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A key criticism of the approach taken to debt sustainability under the enhanced HIPC is that the primary determinant of whether a country's external debt is sustainable is its ratio of debt to exports. This narrow measure does not take a country's human development deficit into account. Neither does it deal with the cost of addressing this deficit. At the Monterrey Financing for Development Conference in March 2002 it was agreed that future World Bank and IMF reviews of debt sustainability would consider debt policy in relation to the achievement of the millennium development goals (MDGs). Moreover, the September 2002 communiqué of the Development Committee of the World Bank called on the Bank to undertake regular monitoring and review of the policies, actions and outcomes needed to achieve these goals. Furthermore African Finance Ministers from HIPC countries have called on the Fund and Bank to present the MDG financing needs in all HIPC and PRSP related board papers. In light of the importance of this issue, Centre for Development Studies/UCD organised a workshop on the theme 'Towards a Human Development Approach to Debt Sustainability' at the May 2003Annual World Bank Conference on Development Economics Europe. Two papers were presented, one by Francis Lemoine of Eurodad and the other by Amar Bhattachayra of the World Bank. Responses were given by Professor Venkatesh Seshamani of the University of Zambia and Earnán O'Cleirigh of Ireland Aid.

World Bank

Amar Bhattachayra recognised that while debt relief is a necessary first step towards achieving sustained growth and poverty reduction, a more comprehensive approach involving a range of other policies including aid and trade policies, is needed to accelerate progress towards the MDGs. Reviewing the implementation status of HIPC, he noted that even though implementation is progressing steadily, its pace is slower than anticipated, with 26 of the 42 HIPCs reaching decision point and only eight countries reaching completion point. To date, total relief amounts to about $41 billion in debt service savings. Of the 12 countries still to reach decision point, (four others are deemed to have sustainable debt burdens without debt relief), most are conflict affected. Many countries in the interim period between decision point and completion point, are experiencing delays in reaching completion points due to interruptions in macroeconomic programmes, which in turn have caused delays in IMF/ PRGF supported programmes. Another reason for delays is the longer than anticipated preparation periods for full PRSPs. Amar noted that performance on governance and public sector management is also a particular concern in many HIPCs.

On the debate on alternative criteria for determining debt sustainability, such as those based on debt service /government revenues and on the cost of meeting the MDGs, Amar noted that the use of government revenues or specified development objectives poses a number of difficulties. First of all, using revenue as a qualifying indicator poses problems of moral hazard, as it would reward governments with poor revenue collection efforts. Secondly meeting the MDGs depends not only on a country's level of debt service but also on its domestic policies and on the net external finance available to it. And, thirdly, as the challenge of meeting the MDGs faces all poor countries not just the HIPCs, using criteria of 'affordable debt service', which human development/poverty reduction approaches entail for some and not for others is inequitable. Amar argued that another alternative debt sustainability indicator of countries spending a maximum of 2 percent of GDP in debt service (proposed by Birdsall and Williamson) may not accurately reflect countries' external repayment capacities, though he added that such a ratio is still a relevant criterion when looking at ability to repay debt - eight of the 26 countries which have reaching decision point already exceed the 2 percent benchmark.

While HIPC reduces the external debt burden, Amar pointed out that it cannot guarantee a net rise in external finance. Overall official net transfers fell in the latter half of the 1990s, though HIPCs received an increasing share of declining total net transfers to developing countries. And while the aim of HIPC is to reduce debt burdens to a reasonable level, it cannot ensure long-term debt sustainability as the experience of countries such as Uganda illustrates. In the Ugandan case a fall in export earnings and higher than expected new borrowings rendered its debt once again unsustainable having reached completion point.

Amar presented data to show that improvements in policies and institutions associated with countries joining into the HIPC, is also reflected in improved growth performance. Fourteen of the 26 countries which have reached HIPC decision point have recorded annual GDP growth in excess of four percent since 1995, while the average growth of those countries which had reached completion point was even greater. In addition to faster growth HIPCs have also increased their social spending as part of enhanced poverty reduction efforts though none are on track to meet a majority of the MDGs. Indeed, only one of the 37 HIPCS with available data is likely to reach the goal on child poverty. Linked to this, Amar argued the case that for the poorest HIPCs, the MDGs can only be met with substantial increases in external funding based on a framework of measurable results. And it is only through the combined actions of developing countries and complementary actions by their development partners in relation to trade policy (including agricultural export subsidies, market barriers, special and differential treatment for the least developed countries etc), debt relief and aid policies, that poor countries will be able to lay the foundations for sustained growth and for adequate investment in poverty reduction.

Looking ahead, additional financing on suitable terms will be critical as the average HIPC country debt servicing burden will amount to less than two percent of GDP by 2005. Amar proposed a cautious approach to new HIPC external borrowing, as the bulk of resources will need to be provided in grant form for some time to come. Thus two immediate policy challenges arise for the HIPCs and for the international community. The first is to curb inappropriate borrowing through the use of rigorous debt management systems, a point also made later by Professor Seshamani, who referred to the need for parliamentary and civil society oversight mechanisms. The second is to ensure that the HIPCs have long-term access to external financing in suitable amounts and with appropriate concessionality.

Eurodad

Francis Lemoine outlined the flaws and achievements of debt sustainability - HIPC style. He set out the basic principles underpinning an alternative approach to debt sustainability centred on poverty reduction and promoting the achievement of the MDGs. He reminded those present that HIPC was the first international initiative to explicitly link debt relief and debt sustainability objectives. Francis's critique of the debt/exports criteria as a determinant of debt sustainability rested on three core elements. Firstly it has a low level of predictability, as export revenues are very volatile. Secondly, this ratio is not the prime determinant of a government's ability to service debt (debt service to revenues is more relevant). Lastly, it ignores each country's specific needs for instance in relation to HIV/AIDS and post-conflict reconstruction. The result of all this is that most of the 26 HIPCs have unsustainable debts, even according to the initiative's own criteria, while resource transfers under HIPC have been limited and long-term debt sustainability is unlikely. Countries with very low income per capita such as Mali, (less than $200 per capita), pay about the same level of debt service to GDP as Bolivia whose income per capita is nearly $1,000. Francis highlighted several alternative approaches to debt sustainability such as limiting debt service to 10 per cent of government revenues, five percent in the case of countries with high HIV/AIDS prevalence rates, and linking debt sustainability criteria with the resources needed to reach the MDGS. By focusing on poverty levels and the resources in national budgets required for human development, external debt service would become a secondary concern while poverty-reduction expenditures would be given priority. The focus would rightly be on countries being 'good developers' rather than being merely 'good debtors' who pay up and do so on time. Francis outlined the key steps in creating a poverty focussed approach to debt sustainability which are: 1) assessing the resources available to the budget including revenues and external grants; 2) assessing the yearly cost of reaching the MDGs; 3) subtracting these costs and other domestic liabilities (including domestic debt service) from government resources; and 4) ensuring debt service does not represent more than a third of remaining resources. Concluding his presentation, Francis noted that high external debt levels remain one of the major obstacles in mobilising the resources needed to achieve the 2015 MDGs and given their development deficits many HIPCs still require total debt cancellation.

University of Zambia

Professor Seshamani in his introductory comments noted that in the case of Zambia, even if all HIPC conditions are met, its present debt stock of $6.5 billion would be cut by $3.8 billion by 2019, but in the interim Zambia would have paid $2.8 billion in debt servicing. Indeed over the period 2003-5 Zambia's debt service is set to rise under HIPC compared to actual debt service between 1998-2000. Thus he asked should this workshop be discussing debt relief and sustainability or instead talking of debt cancellation? Having put forward this alternative question, Sesh agreed that the poverty-focused approach to debt sustainability was a requirement of a development centred approach to debt. He pointed to a dilemma facing poor countries which is evident from the Eurodad analysis - they can focus on meeting the HIPC debt sustainability criteria and be left with inadequate resources for development related spending or they can focus on raising enough resources for development by incurring debt and thereby fail to meet the sustainability criteria.

Moving from the financial to the political feasibility of debt policies, Sesh noted that the conditions attached to attaining HIPC debt relief are as important as the quantity of such relief. The political impact of such conditions is often neglected, for instance in relation to the Zambian government being asked to privatise the Zambia National Commercial Bank or the Ghanaian government being asked to raise petrol prices and to impose VAT on certain goods. By adopting a poverty focused/human development approach to debt sustainability, countries could give priority to poverty spending over debt service while increasing domestic control over resource use and decreasing their external dependence. Taking the Zambia case he noted that Zambian debt expenditure averaged ten percent of GDP over many years while expenditure on all social service came to just half of that figure. At the same time as countries seek to repay external debt the burden of domestic debt often only receives limited attention - again a problem in Zambia where the government has incurred a significant portion of its domestic debt to service its external debt.

The Eurodad approach entails differential country treatment, with high poverty, highest indebted countries with relatively low government revenues receiving a higher absolute amounts of debt reduction. While this is a better scenario than under the current HIPC, this approach is still flawed on equity grounds. It may entail penalising countries where good governments have succeeded in reducing poverty and raising growth, despite resource constraints, by pursuing appropriate priorities while rewarding countries where profligate governments have led their countries to higher levels of poverty and debt. Thus in light of this, Sesh recommended that outright debt cancellation that levels the playing ground for all would be preferable on equity grounds. Even though it would reward bad governments it would not penalise good ones.

Sesh continued on to note that even with 100% debt cancellation of HIPC countries' external debts, financing the MDGs in these countries would still require an extra $16.5 billion per annum (Jubilee Research 2003). Therefore, a meaningful human development approach to debt sustainability, especially in an African context, requires nothing less than 100 percent relief. Sesh agreed with Amar's analysis that HIPC alone cannot guarantee a net increase in external financing nor can it ensure long-term debt sustainability for HIPC graduates. While advocating HIPC debt cancellation Sesh included several caveats, namely that debt cancellation should only apply to government debt rather than private debt, to external debt rather than domestic debt, and that there must be a rigorous assessment of fresh loans so as to ensure that future unsustainable debt burdens do not emerge. Unless this nuanced approach towards debt cancellation is taken, Sesh warned that it might not be long before a new debt crisis strikes many HIPC countries.

Ireland Aid

Earnan O Cleirigh examined the human development and the conventional HIPC approaches to debt sustainability according to two criteria 1) the quality of the assessment of sustainability which they provide and 2) their effect on policy. In terms of the quality of sustainability assessment, Earnan used five simple criteria: appropriateness, rationality, comprehensiveness, realism and repeatability. The human development approach scores well under all five criteria. The conventional HIPC approach centred on the debt/exports ratio fares less well as its appropriateness is limited by the lack of consideration given to other burdens on fiscal revenue. It also scores poorly under the rationality criterion, as it does not examine the ability to repay debt in terms of resource availability. While the HIPC approach to debt sustainability focuses only on external debt this approach remains reasonably comprehensive given that the demand from which the HIPC arose was for a permanent exit from unsustainable external debt, and a more effective HIPC process on external debt would most likely pre-empt the need for governments accruing additional domestic debt to finance external debt servicing. However, under the realism criterion, the HIPC falls down, as over-optimistic economic projections do not take account of market shocks and other factors such as the economic growth and other impacts of HIV/AIDS. This limits the repeatability of this approach.

In terms of the second strand, the relative effects of the two approaches on policy, these are especially important in relation to macroeconomic and fiscal policy. The Human Development Approach requires that poverty reduction targets exist or are defined and on this basis it prioritises resources allocation towards implementing poverty reduction strategies. The HIPC approach to sustainability prioritises debt servicing in public expenditure treating all other expenditures as residuals. Thus Earnan pointed out that rather than supporting the PRSP process this approach can set and indeed lower ceilings on the resources available for PRSP implementation. Moreover, the focus on exports may reinforce the policy priority given to rapid export growth, which is most likely to be encouraged in the tourism, extractive industries and specialised horticulture sectors - sectors where the poor are not economically active. Earnan questioned Francis's assertion that debt relief is the most efficient way of transferring resources to HIPCs as firstly it may not provide fully additional resources to the country receiving relief, as not all debt may have actually been being serviced. In terms of providing net new resources for development, spending mechanisms such as budget support, which is increasingly being used by Ireland Aid and others, are likely to be more effective. Looking to the sustainability of new borrowing, this will be influenced by factors such as type of investment and the quality of its implementation. Thus the sustainability of future borrowing should include criteria that relate to the targeting, quality and impact of loan financed spending. Earnan agreed that for HIPCs the vast bulk of funding for poverty reduction should come from grants rather than loans. At the same time the non-sustainability of repaying a non-productive historic debt does not imply that no new borrowing is worthwhile, especially if lending procedures are improved so that loans are properly appraised for sustainability using joint government-donor mechanisms and where responsibility for loan performance is also jointly shared.

Both the human development and the HIPC approach to debt sustainability focus on a country's ability to pay, while sustainable debt is defined as a particular level or size of debt burden or debt service obligation. For historic debt this may be appropriate but for new borrowing the situation is different as sustainability is influenced by factors such as the type of investment or the quality and effectiveness of implementation. Thus defining sustainability as a level or amount of debt seems inadequate. Analyses of costs and benefits over time are required. Public sector loan financing must address the sustainability of the impact of the spending and include criteria which relate to the targeting, quality and impact of loan financed expenditures. The lessons from recent innovations in aid partnership can be usefully drawn on for this purpose. Concluding, Earnan noted that while the human development approach is an important element within debt sustainability policies this approach works best as part of an ongoing critical search for more rational and responsive approaches to debt sustainability, both for historic debt and for new borrowing.

Discussion

While group discussion at the workshop was constrained by time limits a number of issues emerged.

• Debt reduction and/or cancellation is still an important element within the financing envelope to reach the MDGs
  
  
• The impact of HIPC debt sustainability criteria is as, or perhaps even more important, in terms of their policy impacts as of their impact on the overall quantity of debt relief allowed.
  
  
• A more nuanced and longer term view of debt sustainability is required, which is also able to assess the sustainability of new borrowings and which can fit within a new set of government/donor/credit partnerships. These partnerships can, in turn, draw on the lessons from more recent innovations under development co-operation programmes.
  

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