developed countries. It is therefore important to consider some more robust measures to address the debt problem. The proposal by LDCs to make full cancellation of multilateral and bilateral debts needs to be considered seriously. Development assistance in the form of grant and concessional financing can make important contributions to maintaining debt sustainability in those countries. It is also important to ensure that HIPC eligible countries get full debt relief from all their creditors, including multilateral, bilateral and commercial creditors. Sovereign debt restructuring mechanism 21. Sovereign debt crises have been a major source of the difficulties faced by the least developed countries in achieving sustained growth and development. The social costs of these crises have been very high. The existence of debt overhang depresses growth, contributes to poverty, and crowds out essential public services. The current work-out processes as being conducted under the Paris Club, HIPC and MDRI are insufficient for ensuring debt sustainability. Because of the adverse terms and high costs imposed by debt work-outs, often, countries are reluctant to default in a timely way, resulting in delays in dealing with the underlying problems. It is therefore important to devise institutions and policies 6

7 that can reduce the costs of defaults and increase access to credit and reduce the overall costs of borrowing. 22. As recognized in the Monterrey Consensus and reiterated in the Doha Declaration on Financing for Development, initiative should be undertaken to prepare specific proposals of sovereign debt restructuring mechanism for consideration by the international community. The new mechanism should be efficient, equitable, transparent, and timely in handling debt problems of LDCs. Pending the creation of a strengthened international mechanism, innovative forms of debt crisis resolution should be considered. Setting up schemes of independent arbitration or mediation, or providing further support in organizing ad hoc meetings of a debtor with its creditors can be considered 5. New debt instruments 23. There is now a consensus that the composition of debt is as important as its level. Other things being equal, a safer debt structure for borrowers can substantially reduce the probability of a debt crisis. Under the right circumstances, safer debt instruments that may reduce the risks of sovereign borrowing include domestic currency debt, long-term debt and debt contracts which require payments that are linked to the borrower s ability to pay. 24. GDP-indexed bonds could be an important initiative in this regard. This bond provides a mechanism for linking a country s debt-servicing obligations to the level of economic activity, such that in times of high growth debt servicing would be higher, whereas the opposite would hold during recessions. The GDPindexed bond reduces the probability of default and thus the costs of expensive renegotiation, and they offer a valuable diversification opportunity. It also helps to maintain fiscal solvency and improves fiscal policy because during bad times Governments would have less debt-servicing costs and more fiscal space. 25. There remains opportunity to develop domestic capital markets, particularly local currency bond markets in LDCs. This can serve as a means of creating a more stable source of local currency funding for both the public and private sectors, thereby mitigating the funding difficulties created by sudden stops in cross-border capital flows, reducing dependence on bank credit as a source of funding and, above all, lowering the risk of currency mismatches. Since private financial markets are unlikely to develop these instruments autonomously, LDCs need support from the international community, particularly multilateral development banks in this regard. 26. New forms of lending could also benefit LDCs, who have limited market access to credit. For instance, most lending by the international financial institutions is either in United States Dollars, Euro, Yen, or Special Drawing Rights. The international financial institutions can switch to a system in which they borrow and lend in the currencies of their client countries and hence help the development process with both their assets, through local currency loans and 5 MDG Gap Task Force report

8 their liabilities, by helping to develop the international market for bonds in the currencies of LDCs. 27. Any analysis of debt sustainability for LDCs should recognize the need to implement the internationally agreed development goals, including the Millennium Development Goals; particularly their economic and social development, poverty reduction, productive capacity building and environmental sustainability and resilience building needs; without increasing debt ratios. It is important to recognize that public expenditure may have a direct effect on the variables that determine debt sustainability. For instance, an increase in public investment may increase potential growth and thus have a positive effect on sustainability. 28. Debt management capacity of LDCs needs to be enhanced by building necessary institutional and human capacities. Extending the HIPC sunset clause 29. Recent studies have classified a number of HIPC countries as debt distressed or at high risk of debt distress. The debt problems of non-hipc LDCs are also serious and have further worsened due to multiple global crises. It is therefore important to consider the possible extension of the sunset clause following adaptation of criteria and clauses for the potential inclusion of new countries. 8

9 Annex Annex 1: Total External Debt and debt servicing in LDCs (US$ Million) Least- Developed Countries Interest payment s Principal repayments Afghanistan Angola Bangladesh Benin Bhutan Burkina Faso Burundi Cambodia Central African Republic Chad Comoros Congo (DRC) Djibouti Equatorial Guinea Eritrea Ethiopia Gambia Guinea Guinea-Bissau Haiti Kiribati Lao PDR Lesotho Liberia Madagascar Malawi Maldives Mali Mauritania Mozambique Myanmar Nepal Niger Rwanda Samoa Sao Tome and Principe Senegal Sierra Leone Solomon Islands Somalia Sudan Togo

10 Total External Debt and debt servicing in LDCs (US$ Million) Least- Developed Countries Principal repayments Interest payments Timor-Leste Tuvalu Uganda U. R. of Tanzania Vanuatu Yemen Zambia Total Source: Global Development Finance: External Debt of Developing Countries, 2010, World Bank, ISBN: Annex 2: Average interests, grant elements, grace period for new debt commitments and Debt Service as percentage of GNI for LDCs for the year 2008 Average interest on new debt commitments (%) Grant elements on new debt commitments (%) Average grace period on debt commitments (years) Debt service as percentage of GNI Least-Developed Countries Afghanistan Angola Bangladesh Benin Bhutan Burkina Faso Burundi Cambodia Central African Republic Chad Comoros Congo, Dem. Rep Djibouti Equatorial Guinea Eritrea Ethiopia Gambia Guinea Guinea-Bissau Haiti Kiribati Lao PDR Lesotho Liberia Madagascar Malawi Maldives Mali

11 Mauritania Mozambique Average interests, grant elements, grace period for new debt commitments and Debt Service as percentage of GNI for LDCs for the year 2008 Average interest on new debt commitments (%) Grant elements on new debt commitments (%) Average grace period on debt commitments (years) Debt service as percentage of GNI Least-Developed Countries Myanmar Nepal Niger Rwanda Samoa Sao Tome and Principe Senegal Sierra Leone Solomon Islands Somalia Sudan Tanzania Timor-Leste Tuvalu Togo 0 Uganda Vanuatu Yemen, Rep Zambia Source: World Development Indicators, World Bank Annex 3: List of Countries That Have Qualified for, are Eligible or Potentially Eligible and May Wish to Receive HIPC Initiative Assistance (as of July 1, 2010) Post-Completion-Point Countries (30) Afghanistan* The Gambia* Mozambique* Benin* Ghana Nicaragua Bolivia Guyana Niger* Burkina Faso* Haiti* Rwanda* Burundi* Honduras São Tomé & Príncipe* Cameroon Liberia* Senegal* Central African Republic* Madagascar* Sierra Leone* Republic of Congo Malawi* Tanzania* Democratic Republic of Congo* Mali* Uganda* Ethiopia* Mauritania* Zambia* Interim Countries (Between Decision and Completion Point) (6) Chad* Côte d Ivoire Guinea Bissau* Comoros* Guinea* Togo* Pre-Decision-Point Countries (4) Eritrea* Kyrgyz Republic Somalia* Sudan* * Least Developed Countries Source: IMF website 15 September

12 Annex 4: LIC at High Risk of Debt Distress, or In Debt Distress In debt distress At high risk of debt distress 1/ HIPCs Pre-decision point Comoros* Eritrea* Somalia* Sudan* Post decision point The D.R.C*. Guinea* Guinea-Bissau* Liberia* Togo* Non- HIPCs Myanmar* Zimbabwe HIPCs Post decision point Cote d Ivoire Post completion point Afghanistan* Burkina Faso* Burundi* The Gambia* Haiti* Sao Tome and Principe* Non-HIPCs Djibouti* Grenada Lao, P.D.R. * Maldives* St. Lucia St. Vincent and the Grenadines Tajikistan Tonga Yemen, Republic of* * Least Developed Countries Source: IMF staff paper on preserving debt sustainability in Low-Income Countries in the Wake of the Global Crisis, April 1,