WORKSHOP ON DEBT, FINANCE AND EMERGING ISSUES IN FINANCIAL INTEGRATIONLONDON, 6-7 MARCH 2007

DOMESTIC DEBT AND ACHIEVING MDGS IN LICS

Presentation by

Dinesh Dodhia

Rappidd Consultancy Ltd

Introduction

MDGs major challenge for LICs: Sub-Saharan Africa far from achieving by 2015.

Key requirement: Govt. & donor resources targeted at MDGs.

Debt servicing: claim on Govt resources: external debt (ED) reduction to HIPCs

Govt need to service domestic debt (DD), which if freed, could be utilised for MDGs

Domestic Debt in LICs: Some Stylised Facts

66 LICS (1995-2004) av. DD/GDP ratio & DD//TD= about 20%.

Non-CFA African HIPCs (1980s/90s) DD/GDP=6-9%, but DD/TD fell 22% to 6%: End-2005 DD/GDP significant in Guinea-Bissau, Ethiopia, Sierra Leone, Burundi, Zambia & Guinea.

DD taken hold in CFA HIPCs

LA HIPCs sharp increases in 2000-03, but reduced.

Domestic Debt in LICs: Some Stylised Facts

Other African LICs, Kenya & Nigeria significant reliance: Kenya up Nigeria down

Asian LICs, Sri Lanka DD/GDP=47% TD/GDP=100%

DD/GDP underestimated LG & SOE debt excluded arrears & other un-securitised debt not clear CLs can be very large.

DD/TD expected to increase with ED reduction

Fiscal/Budgetary Impact of Domestic Debt Burden

Non-CFA Af. HIPCs (1980-2000): despite DD/TD decline DISP/TISP>40% AIDIR=21% AIFIR=1%

66 LICs (1995-2004) DISP/TISP> 40% RDIR= 3%.

Govts resorted to domestic borrowing to reduce external vulnerability cap on non-concessional external borrowing in

IMF programs.

Recently RDIR fallen, but in CP HIPCs Ethiopia, Zambia & Tanzania DISP>FISP

Sri Lanka DISP/GDP=6%, EISP/GDP=0.7%

Short maturity structure

Shallowness of financial sectors

Concentration of the investor base

Fiscal/Budgetary Impact of Domestic Debt Burden

HIPC Initiative established ED thresholds & relief given to bring ratios below thresholds Did not preclude IMF considering DD

burden, when serious macroeconomic concern (2003 programmes of Bolivia, Ghana and Nicaragua)

Debt Sustainability & Domestic Debt in LICs

Debt Sustainability & Domestic Debt in LICs

IMF/WB DSF: forward looking DSAs assessed in relation to indicative thresholds to establish risks of debt distress Advising the strategies of lending institutions,

especially IDA in determining grant/credit mix.

IMF/WB against DD in DSF due to difficulties of determining empirical thresholds: lack of historical data series, different characteristics of DD & ED purpose of DSF to guide official lending decisions.

CHMF: Need to work out prudential ratios for DD through more research & analysis. DD/GDP=10% typical African HIPC, situation varying

according financial depth, with TPD/GDP= 40-60% depending on policies and institutions.

MDRI: bringing down NPV ED ratios well below DSF indicative thresholds

perverse effect giving non-participating HIPC creditors less incentive

to provide debt relief increasing complacency of governments on tackling

DD shortcomings

Debt Sustainability & Domestic Debt in LICs

HIPC Initiative predated MDGs, although underpinnings with poverty alleviation.

MDRI more explicit link

Should DD holders provide debt relief internal borrowing: transfer of purchasing

power within country. Debt cancellation by DD holders: a tax.

Positive: if resources released used by Govt for MDGs

Rationale for Debt Relief, MDGs & Domestic Debt

Rationale for Debt Relief, MDGs & Domestic Debt

Negative: if resources transferred affected private sector

activity, growth & poverty reduction. reneging trade contractual payments affected

willingness of private sector to provide future credit to Govt

securitised debt holders deterred from holding future government debt, adversely impacting on dev of financial markets.

action that serves to reduce the high DD servicing burden, through debt restructuring: benefit to MDGs

Rationale for Debt Relief, MDGs& Domestic Debt

Should donors reduce DD stock

If existing aid diverted to reduce DD Negative: resources taken away from MDGs, unless

further rebalancing of public expenditure, Positive:

would support private sector credit & investment, hence long term growth, poverty alleviation & MDGs.

Government’s credit standing improved resulting in lower future debt servicing cost

Constraint on reducing DD eased if additional external resources utilised for DD reduction

Dealing with DD Burden: What can LIC Governments Do?

Improve DD database set up of machinery to verify arrears

claims, including agreement on disputed claims, with recording on central register.

promote centralised data on CLs

Make norms Total public DSA MDG scenario

DS dependent on macroeconomic variables, having bearing on MDGs

Need to focus on Measures to enhance growth, Maintaining strong anti-inflationary policies to ensure

low interest rates Maintaining fiscal discipline, while enhancing MDG

related expenditures Reforms to reduce quasi fiscal costs associated with

SOEs

Dealing with DD Burden: What can LIC Governments Do?

Domestic Debt Restructuringuse opportunity of low inflationary &

interest rate environment to refinance expensive debt instruments

explore prospects for lengthening maturity structure of DD instruments by test issues without significant increases in yields.

Develop policies to broaden investor base

Dealing with DD Burden: What can LIC Governments Do?

Dealing with DD Burden: What can LIC Governments Do?

Securitize arrears to ensure orderly settlementOffer incentives to settle upfront a

certain proportion of arrears or all credits up to a certain limit

seek debt reduction along the model of Brady bonds

Domestic Debt Reduction& Donors

Donors’ role in providing grants, other concessional aid & exceptional financing through debt relief

DD candidate most suited for providing future donor debt relief

Assist LICs to clear verified arrears, fully or partially with the remainder securitised.

Domestic Debt Reduction& Donors

Assist LICs to reduce high DD ratios: optionsbelow a uniform threshold, (10%): added

benefit of retiring short term debt & improving DD maturity profile

Negative: does not distinguish between different LIC circumstances

Reduce DD according to LIC circumstancesbut depends on IMF diagnosis & willingness of

donors to provide additional resources.

Domestic Debt Reduction & Donors

Insert degree of automaticity based on individual LIC circumstances

DD/GDP relief not > 10%, with eligibility for HIPCs with DD/GDP>20% or TPD/GDP 40-60% depending on the quality of policies & institutions.

Assist LICs to extend DD maturities by guaranteeing interest payments on the later portions of maturity

Provide TA for development of long term institutional investors

Domestic Debt Reduction& Donors

Provide TA for debt managementWB proposal: global debt management

partnership providing TA on a standardised diagnostic tool & work with select group of LICs demonstrating commitment to sound debt management.

Related idea: donor funded partnership for capacity building, dissemination of international best practices & knowledge transfer on domestic debt management