Debt Relief for Poor Countries

• Author: Robert Powell
• Position: Senior Economist in the East African Division I of the IMF's African Department

Efforts to lighten the debt burden of poor countries go back at least two decades. The most recent, the enhanced HIPC Initiative, will provide faster and deeper debt relief to these countries while encouraging them to use the funds saved to fight poverty and raise living standards.

During the 1970s and early 1980s, many developing countries sharply increased their external borrowing. While middle-income countries borrowed mostly from private creditors, especially commercial banks, most low-income countries had less access to private finance and borrowed directly from other governments or official export credit agencies, or obtained private loans insured by the latter.

When many low-income countries began to have difficulty servicing their debts-paying the interest and principal on the scheduled due dates-in the early and mid-1980s, most of the private commercial lenders quickly reduced their exposures, but official creditors were willing to take risks well beyond those acceptable to the private lenders. The informal group of official creditors known as the Paris Club rescheduled many of the payments on their loans as they fell due ("flow rescheduling"), and the IMF, the multilateral development banks, and the export credit agencies offered the debtor countries new loans to support the economic adjustment programs they were now undertaking. The then Soviet Union also continued to provide substantial financing to countries with which it had close ties.

Under the Paris Club flow reschedulings, creditors accepted delays in payments falling due during the term of a policy reform program supported by the IMF. The amounts due were rescheduled for eventual repayment over the medium and longer term. As the 1980s progressed, the Paris Club increasingly agreed to reschedule most or all of the principal and interest payments falling due for poor countries seeking rescheduling. From 1976 to 1988, it agreed 81 nonconcessional flow reschedulings with 27 of the countries now identified as heavily indebted poor countries (HIPCs), delaying payments of about $23 billion (Table 1).

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This approach provided the poor countries with substantial cash-flow relief and financing for their reform programs, but their stock of outstanding debt steadily increased. As a result, the debt service paid by HIPCs increased on average from about 17 percent of exports in 1980 to a peak of about 30 percent of exports in 1986.

Toronto terms to Naples terms

The year 1987 marked a watershed in the wealthy countries' approach to the poor countries' debt burden. The United Kingdom argued that Paris Club commercial loans to poor countries should be rescheduled at below-market interest rates. It was the first time anyone had proposed rescheduling on concessional terms commercially priced debt owed to export credit agencies. Lowering interest rates on outstanding debt would reduce its present value, forcing governments to formally acknowledge and finance losses on the past activities of their export credit agencies. That same year, at the summit of the Group of Seven countries in Venice, Michel Camdessus, then IMF Managing Director, put forward a plan for a new, concessional IMF lending window for low-income countries-the Enhanced Structural Adjustment Facility (ESAF)-to be financed by grants from the wealthy countries.

Both...