Development Policy Review, 2002, 20 (1): 5-24

.

Overseas Development Institute, 2002.

Published by Blackwell Publishers, Oxford OX4 1JF, UK and 350 Main Street, Malden, MA 02148, USA.

What’s Wrong with the HIPC Initiative and

What’s Next.

Bernhard G. Gunter

*

**

*

This article reviews the problems of the enhanced HIPC initiative and

outlines possible steps towards a more efficient debt and poverty reduction

initiative. After brief comments on the rationale for debt relief, it analyses

some key issues related to the HIPC initiative’s aim to achieve debt

sustainability, describes other fundamental problems of the HIPC

framework, and discusses some less known but still crucial flaws of the

initiative. It then proceeds with necessary improvements for an efficient

debt reduction programme, possible modifications for a revised HIPC

initiative, and some suggestions on how to overcome financing constraints.

Apart from being in several respects unfair, the current framework is

unlikely to permit a lasting exit from unsustainable debt for many HIPCs,

and may lead to a decline in traditional development assistance.

Between 1980 and 1990, the low-income countries’ total stock of external debt grew

rapidly from US$125 billion (in 1980) to US$419 billion (in 1990). In contrast, gross

national product increased only from US$0.9 trillion (in 1980) to US$1.3 trillion (in

1990). In other words, the debt-to-GNP ratio increased from less than 14% in 1980 to

over 31% in 1990. Even though the rescheduling terms of the Paris Club (PC)

1

became

increasingly concessional for low-income countries,

2

most of them continued to face

severe debt-service problems during the 1990s.

3

Owing to increasing evidence that the

development prospects of many of the heavily indebted and poor countries (HIPCs)

*

Consultant for the World Bank and Oxfam America/New Rules for Global Finance Coalition. From 1998

to 2000, the author was an economist in the World Bank’s HIPC unit. The views expressed here are the

author’s own and should not be associated with any position or organisation. He wishes to thank Jo Marie

Griesgraber, Eric A. Friedman and Tony Killick for useful comments. For communications, please contact

Bernhard_Gunter@altavista.com.

1. An informal group of creditor governments from mostly industrialised countries that has met regularly in

Paris since 1956 to reschedule bilateral debts, see www.clubdeparis.org/en/ for more information.

2. Following the Group of Seven (G-7) summits in Toronto (1988), London (1991), and Naples (1994), debt

relief provided on eligible debt was 33%, 50%, and 67%, respectively, with eligible debt defined as pre-

cutoff date, non-ODA (official development assistance) bilateral debt. The cutoff date refers to the date a

debtor country first approached the Paris Club for a debt rescheduling. ODA debt was excluded from debt

reduction, but was usually rescheduled. Note that Easterly’s (1999) argument that substantial debt relief

had been provided to heavily indebted and poor countries (HIPCs) before the HIPC initiative is misleading

as traditional debt relief provided only temporary relief on largely unpayable debt and was only provided

on eligible debt.

3. Of the 37 low-income countries that have rescheduled their debt with the Paris Club during the last two

decades, fewer than one quarter have graduated from the rescheduling process (IMF Survey, Supplement,

Vol. 29, September 2000, p. 17). For a historical description of debt relief for low-income countries from

the Toronto terms to the HIPC initiative, see Daseking and Powell (1999).

6 Bernhard G. Gunter

suffer from unsustainable debt, the member governments of the International Monetary

Fund (IMF) and the World Bank agreed in the autumn of 1996 to the HIPC Initiative.

This initiative defines a country as ‘heavily indebted’ if so-called ‘traditional debt

relief mechanisms’

4

are unlikely to reduce its external debt to a sustainable level, debt

sustainability being largely determined by a net present value (NPV) debt-to-export

ratio of 200-250% (see more details below). The criterion for being ‘poor’ is to be an

‘IDA-only’ country, i.e. a country that relies on financial resources from the World

Bank’s International Development Association (IDA).

5

The key slogan of the HIPC

Initiative was that sustainable development requires sustainable debt, and thus the goal

was to reduce the HIPCs’ external debt to a sustainable level.

6

Compared with decades

of bilateral debt rescheduling, the HIPC initiative was a major break-through with

respect to two related issues. First, it was intended to be a comprehensive solution to the

HIPCs’ unsustainable debt, which would allow HIPCs to exit permanently from

repeated debt rescheduling by reducing their external debt stock to sustainable levels.

Second, given that more and more external debt owed by the HIPCs was multilateral

debt, the HIPC initiative also included a reduction of multilateral debt. The provision of

multilateral debt relief was a difficult step for the international community to take.

7

However, three years after launching the initiative, it was clear that the original

HIPC framework was not a sufficient solution, and following public pressure, the IMF

and the World Bank formally agreed in September 1999 to enhance the framework. The

enhancements provide broader, deeper, and faster debt relief through (i) a lowering of

the ratios considered to provide debt sustainability (together with a lowering of the

minimum thresholds to qualify for the openness/fiscal criteria),

8

(ii) replacing the, in

principle, fixed three-year period between decision and completion points by the

concept of a floating completion point (which is reached by the successful

implementation of so-called ‘triggers for the floating completion point’), and (iii) the

provision of interim relief from some creditors between the decision point and the

completion point. At the time the new framework was adopted, it was estimated that the

original and enhanced HIPC frameworks combined would reduce the public and

publicly guaranteed (PPG) debt stocks of the 41 HIPCs by about US$50 million (about

US$28 billion in NPV terms).

4. A net present value (NPV) debt reduction of two-thirds on eligible (see Note 2) bilateral debt (Naples

terms).

5

.

Originally, Equatorial Guinea and Nigeria were considered to be HIPCs, but have been dropped from the

list of HIPCs as they were later considered to be no longer IDA-only countries. The Comoros, The

Gambia, and Malawi were added once they sati sfied the requirements and asked to be considered for HIPC

debt relief. For the current list of HIPCs and a more detailed description of the HIPC initiative, see the

World Bank’s HIPC website: www.worldbank.org/hipc/.

6. Based on the original framework, debt relief would be provided irrevocably to each HIPC after reaching

its HIPC completion point, totalling for the group of HIPCs approximately US$20 billion in nominal terms

(approximately US$13 billion in NPV terms); not a huge amount compared with the more than US$200

billion total debt outstanding at the time the original framework was adopted.

7. For a description of the politics and economics delaying HIPC debt relief since 1987, see Evans (1999).

Given that less than 4% of HIPCs’ total external debt was private non-guaranteed (PNG) debt, the

architects of the HIPC framework decided to exclude this debt.

8. Under the enhanced framework, a NPV debt-to-export ratio above 150% (down from 200-250%) is

considered to be unsustainable. For countries having an export-to-GDP ratio of at least 30% (down from

40%) and a government revenue-to-GDP ratio of at least 15% (down from 20%), a NPV debt-to

government revenue ratio of more than 250% (down from 280%) is considered to be unsustainable.

What’s Wrong with the HIPC Initiative and What’s Next. 7

Furthermore, by linking enhanced HIPC debt relief to the preparation and

implementation of nationally-owned participatory poverty reduction strategies –

embodied in Poverty Reduction Strategy Papers (PRSPs) – an important step forward

has been made in placing debt relief within an overall framework of poverty reduction.

9

However, there are also some problems in linking HIPC debt relief to poverty reduction

strategies. It has been argued that the PRSP requirement either delays enhanced HIPC

assistance or leads to a lower level/quality of country ownership and civil society

participation. Furthermore, evidence is once again mounting that even the enhanced

HIPC framework does not provide long-term debt sustainability for many of the poorest

countries, and various critiques have pointed out a couple of other problems and flaws

of the initiative. Before addressing these critiques that argue that further revisions and

enhancements are needed to make the HIPC initiative an effective instrument for

poverty reduction, we shall first address briefly some of the key arguments against

further debt relief.

Is debt relief needed, and how much.

Though clearly a minority in terms of popular voice, there are some people who believe

that no further debt relief should be provided. Some of the key arguments against

further HIPC debt relief are (i) that debt relief is not just, since the majority of the

world’s poor people live in countries that are not eligible for HIPC debt relief; (ii) that

excessive debt is not the cause of growing poverty but a symptom of waste; and (iii)

that debt service cannot crowd out social expenditures as long as a country receives a

multiple of its debt-service payments in terms of new loan disbursements and grants.

While all three arguments seem to be correct at first sight, a more careful examination

does not support their conclusion against further debt relief.

First, the fact that the majority of the world’s poor people live in countries that are

not eligible for HIPC debt relief may indicate inappropriate HIPC eligibility criteria, not

an argument against debt relief per se. Indeed, some of the world’s poorest countries

have been excluded from the HIPC initiative because – according to the HIPC

initiative’s narrowly defined debt-to-export and debt-to-revenue criteria – their debt is

considered to be sustainable. However, as suggested in Sachs et al. (1999) and in more

detail in EURODAD (2001b), if debt sustainability is approached from a human and

social development perspective, most of the poorest countries do have an unsustainable

debt.

Second, while it is true that excessive debt is the result of failed investments, there

are many reasons for these failures. To mention a few: corruption, falling terms of trade,

drought, and internal and external conflicts. Only some of these reasons could be

considered as waste on the part of the debtor countries, but even then, they also reflect

poor lending decisions on the part of creditor countries. As Dittus (1989: 364) pointed

out more than ten years ago, ‘donors have to shoulder part of the responsibility of

assuring that aggregate lending is consistent with debt service capability’. Moreover,

9. For the latest information on issues related to PRSPs, see the World Bank’s comprehensive PRSP website:

www.worldbank.org/poverty/strategies/index.htm. For a recent review of PRSP documentation, see Booth

and Lucas (2001); for a recent human rights assessment of the PRSP see Cheru (2001); for a human rights

assessment of the HIPC initiative, see Friedman (2000).

8 Bernhard G. Gunter

some reasons for failed investments are beyond the control of either debtor or creditor,

and the outcome, had there been no investments, is likely to have been worse. Simply to

blame the debtor countries only, and to ask the next generation of debtor countries to

pay for the failed investments of earlier decades, does not seem to be appropriate on

either moral or economic grounds.

Third, while it is true that, from a static point of view, debt service cannot crowd

out social expenditures as long as new loans and grants exceed debt-service payments,

social expenditures could be higher if debt service were lower. More importantly, the

seminal contributions by Krugman (1988) and Sachs (1989) have shown that debt relief

is more efficient than the provision of new loans in cases where debt has accumulated

beyond some critical level (point A in Figure 1). Debt accumulated beyond point A

constitutes a debt ‘overhang’ that has a negative impact on private investment, growth

and development. In other words, even new loans and increased social expenditures

may prove ineffective as long as a country is trapped in a situation of unsustainable

debt. Indeed, during the early 1990s, empirical evidence grew that many of the poorest

countries had acquired unsustainably high external debt stocks that had a significantly

negative impact on investment and growth.

1 0

The empirical studies showed that

unsustainable debt burdens crippled development, especially in sub-Saharan Africa.

Figure 1: Relationship between external debt and GNP growth

Given that there is a trade-off between the provision of debt relief and the provision

of new loans and grants, the question that arises is: how much debt relief should be

provided. The theoretically simple answer is that debt relief should be provided until

the debt overhang is removed, in other words, until debt sustainability is secured. As

will be shown in more detail in the next section, the practical answer is more difficult as

there is no agreement on what level of debt is sustainable. In any case, there is a

problem if debt sustainability indicators are derived based on financing limits for debt

10. The main initial contributions are Borensztein (1990), Cardoso (1993), Cohen (1993), Faini and de Melo

(1990), Greene and Villanueva (1991), Schmidt-Hebbel and Müller (1992), and Serven and Solimano

(1993). For more recent evidence see Elbadawi et al. (1997) and Gunter (2001).

A

GNP Growth

External Debt

What’s Wrong with the HIPC Initiative and What’s Next. 9

relief instead of on empirical analyses. In theory, there is also broad agreement that debt

relief should be additional to existing traditional development assistance and that this

cannot be achieved without increases in overall development budgets.

1 1

However, the

evidence so far seems to indicate that HIPC debt relief has been deducted from

traditional development assistance.

12

The financing constraints are especially severe for multilateral development banks

(MDBs).

13

As the case of the World Bank’s IDA shows,

14

multilateral assistance to the

HIPC initiative can only be additional to traditional multilateral development assistance

if overall budget allocations to MDBs are increased in real terms. Excluding increases

earmarked to fight the HIV/AIDS epidemic, there is currently little indication that this

will happen.

1 5

It is thus realistic to assume that HIPC debt relief will reduce traditional

multilateral assistance. With non-increasing development budgets, the only possibility

of increasing the total assistance to HIPCs would be to cut assistance levels to non-

HIPCs. In view of the fact that past aid has flowed to countries that were not committed

to poverty reduction, some reallocation of aid may be justified in line with the recent

efforts to improve aid effectiveness.

1 6

However, considering that some of these non-

HIPCs are actually poorer than the average HIPC (though less indebted), this could

hamper the achievement of the international development goals (IDGs, now also called

millennium development goals, MDGs).

17

Finally, given that the enhanced HIPC framework determines that each creditor’s

burden-sharing of HIPC debt relief is based on its share in the total NPV debt as of the

decision point, it is only logical that some creditors have reduced their traditional

11. See Culpeper (2001) for a recent analysis of long-term financing needs for the poorest countries.

12. As shown in more detail in Gunter (2001), comparing the three-year average of 1994-6 with the three-year

average of 1997-9, there is a significant decrease in both bilateral disbursements and grants to each of the

four HIPCs that had reached their original decision points in 1997.

13. Some MDBs did not even have enough resources to provide their share of original HIPC assistance. For

example, though Uganda had reached its completion point under the original framework in April 1998, it

is currently (November 2001) still waiting to receive original HIPC assistance from two sub-regional

MDBs (the East African Development Bank and the PTA Bank).

14. IDA’s share of enhanced HIPC assistance will come from two sources, using a pay-as-you-go approach.

Initially, IDA’s share will be financed through IBRD net income allocated into the HIPC Trust Fund (as

was the case in the past). Once these resources are used up, the remaining share of IDA’s enhanced HIPC

assistance will come out of the then current IDA budget. The World Bank estimates that, from 2005

onwards, an annual US$500 million will need to be taken out of then current IDA budgets. Though the

World Bank management stressed that resources taken out of IDA are supposed to be returned in

subsequent IDA replenishments, there is a realistic fear (based on struggles over previous IDA

replenishments) that donor contributions to IDA may not be increased. Thus, IDA resources used for HIPC

debt relief will reduce traditional IDA development projects.

15. This conclusion is drawn from announcements by various OECD countries, some of which intend to

increase thei r aid budgets (e.g., Germany, see Süddeutsche Zeitung, 12 October 2001, p.13) and some of

which intend to decrease their aid budgets (e.g., Japan, see Wall Street Journal, 7 November, p. A14), and

the reactions to the pleas for doubling ODA by World Bank President James Wolfensohn and British

Chancellor of the Exchequer Gordon Brown at the Bank-Fund Meetings in Ottawa, 17-18 November 2001

(as reported in Les Echos, 20 November 2001, p. 9).

16. See the World Bank’s Aid Effectiveness website: www.worldbank.org/research/aid/ for more information,

including the overview of the recent World Bank (2001a) report on Aid and Reform in Africa. A useful

collection of papers on lessons learnt and future directions can be found in Tarp and Hjertholm (2000). For

an extensive study on phasing out Swedish project aid, see Catterson and Lindahl (1999).

17. For definitions of and progress towards the IDGs, see: www.paris21.org/betterworld/.

10 Bernhard G. Gunter

development assistance to HIPCs. Once the HIPC decision point is reached, this

‘holding back effect’ should disappear; however, as long as creditors believe that further

debt relief will be required in the future, they have little incentive to provide new loans.

The challenge of achieving debt sustainability

A United States General Accounting Office (US GAO, 2000) report reviewed the HIPC

initiative in Spring 2000 and concluded (p.13) that ‘unless strong, sustained economic

growth is achieved, the initiative is not likely to provide a lasting exit from debt

problems’. Like others, it cautions that the growth assumptions used in the country-

specific debt sustainability analyses (DSAs) may be over-optimistic. For example, the

IMF and World Bank assume that export earnings will grow in excess of 9% every year

for 20 years in 4 of the 7 HIPCs the GAO analysed (ibid.: 9).

Over-optimistic growth rates affect debt sustainability in two ways: first, they

imply over-optimistic growth rates for a country’s exports, and second, they

underestimate a country’s future financing needs. Given that the HIPC framework

defines debt sustainability largely by a debt-to-export ratio, overestimations of exports

(which are in the denominator of the ratio) and underestimations of future financing

needs/new debt (which are in the nominator of the ratio) result in unrealistically low

future debt-to-export ratios, which then indicate unrealistic long-term debt

sustainability. As the GAO report points out (p. 15), if Tanzania’s exports grow at an

annual 6.5% (instead of the 9% projected by the IMF and World Bank), Tanzania’s

debt-to-export ratio could be more than twice what the joint IMF/World Bank’s forecast

shows for the projection period.

Recognising this major challenge and the possibility that the HIPC initiative may

not achieve debt sustainability, the IMF and World Bank have issued a paper (2001a) on

the challenge of maintaining long-term debt sustainability, in which they acknowledge

that the NPV debt-to-export ratio is projected to remain above 150% for 10 years or

more for at least 3 HIPCs (Bolivia, Malawi, and Niger). However, a EURODAD

(2001a) study states that, in 2005, the NPV debt-to-export ratio will be above 150% for

at least 5 HIPCs. The IMF/World Bank report (2001a: 22, Fig. 3) also acknowledges

that an export growth rate 1% lower than was achieved in the past will again lead to

raising debt-to-export ratios above 150%. However, without addressing the broad

critique of over-optimistic growth projections, the report concludes that the HIPC

initiative provides a good basis for HIPCs to exit from rescheduling.

A detailed analysis of capital flows, structural transformation, and investment and

savings rates of HIPCs provided by Gunter (2001) shows that there is little

macroeconomic foundation for the high growth projections of HIPC DSAs. Even before

the developments following 11 September 2001, the IMF and World Bank Boards

recognised that HIPC growth assumptions might be too optimistic, and therefore asked

their staffs to clarify when and how to exercise the option of increasing debt relief at the

completion point. Based on these clarifications (see IMF/World Bank, 2001c), the

Development Committee (meeting on 18 November 2001 in Ottawa) recognised the

need to take account of worsening global growth prospects and declines in terms of

trade, when updating HIPC initiative DSAs at the completion point.

18

18. See the HIPC website (www.worldbank.org/hipc/) for the full statement of the Development Committee.

What’s Wrong with the HIPC Initiative and What’s Next. 11

Finally, there is a widespread criticism that the HIPC initiative uses inappropriate

debt sustainability criteria. For example, Sachs (2000) has expressed the view that the

HIPC sustainability criteria have nothing to do with debt sustainability in any real sense.

Gunter (2001) has shown that the HIPC initiative neglects standard debt-to-GNP ratios

and is far too restrictive in the application of the fiscal indicator. As a World Bank

(2001b) report shows,

at least 4 countries (Guinea, Mauritania, Niger, and Zambia) will

continue to pay more than 20% of government revenues as external debt service on PPG

debt after enhanced HIPC debt relief.

Other fundamental problems

First, there is a widespread criticism that it was a fundamental mistake to let the

creditors, led by the IMF and World Bank, work out the original framework of the

HIPC initiative. Though it is acknowledged that the IMF and World Bank had

undertaken an extensive consultation process across the world for the 1999 review of

the initiative, the enhanced HIPC framework clearly followed the suggestions of the G7

summit of June 1999 in Cologne. As is reflected in recent criticism of the HIPC

framework voiced in many NGO circles and some United Nations organisations,

developing countries, and especially debtor countries, had little or no say in the final

adoption of the enhanced framework of the HIPC initiative. Given that some developing

countries are major creditors to some HIPCs, their exclusion from the key decision-

making process constitutes a problem.

Second, it is argued that the HIPC initiative has been designed around the concept

of what debt reduction is needed according to inappropriate debt sustainability

indicators, instead of what debt reduction is needed for sustainable development. This

was especially the case under the original framework, which did not have any explicit

link to poverty reduction. While the enhanced framework makes a formal link to

poverty reduction by requiring HIPCs to develop and implement poverty reduction

strategies, enhanced HIPC debt relief is still not calculated on the basis of a country’s

need for sustainable development.

19

This brings us to another set of important criticisms related to the linking of HIPC

debt relief to PRSPs. It has been argued that such a link implies excessive conditionality

that has unnecessarily delayed the provision of enhanced HIPC debt relief. This applied

especially to the cases of Uganda and Bolivia, which were required to go through a

further round of enhanced decision and enhanced completion points, even though they

had demonstrated a highly successful track record on poverty reduction. As is described

in more detail in US GAO (2000) and Northover (2000), there is an unacceptable

tension between the urgent need for debt relief and the time required to build a

genuinely participatory PRSP process. On the other hand, it has been argued that PRSPs

do not go far enough in incorporating an analysis of the ethnic, religious, and social

tensions which confront the lives of most Africans. Roy (2000) has pointed out that

PRSPs should be accompanied by and integrated with measures to infuse peaceful

diplomacy, peace-making and peace-keeping. Similarly, Cheru (2001) has argued that

19. For example, the enhanced HIPC initiative could have provided debt relief based on a strategy to achieve

the international development goals which the world’s governments have committed to achieve by 2015.

12 Bernhard G. Gunter

the role of PRSP overseers should not be given exclusively to the IMF and World Bank,

but that other, United Nations, agencies should be brought into the process.

Finally, the stated HIPC debt-service savings – comparing actual payments before

and after the HIPC initiative – are distorted by the fact that some HIPCs made unusually

high debt-service payments shortly before reaching the enhanced decision point in order

to avoid any arrears that could have delayed this.

20

Looking at the same issue from a

different perspective, we can compare actual debt-service payments in the year before

reaching the enhanced decision point with debt-service payments for the year following

it. Such a comparison shows that Nicaragua paid US$9 million more in 2001 (US$117

million) than in 1999 (US$108 million), Niger paid US$21 million more in 2001

(US$49 million) than in 1999 (US$28 million), and Zambia paid US$22 million more in

2001 (US$158 million) than in 1999 (US$136 million). All three HIPCs reached their

enhanced decision points in December 2000.

21

Less-known problems with the initiative’s framework

Burden-sharing

As mentioned above, the HIPC initiative’s burden-sharing concept is – compared with

earlier debt initiatives – a major step forward, as all creditors share the costs of the

initiative based on each creditor’s NPV share in outstanding and disbursed debt. Within

the group of some 70 bilateral creditors, the costs for Paris Club members are estimated

at nearly US$12 billion; the costs for non-members are estimated at around US$3

billion. However, to understand this breakdown, it is important to note that the PC is not

a fixed group of countries, but depends on the debtor country’s main creditors. This

explains why in some cases, the PC includes some developing country creditors (Brazil,

Israel, South Africa, Trinidad and Tobago).

Based on current estimates, the top 12 bilateral creditors include three developing

countries (Costa Rica, Brazil and Guatemala; see Table 1). Though the list of bilateral

creditors includes in some cases even HIPCs, no provision has been made to exempt

creditors that are HIPCs from the burden-sharing of the initiative. So far, the experience

has been that it is largely developing country creditors and sub-regional MDBs that

have – due to financial constraints – not fully participated in the provision of HIPC debt

relief.

2 2

20. Calculations based on the data provided in Table 4a of World Bank (2001b) seem to indicate that this was

t he case for Guinea, Guinea-Bi ssau, Malawi, Mauritania, Nicaragua, Rwanda, and Zambia, where actual

debt-service payments in the decision-point year increased by 30%, 117%, 26%, 11%, 17%, 90%, and

24%, respectively, compared with actual debt-service payments in the year before the decision point.

Excluding these increases, the actual annual debt-service savings of the enhanced HIPC initiative are at

least US$140 million less.

21. Calculations based on data provided in Table 4a of World Bank (2001b).

22. The HIPC initiative does not constitute international law. HIPCs are therefore obliged to pay their debt

service in full until bilateral agreements have been signed with each bilateral and multilateral creditor.

What’s Wrong with the HIPC Initiative and What’s Next. 13

Table 1: Bilateral and multilateral creditors with the largest HIPC

costs (US$ bn, in 1999 NPV terms)

Bilateral creditors

14.6 Multilateral creditors

14.0

of which

of which

Japan

2.8 World Bank

6.2

France

2.3 African Development Bank/Fund 2.3

Germany

1.4 IMF

2.2

Russia

1.1 Inter-American Development Bank 1.1

Italy

1.0 Other MDBs

2.2

Spain

0.7

United Kingdom

0.6

Costa Rica

0.4

Portugal

0.4

United States

0.3

Brazil

0.3

Guatemala

0.3

Other bilateral creditors

6.0

Source: HIPC Review 2000: The Enhanced Initiative for Heavily Indebted Poor Countries –

Review of Implementation, September 2000 (available on the HIPC website:

www.worldbank.org/hipc/); data for multilateral creditors are based on Table 6; data for

individual bilateral creditors are estimates based on combining Tables 6, 10 and 11.

Currency-specific discount rates

A second, less frequently cited problem is related to the fact that the HIPC framework

uses currency-specific discount rates to calculate the NPV debt (which provides the

basis for HIPC assistance). The discount rates used are the currency-specific

commercial interest reference rates (CIRRs) averaged over the last six months before

the reference date of the DSA. CIRRs are provided by the OECD for its member

countries’ currencies, based on commercial lending rates.

2 3

The way the HIPC

framework decided to use these CIRRs entails four problems:

•

currency-specific CIRRs imply an unfair burden-sharing;

24

•

the averaging of CIRRs over 6 months enforces the unfair burden-sharing and

causes a high volatility in estimations of assistance and costs;

25

23. The CIRR of the Special Drawing Right (SDR) is calculated based on its composite currencies’ CIRRs.

24. Currency-specific discount rates imply a highly unfair burden-sharing whereby booming creditor countries

get rewarded and creditor countries facing or recovering from recession get punished. This is because

booming economies generally have higher CIRRs than countries in or recovering from a recession.

25. As interest rates are changing over time, any change in the DSA reference date implies changes in the

discount rates and thus represents changes in NPV debt and HIPC assistance. As Uganda’s reassessment

under the enhanced HIPC initiative showed, high discount rates and over-optimistic export projections can

make a country’s debt look sustainable, even though it is not. (Based on Uganda’s original completion

point DSA, Uganda’s NPV debt-to-export ratio at end-June 1999 was supposed to be 207%; however, as

the enhanced decision point DSA showed, the actual NPV debt-to-export ratio was 240%.) Together with

volatile exports (or volatile government revenues), this methodology results in highly unpredictable

numbers for HIPC assistance and HIPC costs.

14 Bernhard G. Gunter

•

the averaging of CIRRs over 6 months implies that HIPCs assessed during a

period of relatively high world interest rates will, ceteris paribus, receive less

HIPC assistance than countries assessed during relatively low interest rates;

•

the gap in clear rules as to what CIRR to use for non-OECD currencies has led

to arbitrary uses of discount rates in some cases.

2 6

All four problems imply arbitrary results on assistance levels and costs of the HIPC

initiative. The impact of differences in discount rates on the NPV is illustrated by the

following comparison. Consider a US$10 million loan repayable at an interest rate of

4% over 40 years (including 10 years’ grace). Using a discount rate of 6% results in an

NPV of US$7.5 million. Using a discount rate of 2% results in an NPV of US$13.9

million (nearly twice as much). In other words, in this example, every percentage point

difference in the discount rate implies a change in the NPV of about US$1.6 million (or

about 16%).

The impact of different discount rates on a country’s HIPC assistance depends on

(a) the size of the difference in discount rates, (b) the share of NPV debt affected by

differences in discount rates, and (c) the level of indebtedness. If a HIPC’s debt level is

close to what is considered to be sustainable, differences in discount rates could

determine the country ’s eligibility under the initiative.

As the comparison of the costs for Japan and the United States shows, the impact of

different discount rates also has important implications for the creditor country. Among

other factors, especially Japan’s larger exposure, the large difference in discount rates at

the time of the HIPC cost calculations between the US dollar (6.23%) and the Japanese

Yen (2.22%) partly explains why Japan’s costs of the HIPC initiative are so much

higher (US$2.8 billion) than those of the United States (less than US$0.4 billion).

27

As

Oxfam International (2000: 10) reports, the Japanese government had threatened some

HIPCs (Ghana, Malawi, and Laos) with a withdrawal of future aid should they ask to be

considered for HIPC debt relief. In addition to Japan’s high exposure to these three

countries, it is likely that the unfair burden-sharing implied by the Yen ’s low discount

rate triggered Japan’s action. In any case, partly through mediation and partly based on

a cost-benefit analysis, Malawi decided in Summer 2000, and Ghana in Spring 2001, to

request HIPC assistance.

Debt rescheduling

Given that the key goal of the HIPC initiative is to provide a lasting exit from repeated

debt rescheduling, it does not make sense for some HIPC debt relief to be provided

through debt rescheduling. However, following previous Paris Club arrangements,

official development assistance (ODA) was to be rescheduled over 40 years (including

16 years grace) at original interest rates.

26. This arbitrariness is reflected in various HIPC documents. For example, the Preliminary HIPC document

of Tanzania (prepared in October 1999) used the SDR’s CIRR for all currencies which do not have their

own CIRR; however, the Guinea document (prepared in December 1999) used the US dollar’s CIRR

(6.23%) for the Chinese Yuan, the French Franc’s CIRR (5.35%) for currencies pegged to the French

Franc, and the SDR’s CIRR (5.25%) for the other currencies which do not have an established CIRR.

27. CIRRs are six-month averages of July-December 1998, as used for most 1999 DSAs.

What’s Wrong with the HIPC Initiative and What’s Next. 15

In most cases, the ODA debt rescheduling does not provide much NPV debt

reduction, and thus, large debt reductions in non-ODA had to compensate for the

insufficient NPV reduction from the ODA rescheduling. In cases where the original

ODA debt interest rate is higher than the discount rate, the ODA rescheduling actually

increases the NPV of ODA. The case of Tanzania’s Naples terms stock of debt

reduction (67% reduction in NPV terms) shows how strong this impact of ODA debt

rescheduling can be. Even though some non-ODA debt gets cancelled, it still turns out

that total debt service during fiscal years 2000 to 2018 is higher after the Naples terms

stock of debt reduction than before these terms stock.

28

Note that this example does not

even take into account the additional increases in debt service for the fiscal years after

2018. This implies that even though a HIPC can obtain a relatively high debt reduction

in NPV terms, its nominal debt-service payments (spread over time) can actually

increase.

The delivery of HIPC debt relief through debt reschedulings applies also to some

MDBs. A variety of MDBs claim that their charters do not allow them to cancel debt

stock or debt service. Given these legal constraints (or the inability/unwillingness to

change charters) and the HIPC framework’s gap in defining how HIPC assistance will

need to be provided, IMF and World Bank staff have left it to each creditor to decide on

how to provide its share of NPV debt relief. While concessional reschedulings can

provide the NPV assistance required under the HIPC initiative, the actual benefit to the

debtor country may be marginal. The simplified example in Annex 1 illustrates this

point.

Necessary improvements

Based on the above analysis, an efficient debt reduction programme would benefit from

various improvements.

29

With regard to HIPC DSAs, (i) DSA growth projections would

need to be based on realistic growth assumptions, which, for example, take into account

the negative impact of AIDS, (ii) debt sustainability indicators would need to focus on

sustainable development instead of on inappropriate debt sustainability criteria, which

also implies that (iii) the amount of debt relief would need to be based on globally

agreed debt sustainability indicators that include a debtor country’s fiscal constraints in

achieving the international development goals. With regard to HIPC debt relief, it

should (i) not be deducted from traditional (bilateral and multilateral) development

assistance, and (ii) not be provided through debt rescheduling. Furthermore, (i)

solutions need to be found for current financing constraints as well as for any further

enhancements of the initiative, (ii) mechanisms need to be designed to provide faster

debt relief without calling into question the efficiency of debt relief, and (iii)

modifications are needed with regard to the use of currency-specific discount rates in

order to make the initiative fairer, more predictable, and even simpler. Finally, to avoid

donors holding back their assistance to countries that have not yet reached their decision

28. Table 11 of Tanzania’s Enhanced Decision Point Document (published on the HIPC website) compares

the average external debt service before and after a Naples Terms stock of debt reduction. It shows that the

average annual debt service for fiscal years 2000 to 2009 decreases after the Naples terms stock of debt

reduction (from US$283m. to US$255m.), but increases by more than that for fiscal years 2010 to 2018

(from US$345m. to US$379m.).

29. A more Jubilee 2000-oriented set of suggestions for solutions can be found in Roodman (2001).

16 Bernhard G. Gunter

points, assistance levels should be based on relative shares in NPV debt as they existed

before creditors adjusted their new lending.

Possible modifications

There is a wide range of suggestions on how to improve the enhanced HIPC initiative.

At one end of the spectrum are suggestions for further marginal improvements in the

enhanced framework, like the acceleration of the provision of HIPC relief. At the other

end are suggestions to replace the initiative, for example, with an international

bankruptcy court (see Raffer, 1993). Even though the IMF has recently agreed to work

out a sovereign bankruptcy scheme that would allow countries to seek legal protection

from creditors that stand in the way of restructuring, it is unlikely that a completely new

framework will replace the HIPC initiative. It is more likely that further enhancements

may be adopted over time. Most of the enhanced HIPC framework could be used as a

first round of country-specific debt reduction. A second round, using a modified

framework, could concentrate on how more debt-service cancellations would be needed

to achieve the international development goals.

The following are some suggestions for possible modifications. They should not be

understood as a blueprint for the next level of the HIPC initiative. The next set of

modifications should be based on extensive consultations, whereby the voice of

developing countries should have more influence in the outcomes than they have had up

to now. Given the dominance of industrial countries in the decision-making of the IMF

and World Bank, a series of conferences organised by the United Nations (like those

organised in the first half of the 1990s for the definition of the international

development goals for 2015) may provide a better organisational setting, especially as

debt sustainability would need to be discussed in the context of achieving the

international development goals. It is not yet clear how much attention will be given to

debt reduction at the March 2002 International Conference on Financing for

Development, as the emerging synthesis seems to be that debt reduction is only one of

many possible actions and instruments to support poverty reduction strategies.

Possible modifications in the HIPC framework

Unify discount rates All of the problems related to currency-specific discount rates

could be avoided by adopting a single fixed discount rate for all currencies, all creditors,

and all debtors. For example, a ten-year (1990-9) backward-looking average of the

SDR’s CIRR could be used to establish a simple and consistent discount rate.

Apply efficient debt sustainability criteria Evidence is growing that the only

useful debt sustainability criteria for HIPCs have to be related to fiscal indicators. The

NPV debt-to-government-revenue indicator could, together with poverty levels and

other country-specific vulnerability factors, be used for the assessment of long-term

debt sustainability. A debt-service-to-government-revenue indicator could, together

with necessary investments for anti-poverty programmes, be used to determine the

maximum annual debt service due. In any case, there should be no minimum thresholds

to apply these fiscal indicators. Furthermore, countries should not be discouraged from

improving their revenue collection and should at the same time not be punished (in the

form of lower HIPC assistance) for improvements in government revenue collection.

What’s Wrong with the HIPC Initiative and What’s Next. 17

Thus, the reference revenue components should be based on long-term backward-

looking averages ending with the year before the modification is adopted as a

framework, not the country-specific decision points. An international agreement on

some limits of debt-service payments (defined as long-term debt-to-government-

revenue ratios) could help to avoid the effects of debt overhang.

Adjust burden-sharing according to economic power The non-participation of

some creditors and the comparison of burdens across countries

3 0

indicate that the HIPC

initiative’s burden-sharing concept will need to be revised at some time. The current

burden-sharing concept may be acceptable for industrialised country creditors, but is

less acceptable for developing country creditors, which are sometimes not much better

off than the debtor. The initiative’s burden-sharing makes sense for relatively resource-

rich multilateral institutions, but is less convincing for regional MDBs which depend on

non-regional bilateral donor support in order to be able to provide their share.

31

Though

the HIPC initiative has attempted to co-ordinate the donor assistance to MDBs through

the HIPC Trust Fund, there is no obligation for an industrialised country to contribute

its ‘fair’ share (what fair means would need to be defined). This implies a co-ordination

failure of donor contributions and results in an under-funding of the HIPC Trust Fund.

A possible modification could be to adjust the bilateral burden-sharing according to

the creditor’s economic power.

32

In the case of burden-sharing among multilateral

creditors, it could be made dependent on the availability of industrialised country

shareholders.

33

An economic power-adjusted burden-sharing also makes sense based on

the further integration of debt relief and poverty reduction.

Apply country-specific vulnerability factors Another modification could be to

take country-specific vulnerability factors, especially poverty levels, into account in

determining the amount of debt relief. Country-specific vulnerability factors were used

30. For example, based on the current burden-sharing concept, costs for Costa Rica (US$358m.) are higher

than those for the United States (US$347m.). Looking at the current initiative’s burden-sharing in terms of

per capita costs, each person in Costa Rica, Kuwait, and Trinidad & Tobago is supposed to contribute

around $100, while the highest per capita costs for industrialised countries are around $40. For the United

States, the per capita costs of the enhanced HIPC Initiative are just over $1.

31. Cline (1997) has suggested that not even the IMF and World Bank are supposed to use their resources for

HIPC debt relief, but that the bilateral creditors should cover their shares, as they are the shareholders of

the multilateral institution. See especially Cline's interesting section on Peter or Paul.

32. Unfortunately, the Paris Club has recently gone in the other direction. Instead of shifting the burden of

HIPC assistance from the poor creditor countries to the rich creditor countri es, a change in the

methodology of how to share the costs among the bilateral creditors in late 1999 shifted the burden

towards the non-PC countries. Under the original framework, the costs among bilateral creditors were

calculated based on the NPV of pre-cutoff date and non-ODA debt. Under the new framework, the burden-

sharing among bilateral creditors is based on total NPV debt outstanding at the decision point.

Comparisons between the two methodologies show that the bilateral costs have been shifted towards non-

PC creditors as they have relatively more post-cutoff-date debt than the PC creditors.

33. An interesting point is that the resource-richest MDB, the World Bank’s IBRD, has asked bilateral donors

to provide its share of HIPC assistance. In contrast, the IBRD has used part of its net income to support the

World Bank’s IDA. The reason for these manoeuvres and accounting tricks is that the IBRD fears negati ve

impacts on its creditor ratings if it were to provide its own HIPC assistance. Yet, most other MDBs do not

constitute two legally separated entities and are asked to use their own resources as far as possible to

provide their HIPC assistance.

18 Bernhard G. Gunter

in the original framework but were dropped in the enhanced framework, as Bank and

Fund staff often disagreed on specifics. Instead of dropping these useful considerations

and adopting a Joint Bank-Fund Implementation Committee of the HIPC initiative in

Summer 2000, it might have been more efficient to divide some HIPC implementation

tasks as well as some PRSP assessments according to each institution’s comparative

advantage.

Ease eligibility criteria Once debt sustainability indicators and debt relief are based

fully on fiscal indicators that take account of the need for expenditures on poverty

reduction, it would make sense to extend the debt initiative to all IDA-only countries as

long as they spend the debt-service savings on poverty reduction. Furthermore, it might

be more appropriate to exchange the current nominal income-related eligibility criterion

with one based on purchasing-power-adjusted income.

Possible modifications related to debt relief

Accelerate HIPC debt relief One way to accelerate HIPC debt relief would be to

reduce permanently the requirements for reaching the enhanced HIPC decision point.

Following a suggestion of Oxfam International (2000), the enhanced decision point

could be reached once a government produces an Interim Poverty Reduction Strategy

Paper that provides some details on the workings of a poverty fund.

3 4

Indeed, partly

related to a temporary lowering of requirements, which was due to the IMF’s and World

Bank’s promise that 20 countries would reach the enhanced decision point by the end of

2000, 15 countries reached their enhanced decision points between July and December

2000. In contrast, between January and June 2001, only one country (Chad) reached the

enhanced decision point.

Once the decision point has been reached, another way to accelerate HIPC debt

relief would be to front-load the relief. Much rhetoric has surrounded the front-loading

of HIPC debt relief, but the facts are different. Based on data provided by the World

Bank (2001b), for the 23 countries that had reached their enhanced decision point by the

end of June 2001, the average annual debt-service savings during 2001-3 are only 5%

(US$1.7 billion) of the total HIPC debt-service savings (US$34 billion) for these 23

countries. In other words, assuming that all HIPC debt-service savings will be provided

within 20 years of reaching the enhanced decision point, there is (at the aggregate level

of these 23 HIPCs) zero front-loading of HIPC debt relief. With regard to our discussion

on a possible strengthening of requirements to reach the HIPC completion point, this

may only be acceptable if interim relief were to be more front-loaded.

Base annual amounts of debt relief on economics The profile of HIPC debt

relief should be based on a combination of development needs and the debt profile,

instead of on fixed rules established independently by each creditor. Given that interim

relief may not be provided by all creditors, the World Bank could revise its interim

assistance rules to cover for this shortfall when it is most needed to reach the

completion point. Note that this would not imply any costs to the Bank, as HIPC

assistance is determined in NPV terms except, of course, if another round of HIPC debt

34. The main purpose of the poverty fund would be to ensure that debt-service savings are spent on poverty-

reducing activities that are additional, compared with poverty-related expenditures of previous years.

What’s Wrong with the HIPC Initiative and What’s Next. 19

relief (HIPC-3) is expected and HIPC-3 assistance were to be based on a new round of

HIPC-3 decision points.

Cancel ODA debt Some creditors have already indicated that they intend to provide

debt relief beyond what is required under the enhanced HIPC initiative, especially with

regard to existing ODA debt. The cancellation of ODA debt is long overdue, especially

as a United Nations resolution called for the cancellation of all ODA debt more than

twenty years ago. Some countries followed the UN resolution by cancelling all their

ODA claims many years before the HIPC initiative. The fact that only some creditor

countries had cancelled contributed to the current burden-sharing concept of the HIPC

initiative. If all creditors were to cancel their ODA claims, it might also be easier to

revise the HIPC initiative’s burden-sharing concept to include a component related to a

creditor’s economic power.

Overcoming financing constraints

Some of the most serious deficiencies of the HIPC framework can be related to

financing constraints and the mind-set that a sparrow in the hand is better than two in

the bush. Financing constraints have led to the adoption of an inadequate framework, (a)

in terms of achieving definitive debt sustainability, and (b) in terms of the time it will

take HIPCs to reach the enhanced completion point. Yet, even the enhanced framework

implies financing constraints, especially for developing country creditors and regional

and sub-regional MDBs. Given the existing financing constraints, it seems unrealistic to

demand further enhancements without making some suggestions as to where these

additional resources could come from.

Building public support for debt reduction

If debt relief were seen as part of an overall strategy to eradicate extreme poverty

worldwide, the burden-sharing concept would need to be related to economic power.

While this would eliminate the financing gap for the poor creditors, it would increase

the financing requirements of the rich creditors. Given that the 21 Development

Assistance Committee (DAC) members of the OECD spend, on average, only 0.24% of

their gross national product on official aid for developing countries and multilateral aid

institutions,

3 5

the financing constraints of the DAC members seem to be more political

than real. A coalition of governments, MDBs, NGOs and church groups, all working

together to persuade the public that debt relief and poverty eradication are a necessity

based on moral as well as on economic grounds, could lead to broad-based support to

increase the development budgets in the most delinquent industrialised countries to at

least financing the eradication of extreme poverty worldwide. Indeed, a recent

IMF/World Bank (2001b: 5) statement indicated that the heads of the IMF and World

Bank ‘would gladly join a campaign to convince industrial countries to move to the

longstanding UN target for official development assistance of 0.7% of GNP within ten

years’.

35. See Prof. Thirlwall’s letter to the edit or of the Financial Times, 25 July 2001, p.12.

20 Bernhard G. Gunter

A more comprehensive poverty reduction strategy

It is crucial to integrate debt relief into a global poverty reduction strategy and not to

suggest an unconditional write-off of all HIPC debt. An unconditional write-off will

neither foster growth nor help the poor, since no country will achieve sustainable

growth without internal and external peace, progress towards which can only be made

by improved governance, covering a broad range of policies that aim at enhancement of

the rule of law, the establishment of property rights, less corruption, an improvement in

the overall legal system, and an uncorrupted public leadership. However, in cases where

it is obvious that a country is serious about reducing poverty but has not reached the

completion-point triggers because of factors beyond its control (such as, for example, a

flood), reaching the enhanced completion point should not be based on checking off

completion-point triggers.

New global taxes or reallocations of existing budgets

There are two ways to increase development budgets worldwide. The more familiar one

would be to introduce a global tax, like a global Tobin tax

36

on cross-border currency

transactions or a global tax on carbon-emitting fossil fuels. The other way would be to

reallocate funds from expenditures that are a waste from a global point of view to

expenditures aimed at development assistance. What comes to mind is a cut in world

military expenditure. Unfortunately, neither suggestion is currently feasible owing to a

lack of political support (though the Tobin tax has gained some attention, especially in

Europe, over the last few months). However, given that a one-off 1% cut in

industrialised countries’ defence budgets would be enough to cancel 100% of the

external debt of all IDA-only countries over the next twenty years, more of such

maximum solutions should be considered.

37

Finally, besides increasing development

budgets, steps are also under way to increase the efficiency of current donor

programmes and the poverty reduction programmes of recipients.

38

Conclusion

Compared with other debt initiatives implemented over the past two decades, the HIPC

initiative represents a huge step forward. It was a breakthrough in terms of (a) its aim to

provide a lasting exit from unsustainable debt and achieve debt sustainability and (b) its

approach to including multilateral creditors in sharing the costs related to debt relief.

The HIPC initiative is to be commended for providing more debt relief to HIPCs than

the sum of all previous debt reschedulings. The enhanced initiative has also started to

link debt reduction to poverty reduction.

36. See the Tobin Tax Initiative website: www.tobintax.org for more up-to-date information.

37. The annual defence expenditures of the industrialised countries are estimated to be about US$650 billion;

the total external debt of all IDA-only countries is estimated to be about US$125 billion (in NPV terms).

38. As Lancaster (2000: 80) has pointed out, at the end of the 1990s, there were more than 40 poorly co-

ordinated aid agencies working in numerous African countries, pursuing their own priorities, and

expecting their own separate administrative and procurement requirements to be met. This has

overwhelmed African officials and disrupted government budgets.

What’s Wrong with the HIPC Initiative and What’s Next. 21

However, the enhanced HIPC initiative (a) is unlikely to achieve a lasting exit from

unsustainable debt for many HIPCs, (b) suffers from some fundamental flaws in its

design, (c) continues to face considerable financing constraints, (d) applies an

inappropriate burden-sharing concept, and (e) may lead to a reduction in traditional

development assistance. The first and last problems are certainly the most critical ones

in determining the success of the initiative in terms of long-term poverty reduction and

the achievement of the international development goals. As the IMF/World Bank

(2001b) statement has pointed out, ‘a decline of just 10% in new flows would wipe out

the benefits of HIPC debt relief’.

A first step towards reaching debt sustainability would require the IMF and World

Bank to stop praising the current HIPC framework and acknowledge the need for

further enhancements. This would allow their staff to join others in the search for better

solutions. At a broader level, this requires primarily a rethinking towards a long-term

interdependence between rich and poor countries. To reduce poverty is a shared

responsibility of all countries.

Finally, the costs of debt relief and poverty reduction programmes should not be

seen as an economic burden but as investments in the future. Experience from the past

(for example, the 1953 debt relief provided to Germany after World War II) shows that

debt relief can pay for itself in terms of political stability and contributions to world

growth. It should not be surprising that political instability, ethnic conflicts and war are

re-occurring in poor countries facing unsustainable debt (see also Collier and Hoeffler,

2000). A marginal cut in world military expenditures allocated to a global poverty

reduction strategy would boost global peace and reduce the costs of future peace-

keeping efforts around the globe.

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24 Bernhard G. Gunter

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Annex 1: The impact of debt reschedulings

Assume that a highly indebted poor country exports goods and non-factor services to

the amount of US$30 million a year, growing at an annual real growth rate of 5%. The

country’s bilateral and multilateral debt stock amounts to $96m. each. Assume that all

debt is highly concessional (with an interest rate of 1% and repayable over 20 years).

Applying the original HIPC initiative’s debt-service-to-export indicator of 20-25%, the

country’s debt is not sustainable. Given this situation, all bilateral creditors agree to

grant the country a reduction in its debt stock of more than 80% in NPV terms, reducing

the nominal debt to bilateral creditors to US$18m. This reduces annual debt-service

payments to bilateral creditors to about US$1m. The country’s multilateral creditors

have also agreed to provide more than 80% debt relief in NPV terms, though not

through a reduction in debt stock, but by the cancellation of all interest payments and a

rescheduling of the outstanding principal over 60 years, including 20 years’ grace. To

keep the example simple, assume that all creditors have agreed to provide all new

financing in the form of grants. Let us look at the country’s situation in 20 years’ time:

a) all bilateral debt will have been repaid, b) all interest on multilateral debt will have

been been cancelled, c) there are no debt-service obligations related to new debt, and d)

the country’s exports may have grown to US$80m. (assuming an optimistic annual real

growth rate of 5%). Yet the country still faces unsustainable principal payments on

multilateral debt, amounting to US$24m. a year.

Note that an 80% reduction in debt stock in NPV terms on multilateral debt would

have provided debt sustainability, but that a more than 80% reduction in NPV terms

through rescheduling and interest cancellation does not. The intuitive explanation is that

a debt rescheduling does not solve the problem but simply pushes it into the future.

There is no guarantee that the country will be able to pay currently unsustainable debt in

the future. However, as long as the discount rate is higher than the interest rate, every

grace year implies a reduction in NPV terms. In cases where the discount rate is lower

than the interest rate, debt rescheduling increases the NPV.

Finally, note that debt rescheduling does not usually imply a cancellation of

interest, and thus the nominal sum of interest and principal repayments increases with

every grace year. If a country remains insolvent after the debt rescheduling’s grace

period, it is actually worse off since it has wasted resources on interest payments

without achieving long-term debt sustainability.