Debt relief for poor countries: is it time for a new effort?

A charismatic Renaissance man, he took office in 1995 and suddenly the bank’s swanky atrium was awash with new prospects, new emergencies and a different kind of celebrity.

Staff would flood into the main complex to watch a famous economist present an academic paper at a packed coffee lunch, and were surprised by the appearance of Helen Gurley Brown, the editor of Cosmopolitan, Chinua Achebe, the Nigerian novelist, and, with luck, even a rock star like Bono.

Wolfensohn had taken over the Bank at a low point. The “50 Years Is Enough” movement was calling for the dismantling of the Bretton Woods institutions.

Anger was sparked by the Bank’s support for dams in India and China, which had been fiercely opposed by local activists, and by the International Monetary Fund’s (IMF) structural adjustment plans, which had failed the poor in Africa.

And to top it all off, low-income countries were now struggling with mounting debt to multilateral institutions. This discontent came first from stakeholders in the South, who had borne the brunt of the policy failures, and who now joined forces with civil society, including international NGOs in the North, such as Oxfam, which had strong networks and whose researchers could influence sympathetic economists, some of whom were part of the establishment.

Thanks to their advocacy skills, they have also been able to lobby, very effectively and judiciously, policy makers in European capitals, who exercise significant influence over the boards of the Bank and the Fund.

The idea of ​​a solution to the multilateral debt problem had been brewing for some time, and with the change in leadership at the Bank, this unlikely triumvirate seized the opportunity. The Jubilee 2000 campaign was born, calling for one-time debt cancellation for the poorest countries before the new millennium.

Through an alliance between the Catholic Church and Bono, who was the new standard-bearer for debt relief, she convinced American and British taxpayers to put pressure on elected representatives and found an ally in Wolfensohn.

Although Bono called him the “Elvis of Economics,” Wolfensohn was not an economist but a financier. He was inspired by the idea that a lender to the world’s poorest nations would make bad bets.

While the private sector had bankruptcy and debt relief mechanisms, countries had no such recourse. They had to borrow more and more to service their debt, in a vicious circle of which their creditors were aware.

In 1996, Wolfensohn signed the Heavily Indebted Poor Countries (HIPC) Initiative, which committed to reducing the net present value of debt to 200-250 percent of annual exports in 41 countries. In 1999, the enhanced HIPC Initiative was introduced, with the goal of reducing debt to 150 percent of exports. Debt relief is now the new mantra in Washington, and lingering doubts about moral hazard have been banished from the discourse.

Two things are striking about the HIPC initiative. First, although countries were required to maintain a stable macroeconomic program with the IMF, there were no conditions to ensure that countries would exit the debt cycle through policies aimed at improving governance, better managing public funds, promoting growth in productive sectors, or diversifying exports.

Instead, countries were required to reallocate savings on debt service payments to education and health spending. Second, although the HIPC Initiative was envisioned as a comprehensive solution, bilateral and private creditors outside the Paris Club were not required to cancel debt.

As a result, debt cancellation under the HIPC Initiative failed to ensure debt sustainability. By 2005, debt had again exceeded 150 percent of exports in most recipient countries. Paris Club debt was cancelled, but countries were not very lucky with other creditors.

Vulture funds then began suing countries for defaulting on private loans. Multilateral agencies then set up a new debt relief program, the Multilateral Debt Relief Initiative (MDRI). To date, about $99 billion of debt has been canceled under the HIPC Initiative and the MDRI.

Today, many African countries are once again facing a debt crisis and are close to insolvency. But the composition of creditors has changed dramatically. China is the elephant in the room, with an estimated $90 billion in loans to Africa, or about 60% of all bilateral loans; the Paris Club accounts for only 5%.

Private lending rose from 30% of total debt in 2010 to 44% in 2021, a period when many African countries accessed the bond market for the first time.

Although countries have faced major economic shocks (Covid and the war in Ukraine), they are still burdened because they have not been able to transform their borrowings into a diversified export base and sustained economic growth.

One lesson from the HIPC experience is that any multilateral debt deal must bring private lenders and China to the negotiating table, no matter how difficult, to have any chance of success.

History has shown us that only a highly effective alliance of state, civil society and multilateral bank actors (and a rock star or two) will be able to achieve a large-scale transfer of resources. And even then, it may not be a permanent solution.

Debt cancellation does not guarantee debt sustainability in the absence of local reforms to stimulate growth. Elvis may have left the building, but the debt relief show is not over.