Department of Economics
University of Copenhagen
Analytical History of Heavily Indebted Poor
Country (HIPC) Debt Sustainability Targets
Peter Hjertholm
Studiestræde 6, DK-1455 Copenhagen K., Denmark
Tel. +45 35 32 30 82 - Fax +45 35 32 30 00
Analytical History of Heavily Indebted Poor
Country (HIPC) Debt Sustainability Targets
Peter Hjertholm
21 March 1999
This paper traces the origins of World Bank indicators of debt-distress
and their employment as HIPC sustainability targets. These targets are
interpreted as ‘switching values’, below which countries are (on average)
expected to avoid debt service problems, but as such, they do not take
into account that countries encounter debt service problems for a variety
of reasons and at di.erent levels of debt. It is likely that the ‘true’ switch-
ing value of the debt to export ratio of several HIPCs lies below the lower
bound of the present target range. Regarding the ‘fiscal window’, the lack
of analytical basis for a 280 percent target for the debt to revenue ratio
is noted, and the consistency problems raised by the added ‘openness-tax’
condition are discussed. Moreover, the implications for economic perfor-
mance of the pursuit for a sustainable debt position remain a concern. It
seems uncertain whether the development needs of HIPC countries can be
accommodated within sustainable debt paths, as envisioned. The paper
concludes that the sustainability targets, as presently applied, are not well
supported in analytical terms. The rationale for adopting an average tar-
get range for the debt indicators involved remains weak, and the adoption
of country-specific targets is suggested as a way to tailor debt relief more
accurately to country needs.
Assistant Research Professor, Development Economics Research Group (DERG), Institute
of Economics, University of Copenhagen, Studiestraede 6, DK-1455 Copenhagen K, Denmark (e-
mail: Peter.Hjertholm@econ.ku.dk). This is a revised and expanded version of a paper prepared
for the joint World Bank/Nordic Working Seminar: Review of the HIPC Initiative,Oslo,4
March, 1999. Comments from workshop participants are appreciated, as are suggestions and
comments on an earlier draft by Jens Kovsted and Henrik Hansen. The usual caveats apply.
1 Introduction................................. 3
2 HIPC and Debt Sustainability Targets .................. 4
3 Sustainability of Foreign Debt: Theory and Evidence . . . ....... 5
3.1 TheDebtCapacityPerspective ................... 5
3.2 TheDevelopmentPerspective .................... 14
4 History of Indicators of Debt-Distress . .................. 16
4.1 World Debt Tables ClassificationofDebtorCountries ....... 16
4.2 MethodologicalIssues......................... 21
5 HIPC Application of Sustainability Targets ................ 24
5.1 ExportTargets ............................ 25
5.2 The‘FiscalWindow’ ......................... 28
5.3 TheDevelopmentAspect....................... 35
6 SummingUpandConcluding ....................... 37
1. Introduction
Central to the discussion of the Heavily Indebted Poor Country (HIPC) debt
relief initiative is the concept of debt sustainability targets. These targets, and
the debt analytics that underlie them, form an integral part of the analytical core
of the HIPC debt initiative. As such, the IMF and the World Bank are justified in
putting them on the agenda of the recently initiated HIPC Consultative Process.
Evidently, the extent and timing of debt relief to any given debtor country depends
very much on the stance of the key debt burden indicators as compared with the
targets set out. Moreover, in the general debate on debt relief, an element of
confusion and misconception seems to surround these targets in terms of their
origins and economic interpretation. It has often been asserted that the World
Bank and the IMF has adopted these targets in an ad hoc manner without basis
in analysis, or that they merely re.ect a particular World Bank/IMF style of
‘common sense’ (e.g. Verhagen, 1997). Not so.
However, as argued in this paper, while arbitrariness is certainly not in evidence,
there are good reasons for examining the theoretical and empirical underpinnings
of these targets, in order to help evaluate their ability to properly identify the
needy countries, as well as to identify the debt relief requirements of these coun-
tries, which need not only to service foreign debt, but to grow and prosper. This
paper seeks to contribute to this evaluative process by outlining the analytical
history of the debt sustainability targets. In doing so, it aims to trace and assess
the analytical roots of the so-called ‘debt indicator approach’ that serves as the
foundation of the HIPC sustainability concept.
The plan of the paper is as follows. Below, section 2 brie.y describes how debt
sustainability targets are incorporated into the HIPC debt relief scheme, and how
they relate to the debt indicator approach, which is essentially an empirical o.-
spring of the ‘debt capacity’ literature in which the development aspects of debt
are not explicitly dealt with. Section 3 then discusses the theoretical and empir-
ical literature on debt sustainability, with a distinction made between the debt
capacity and the development aspects of the problem. With this reference, section
4 then goes back in time, to 1989, to trace how the current debt sustainability
approach evolved from the shadows of the appendixes of the World Bank’s World
Debt Tables to become a primary mover of poor country debt relief. A number of
conceptual and methodological problems in this regard are highlighted. Section 5
examines the empirical rationale for adopting the present sustainability targets,
looking at the export related targets and the ‘fiscal window’ separately. It is con-
cluded that country-specific, as opposed to universal, debt sustainability targets
may o.er a way to tailor debt relief to country circumstances. Section 6 sums up
and concludes.
2. HIPC and Debt Sustainability Targets
Following IMF (1998), to qualify for assistance under the HIPC initiative, the
debtor country under review must adopt adjustment and reform programmes sup-
ported by the IMF and the World Bank and pursue those programmes for three
years (phase 1). During that time, it will continue to receive concessional assis-
tance from donors and multilateral agencies, as well as debt relief from bilateral
creditors. At the end of the first phase (the decision point), a debt sustainabil-
ity analysis is carried out to determine the current debt situation of the debtor
country, based on a medium-term balance-of-payments projection that assesses
the debt burden of the country and its capacity to service it. If the debt ratios
for that country fall within or above applicable ranges, it will be considered for
special assistance. The ranges are 200-250 percent for the present value of debt
to exports ratios, and 20-25 percent for debt service to export ratios.
In the case of very open economies (i.e. an export to GDP ratio of 40 percent
or higher) with a high debt burden in relation to fiscal revenues, despite strong
revenue collection (i.e. a revenue to GDP ratio of 20 percent or higher), the
present value of debt to exports target may be set below 200 percent. In such
cases, the target is set so that the present value of debt would be 280 percent
of fiscal revenues at the completion point. Once eligible for support under the
initiative, the debtor country must establish a further three-year track record
of good performance under IMF/World Bank-supported programmes (phase 2).
This period may be shortened for countries that already have a record of good
performance. During this period, bilateral and commercial creditors are expected
to reschedule obligations coming due, with up to 80 percent reduction in present
value terms. Multilateral creditors can advance some of the assistance planned
for the completion point. Lastly, at the completion point, final assistance will be
As noted in the introduction, the depth of debt relief to any given country depends
critically on the stance of the key debt burden indicators as compared with the
targets stipulated. The economic interpretation of these targets implicitly relies
on the debt indicator approach. This concept traces back to a line of economic
study termed debt capacity analysis. As explained in more detail in the next
section, this type of analysis employs a number of proximate measures of ‘real-life’
debt servicing problems (e.g. debt reschedulings or the accumulation of payments
arrears), and the analytical aim is two-fold.
One is to determine the factors responsible for debt service problems, in order
to design appropriate remedies in terms of policy reform.
The other is to find
the values of these ratios at which the country ‘switches’ from a (debt service)
performing to a non-performing debtor, in order to assess the amount of debt
relief needed to exit debt servicing problems. Put di.erently, what is sought
after, is the value of the debt or debt service to export ratio at which countries
begin to accumulate arrears and request negotiations for debt relief. In the HIPC
context, a sustainable debt burden is thus defined by the switching value of the
ratio in question. Notice below that the targets are derived from evaluating the
relationship between debt burden indicators and debt servicing performance; there
is no explicit link to the investment and growth performance. And yet this aspect
is (or should be) an integral part of the concept of debt sustainability.
3. Sustainability of Foreign Debt: Theory and Evidence
There are two perspectives to consider when evaluating the sustainability of for-
eign debt. One relates sustainability to debt capacity problems, involving a dis-
ruption of normal debtor-creditor relations in which the debtor is unable (or un-
willing) to honour debt service obligations as they come due. Tangible evidence of
such problems occurs when payment arrears accumulate and debt is rescheduled
or forgiven. Analytical focus is on the determinants of debt service performance
and their switching values. The other considers the problem which occurs when
a country’s foreign debt burden is so large as to adversely a.ect economic devel-
opment (regardless of whether it is serviced in full or not). Below the theory and
evidence on these two perspectives are discussed.
3.1. The Debt Capacity Perspective
The earliest literature on the debt capacity of developing countries dates back
to the late 1950s and early 1960s and is mainly associated with a number of
multilaterally-sponsored studies.
The context from which these studies grew was
the rapid growth in (primarily public) international indebtedness in the post-war
The debt to GNP ratio and debt and debt service ratios are usually found to be among
them (as is, incidentally, the GDP growth rate, suggestion that growth-supportive debt relief
policies may be twice-blessed).
See, e.g. Avramovic (1958), Avramovic and Gulhati (1960), Alter (1961), Avramovic et al.
(1964) and Gulhati (1967). These studies were all conducted under World Bank sponsorship.
Surveys of the early debt capacity literature can be found in Bitterman (1973), Soesastro (1977),
Aliber (1980) and McDonald (1982).
period (in which the World Bank had played an important part), and a growing
concern with the repayment .ows associated with this increase in international
Since the focus of these studies was on the return .ows associated with the
capital requirements of poor countries, they can be viewed as a natural extension
of the discussion of the macroeconomic rationale for external resource .ows, as
set out in the ‘gap’ literature.
Since then, and especially after the eruption of
the debt crisis in 1982, the literature on debt capacity has expanded considerably,
but a review of this literature suggests that the concept of debt capacity has been
very di.cult to pin down with any degree of precision or consensus, as is testified
by the numerous approaches to the issue which can be identified.
Theoretical Issues. From a theoretical perspective, following Salop and Spit¨
(1980), the issue of debt capacity is concerned with two key questions. The first
asks how much money a country should borrow, given the terms and conditions
attached to the money available, i.e. what is the optimal level of debt. The other
addresses the looser notion of the feasibility of the borrowing process, specifically
the sustainability of particular debt situations and policies. According to McDon-
ald (1982), the approach of the optimizing frameworks has tended to dominate
much of the earlier theoretical literature, in part because the optimizing approach
was seen to be more in keeping with the economist’s approach to problems of
The leading suggestion to emerge from this line of work, not unexpect-
edly, is that the optimal level of debt is that at which the marginal benefit and
the marginal cost of foreign borrowing are equalized. However, while this basic
idea has subsequently been employed in numerous variations of the optimizing
model, the approach does not provide a simple formula that would make it possi-
ble to ascertain in more operational detail the debt capacity stance of individual
The non-optimizing models take a di.erent perspective, in that the sustainability
of particular debt situations and policies are examined in light of the expected
future growth path of the economy. The original non-optimizing approach was
The borrowing clientele at that time included all of the war-torn economies of Western
Europe and Australia as well as a host of underdeveloped countries throughout Latin America,
Asia and Africa.
See, e.g. Rosenstein-Rodan (1961), Fei and Paauw (1965), Balassa (1964), Chenery and
Strout (1966) and Bacha (1984).
Seminal studies in this tradition have been those by Bardhan (1967) and Hamada (1969),
as well as subsequent studies by Hanson (1974), Feder and Regev (1975) and Feder and Just
For a treatment of more recent developments in the debt optimizing literature, see the
survey studies by Cohen (1993), De Aghion (1993) and Eaton (1993).
advanced in the framework of the ‘growth-cum-debt’ literature, in which emphasis
has mainly been on foreign borrowing for investment purposes, i.e. for filling the
gap between domestic investment and savings (Avramovic et al., 1964; King, 1968;
Solomon, 1977). The growth-cum-debt models consider debt capacity in terms of
the benefits and costs of borrowing in the process of economic growth. The basic
argument is that a country will maintain its capacity to service debt provided that
additions to its debt over time contribute (su.ciently) to growth. A ‘debt cycle’
is proposed, in which the behaviour of capital .ows may change over a number of
stages which are closely linked to the course of economic growth and development.
However, since there is no automaticity in the proposed debt-growth process,
progression through the di.erent stages requires that a number of conditions be
met. Often these conditions have been merged into one single condition expressed
in the context of the Harrod-Domar growth model. The condition states that, to
maintain debt service capacity over time (i.e. to remain solvent), the growth rate
of output should equal or exceed the cost of borrowing, measured by the rate of
The merit of the growth-cum-debt model lies in its summary of the complexities
of the debt-growth mechanics into a simple and readily understandable insight,
namely that any debt strategy will only work, ultimately, if there is su.cient
economic growth to support it. However, in terms of analysing debt capacity in
a more specific manner, the growth-cum-debt framework su.ers from a number
of conceptual problems relating to its theoretical underpinnings and the rigidity
of its basic assumptions (discussed in McDonald, 1982). A particular weakness
is that the model focuses solely on the savings-investment gap. Yet, given that
external financing will have been made available in foreign currency, it must be
repaid in foreign currency, and the savings surplus must therefore somehow be
converted into foreign exchange. By not considering the performance of the ex-
ternal sector of the borrower’s economy, the growth-cum-debt model is silent on
this transformation problem.
By contrast, the ‘debt dynamics’ approach directly addresses the issue of a bor-
rowing country’s external solvency (Simonsen, 1985; Cooper and Sachs, 1985;
World Bank, 1985; Hernandez, 1988). Since debts have to be serviced with for-
eign exchange, the value of exports gives a more accurate impression of income
than for example GDP, as it relates more directly to debt servicing ability. If,
for example, there is an increase in the production of non-tradables, there is an
increase in GDP, but not necessarily in the ability to service debt. Accordingly,
the key feature of the debt dynamics approach is the relationship between export
performance and the cost of borrowing, and the solvency condition that emerges
is that for the borrower to maintain debt service capacity, the rate of growth of
exports must equal or exceed the rate of interest on the borrowed funds.
As in the case of the growth-cum-debt model, the debt dynamics framework also
su.ers from a number of conceptual shortcomings (see Cassen and Nissanke, 1990).
Critical among these is that it assumes a time-invariant growth path for exports
and the rate of interest. In reality, both variables will follow complicated time
paths, and the assumption is certainly at odds with the experience of most low-
income borrowers. This limits the use of the debt dynamics model for empirically
assessing the sustainability of a borrower’s debt path. Moreover, developments
in the level of imports are not explicitly considered, a feature that also tends
to undermine the applicability of the model when examining debt sustainability
(Kamel, 1988).
This is especially the case when imports play an important
macroeconomic role in the growth process of the borrower, as is evident in many
low-income countries (L´
opez and Thomas, 1990, 1988).
Yet in spite of the shortcomings of the growth-cum-debt and debt dynamics frame-
works, together they provide important insights into the conditions for maintain-
ing debt service capacity. First, in the long-term, the accumulation of foreign debt
has to be matched by progress in economic growth to the extent that surplus do-
mestic resources become available for servicing interest payments, and ultimately
for repaying the principal of the debt. In addition, performance in the exter-
nal sector must be such that the increase in domestic surplus is matched by an
increase in foreign exchange so that debt payments can be e.ected.
But there are limits to the practical use of these results. While the solvency
conditions of the non-optimizing literature do o.er an opportunity to make general
judgements with respect to the sustainability of borrowing policies, it is clear that
for the purpose of determining debt capacity more precisely, the term ”expected
path of the economy” is in practice too broad and vague. Contrary to the implicit
premises of the growth-cum-debt and debt dynamics frameworks, the time paths
of the main factors involved (i.e. the growth rate of output, exports and imports as
well the rate of interest) are inherently di.cult if not impossible to predict. From
this one can perhaps better understand why the fiscal and debt management
policies of many developing countries in the 1970s and early 1980s seemed so
In an extended debt dynamics model, where imports are treated as an endogenous variable,
Kamel (1988) suggests a stronger set of conditions for maintaining debt service capacity. Sol-
vency will only occur if the growth rate of exports is higher than (or equal to) the rate of interest
and also higher than the growth rate of imports or, when export and import growth are both
below the rate of interest, if the initial indebtedness of the country is below the country’s exter-
nal financial potential. Applied to the sub-Saharan African experience over the 1980-89 period,
Hjertholm (1991) found that the ’extended’ model of debt dynamics o.ered a more robust expla-
nation of actual debt service performance than did the traditional models of growth-cum-debt
and debt dynamics.
misguided. The fact is that the theoretical literature has had little to o.er in
terms of operational guidance for the design of public borrowing policies, and
reaping the benefit of insight of the empirical literature, in an ironic twist, had
to await the tangible manifestations of the debt policy failures it was intended to
help avoid.
Empirical Evidence (The Debt Indicator Approach). The empirical literature on
debt capacity has to some extent been shaped by the peculiar analytical nature
of the theoretical approaches, and the associated conceptual problems. The pos-
sible uses of foreign borrowing go beyond the role of augmenting investments and
imports. Borrowing can also be used to shield consumption from .uctuations in
the level of income, or to reduce the costs of adjusting to more permanent de-
clines in income levels. Moreover, with regard to commercial borrowing, supply
conditions in international markets are also a matter for concern, specifically as
regards lenders’ perception of sovereign risk. As correctly pointed out by McDon-
ald (1982), for a debt situation to be sustainable, both the borrowing country and
lenders must view it as such.
The large empirical literature which has been produced since the early 1970s has
not usually been directly applied to the findings of the theoretical literature, as
these were not presented in a fashion which facilitated empirical verification.
Instead the bulk of the literature went about the issue ‘indirectly’, by observing
that the debt capacity of a borrower can be more easily gauged when there are
tangible problems with debt servicing. In the empirical literature debt capacity
is thus seen in a context of a country’s failure to service its foreign debt, and
extensive use is made of a number of debt indicators and other economic variables
For instance, a debt situation which is consistent with the intertemporal budget constraint
of the borrower, may still b e unsustainable if the supply conditions (e.g. refinancing terms or
quantity rationing) are not taken into account. Because borrowers may be able to a.ect the
terms and volume of new external financing by taking into account how their own behaviour
a.ects the behaviour of lenders, debt capacity may be in.uenced by a better understanding
of the decision-making of lenders and of the institutional framework of international finance
(Eaton and Gersovitz, 1980, 1981a,b; Sachs and Cohen, 1982). A very recent contribution on
the optimal behaviour of creditors that face ‘bad debts’ is found in Cohen (1995). However,
taking account of such considerations, as the theoretical literature has increasingly attempted
to do, has made the empirical application of this literature inherently more di.cult.
One exception is the study by Selowsky and Van der Tak (1986) in which, based on a target
growth rate, a quantitative framework is developed for identifying a path of critical values
for growth in savings and exports for a successful outcome of a growth-oriented debt policy.
Another exception is Tarp (1994), who examined the path of the key variables emerging from
the growth-cum-debt and debt dynamics frameworks for ten developing countries from 1970
onto the outbreak of the debt crisis in 1982.
to explain this failure, and to predict future problems. This applied literature is
often referred to as the ‘indicator approach’ to debt capacity (e.g. McDonald,
1982; Soesastro, 1977).
Within the empirical literature, two basic perspectives exist on the issue of debt
capacity, namely that of the borrower and that of the creditor. In case of the
former, attention is on the characteristics of the debtor country’s economy as
they relate to the ability to service foreign debt (i.e. debt sustainability). The
latter is concerned with the supply of external financing to developing countries,
and as such looks at the matter from the perspective of creditors. The creditor
perspective mainly derives its relevance vis-´
a-vis borrowing from international
capital markets. Much of the literature on the loan supply issue has therefore
been generated in response to the growing presence (in the eighties) of commercial
debt, and the associated notion of credit rationing. The lender is taken to be a
commercial lender, not an o.cial one such as governments or multilateral aid
agencies. As this approach examines the solvency issue from the viewpoint of the
market, it introduces, in addition to the issue of payment capacity, a concern for
the willingness of the debtor to sustain repayment of debt, using the concepts of
‘creditworthiness’ and ‘country risk’.
The evolution of the empirical literature has been further shaped by the expansion
in the explorable history of debt problems which followed the increase in the
volume, coverage and availability of debt statistics from, in particular, the Debtor
Reporting System of the World Bank. Many of the early studies relied only on a
relatively few cases of debt renegotiations for data input, while in the late 1980s
and 1990s, much more data on debt reschedulings became readily available, as did
more detailed data on payment arrears. Because the ultimate manifestation of
a debt servicing problem occurs when a country requests its creditors for a debt
renegotiation, a large part of the literature has focussed on the incidence of (or
request for) debt reschedulings as a proxy measure for debt capacity problems.
However, debt problems may be manifest well ahead of debt reschedulings. In
fact, a request for debt rescheduling will usually have been precipitated by the
accumulation of payments arrears. Thus, looking at changes in the magnitude of
payment arrears over a period of time, in conjunction with debt reschedulings,
See Van Wijnbergen (1989) and Van Wijnbergen et al. (1992) for a discussion of the di.er-
ence between the concepts of solvency and creditworthiness.
The studies that have used debt rescheduling as a proxy measure are numerous, including
the early work by Frank and Cline (1971), Dhonte (1975), Feder and Just (1977), Saini and
Bates (1978), Feder et al. (1981), Ta.er and Abassi (1984), Kharas (1984), McFadden et al.
(1985), and Morgan (1986). More recent contributions include Kutty (1990), Savvides (1990),
Rahnama-Moghadam and Samavati (1991), and Ha jivassiliou (1993).
provides an opportunity for more nuanced assessments.
Looking at the findings of the debt capacity studies, and even considering the dif-
ferences in approaches and methods, there appears to be agreement as to the core
factors that determine the incidence of debt capacity problems. It is beyond the
scope of this review to provide a complete and detailed listing of all relevant fac-
tors, as they relate to the conceptual setup of each individual study. They include,
however, the familiar debt burden indicators (such as the debt and debt service to
export ratios), other balance-of-payments indicators (e.g. various current account
and reserve ratios), general development indicators (e.g. GDP growth rates), as
well as other economic and political indicators (including the rate of growth of
the money supply, the in.ation rate, the share of exports and domestic invest-
ment in GDP, and di.erent measures of political organization and stability). In
addition to these general results, some studies have found evidence that debt
capacity problems in low-income countries (notably in sub-Saharan Africa) are
also determined by structural factors emerging from a higher level of import and
agricultural dependence (Taiwo, 1991; Odedokun, 1995, 1993) and also by fiscal
distress (Ngassam, 1991).
It follows from the above that the indicator approach has been firmly established
as the main vehicle of traditional debt capacity analysis. The approach is based on
relating observed debt servicing problems, not development problems, to a broad
range of aggregate macroeconomic (and other) indicators, of which, incidentally,
only a few are integrated in the HIPC debt relief scheme.
Policy Implications. The insights derived from the standard approach to debt
capacity, in particular those that relate to the balance-of-payments, have (until
recently) been pivotal in shaping the understanding of international policymakers
with respect to the debt crisis. The nature of policy responses to the debt problems
of developing countries bears testimony to this. The problem has been perceived
as one of external insolvency (or, as initially thought by many, of illiquidity), and
the key aggregate variables to monitor, and on which to focus for a solution, were
conveniently provided by the indicators identified in the empirical literature; and
In addition, in a context of commercial credit rationing, a number of studies have directly
used the extent of the borrowers access to international capital markets as a proxy for credit-
worthiness, e.g. by lo oking at the supply of borrowing relative to total debt. References to this
line of work include Lensink and Van Bergeijk (1991), Savvides (1990), Hajivassiliou (1987),
and McFadden et al. (1985). In a similar credit rationing context, some studies have used a
measure of the secondary debt market values as re.ecting either past debt servicing di.culties
or anticipation of future problems (Ha jivassiliou, 1989; Alford and Lussier, 1993).
the data for these indicators were readily available from the annual statistical
publications of such institutions as the World Bank and the IMF.
The international debt strategy that evolved in the 1980s and early 1990s thus
had two principal components. The first, to which creditors attached primary
importance, concerned the need for debtor countries to adjust the external sector
of their economies so that a return to a solvent path could be e.ected. Condi-
tional on adjustment performance, the second component, initially intended as
a discrete supportive device, involved addressing immediate servicing problems
through renegotiating problem debt in the creditor clubs in London and Paris,
as well as mobilizing increased financial support through the facilities of the IMF
and the World Bank and from the international donor/creditor community.
a word, maintaining debt service became the objective, and balance-of-payments
adjustment became the key.
Hence, with the objective of preserving debt service capacity, the stabilization
component of the adjustment policy packages that were promoted and adopted,
emphasized e.orts to reduce or convert trade deficits. The aim was, in part to
reduce the need for further external borrowing, and in part to free foreign exchange
for debt service, and the vehicle of adjustment was usually the level of imports.
The proposed mechanism for achieving this outcome rested on the suggestion
of stabilization theory, as embraced by the IMF, that there exists a casual link
between in.ation and imports.
As we now know, because the problem was mainly one of insolvency, rescheduling of debt
has become an recurrent, indeed a permanent feature of the debt strategy, as countries have
had to come back time and again to the negotiation table. Also, the financing element has now
changed from one of immediate financial support to one resembling a financial life-line.
In simple terms, the argument runs as follows. By eliminating in.ation through fiscal and
monetary austerity, excessive imports will also be eliminated because of the contraction in aggre-
gate demand. Only if wages are sticky will this lead to reductions in output, but the stabilization
theory, as embraced by the IMF, do es not attach primary attention to wage-price rigidities. In
order to avoid that the correction of the external imbalance leads to output contraction, the
IMF approach advocates the employment of exchange rate policies (i.e. devaluation), whereby,
it is argued, prices in the tradable sector will become more attractive than in the non-tradable
sector. A diversion of resources from the non-tradable to the tradable sector will thus take place
which will improve the balance-of-payments and help solve the debt servicing problem ((see
Tarp, 1993, chap. 3) for a critical discussion of stabilization theory and of the IMF policies
based thereupon). While fiscal policy measures were thus part of the policy packages, they were
primarily designed to accommo date the adjustment needs, as perceived by the IMF, at the level
of the balance-of-payments. They were not as such designed to assure a long-term sustainable
debt position of the public sector, as this would have required more detailed considerations of
the e.ects of the rather sweeping expenditure cuts that were recommended for the future public
debt servicing capacity. Also, the relative merit of across-the-board expenditure cuts would
have had to be more closely analysed vis-´
a-vis the alternative of increased taxation.
To help turn around trade deficits, but also for other reasons of development
policy, the structural part of the adjustment packages aimed at removing or al-
leviating distortions and bottlenecks in the tradables sector, thereby seeking to
increase export earnings, and thus reducing trade deficits. Both the stabilization
and structural reform part of the policy packages have in most cases encouraged
devaluation of the home currency with a view to promoting the competitiveness
of debtor countries, a policy which in fact may or may not have helped countries
overcome the debt capacity problems (Rodrik, 1993). However, since the inter-
national debt strategy of the past has been cast in an aggregate context in which
debt capacity was primarily understood as a balance-of-payments issue, the debt
servicing problems at the level of the government budget have been relegated a
subordinate role at best, and consistently overlooked at worst.
Fiscal Aspects of Debt Capacity. In the mid-1990s debt analysts began looking
beyond the traditional balance-of-payments approach to debt capacity analysis,
by adopting a fiscal approach. This shift in emphasis rested on the empirical
observation that the bulk of poor country debt was (and is) a public sector liability.
At the heart of the debt capacity of the public sector is what has become known
as the ‘internal transfer problem’. One early theoretical formulation of the fiscal
problems involved in foreign debt is found in (Kharas, 1981c,b,a).
Kharas considered the problems facing a government engaged in foreign borrowing
to finance public expenditures, and which is constrained in its ability to collect
revenue to service the acquired debt. If the government uses most of the borrowed
funds for investments in such areas as infrastructure, education, health services,
etc., the sustainable level of debt that the government can take on will depend,
not only on the relationship between the marginal social return on these invest-
ments and the marginal cost of borrowing, but also on the governments ability
to appropriate su.cient domestic resources (through more tax revenue) for debt
service. The fiscal source of debt service problems is thus evident if taxation is
not expanded commensurately with maturing public debt service obligations. A
crucial point to emerge from this line of argument, and one that departs from
traditional debt capacity analysis, is that the link between debt service and gov-
ernment taxation makes it possible for debt problems to occur even if all in.ows
of foreign resources are used for investment, and if the marginal product of capital
is greater than the real rate of interest.
Later Reisen and Von Trotsenburg (1988) empirically analysed the internal trans-
fer problem in the wider context of the theory of international transfers. They
uncovered that the fiscal transfer problem had been one of the main obstacles
to a return to international creditworthiness for most of the major (commercial)
debtors in the first half of the 1980s. This result suggested that the fiscal burden
of debt exacerbated debt capacity problems and helped explain why earlier projec-
tions, by e.g. Cline (1983), of the anticipated return to creditworthiness could not
be realized, despite achievement of projected improvements in industrial country
growth and reductions in LIBOR.
With respect to the indebted low-income countries in sub-Saharan Africa, a re-
cent study by Hjertholm (1997) similarly found that fiscal debt burden indicators
played a significant role in explaining the poor debt servicing performance of a
large number of sub-Saharan African countries. Analysis of the fiscal dimension
of foreign debt in developing countries can also be found in Bevilaqua (1994) and
Dittus (1989). Such contributions together suggest that the issue of debt service
capacity cannot be separated from the issue of the government budget constraint.
The inclusion of a fiscal target in the HIPC debt initiative is thus a re.ection of a
legitimate concern for the fiscal sustainability of poor country debt. It is much less
clear, however, how the sustainability target of 280 percent (for the public debt
to revenue ratio) and the attached conditions precisely came about (see below).
3.2. The Development Perspective
Empirical evidence suggests a relatively strong statistical relationship between
high debt burdens and poor economic performance, such as low growth, invest-
ment and human development.
A main channel for these adverse e.ects of large
debt burdens are fiscal e.ects, of which two are particularly important: (i) cash-
.ow e.ects arising from reduced public expenditures, and (ii) disincentive e.ects
associated with a large debt overhang.
Cash-Flow E.ects. Public expenditures may crowd-in private investment, espe-
cially where the latter is impeded by structural bottlenecks such as weak infras-
tructure (e.g. Taylor, 1993, 1983; D´iaz-Alejandro, 1981). The generally poor state
of infrastructural, educational and health facilities in low-income countries there-
fore provides considerable scope for realizing the potential positive externalities
from government expenditures (e.g. Hadjimichael and Ghura, 1995; Hadjimichael
et al., 1995). But these opportunities will be missed, and so economic growth
foregone, if expenditures are squeezed by public debt service, which empirical ev-
idence suggests has been the case in sub-Saharan African countries (e.g. Fielding,
1997; Gallagher, 1994; Sahn, 1992, 1990).
See, e.g. Cohen (1996), Ojo and Oshikoya (1995), Oshikoya (1994) and Greene and Vil-
lanueva (1990).
A closely related cash-.ow problem associated with public debt service is import
compression, which can occur for two reasons (Ndulu, 1991). First, if the ability
of the economy to substitute between imported and home produced capital goods
is limited, a cut in capital goods imports will lead to a decline in investments and
Second, following Hemphill (1974) and Moran (1988), import compres-
sion can occur in cases where import volumes are determined by import capacity
rather than relative prices. Clearly the magnitude of debt service matters for
import capacity in such instances. Import compression can occur both at the
balance-of-payments level and at the budgetary level (through the e.ects of pub-
lic debt service on the import-content of government expenditures). Reductions in
the import capacity of the government, as a result of debt service, can thus reduce
government investment activity, whereby the complementarity e.ects mentioned
above are lost. That such cash-.ow e.ects have indeed been at work in indebted
low-income countries is confirmed (for 23 sub-Saharan African countries) in the
study by Hjertholm (1997).
Disincentive E.ects. In addition to these direct e.ects from reduced public in-
vestment and lower imports, a high debt burden may undermine economic perfor-
mance on account of the debt overhang. Debt overhang e.ects may be classified
in two ways: (i) the ‘narrow’ approach focussing on tax disincentives, and (ii)
the ‘broad’ approach related to macroeconomic instability. The fundamental no-
tion of the narrow debt overhang theory is that the future debt service burden
of a country will weigh heavily on the increase in the country’s future economic
output, of which a large part will be expected to have to go to foreign creditors
(through higher taxes). Hence there will be a tax on investment returns which
will discourage investors.
Besides the possibility of disincentives working through taxation, there may be fur-
ther disincentives through general macroeconomic instability which is seen as par-
ticularly bad for private investment
A public debt overhang can a.ect macroe-
conomic stability through several channels: (i) an increase in the fiscal deficit,
(ii) exchange rate depreciation, (iii) monetary expansion and in.ation from mon-
etising debt service obligations, and (iv) recourse to exceptional financing (such
Since some substitution away from imports may take place, the decline in investment will
probably be proportionally less than the decline in imports. And yet, the remarkable stability
of the relationship between real capital imports and real investments observed in low-income
countries in the 1980s, suggests that the fixed proportional relationship is not that far o., and
the imperfect substitution phenomenon is indeed partly responsible for the import compression
observed in these countries.
For a theoretical presentation of this idea, see Borensztein (1990).
See Hjertholm (1997) for an elaboration of the adverse e.ects that may result.
as payments arrears and debt rescheduling), which tends to maintain uncertainty
about the future debt servicing profile of the public sector. Public debt-induced
.uctuations in such macro variables as the in.ation rate, exchange rates, and ex-
ceptional financing may thus signal fiscal distress and an inadequate ability on the
part of the government to control fiscal events. Such signals may in turn heighten
investor uncertainty about the future direction of the macroeconomy and thus re-
duce the incentive to invest. In sum, the broad debt overhang hypothesis asserts,
and is supported by available evidence, that one or more of the macro stability
indicators discussed are likely to capture part of the investment disincentives of a
large public debt burden.
4. History of Indicators of Debt-Distress
The previous section presented the theoretical and empirical underpinnings of
the concept of debt sustainability. The review showed that a sustainable debt
position requires an adequate capacity to service a foreign debt (so that actual
and scheduled payments are equalized) and that the burden of debt is low enough
so as to ensure that resource constraints and disincentives are not introduced vis-
a-vis investment activity. Neither aspects can be excluded from assessments of
sustainability. With this backdrop, we now turn to the historical origins of the
World Bank’s aggregate indicators of debt-distress.
4.1. World Debt Tables Classification of Debtor Countries
Origins: World Debt Tables 1989-90. The story begins in 1989, when the World
Bank published its 1989-90 edition of World Debt Tables (WDT), i.e. the Bank’s
annual report on debt and external finance in developing countries (since 1997,
the report is called Global Development Finance, GDF). Here, for the first time,
the Bank attempted to classify debtor countries according to the depth of their
debt problems. Previously, the summary tables of the WDT had only included
debt data for a number of geographical groups, two analytical groups (namely ‘oil
exporters’ and ‘middle-income oil importers’) and the group of 17 ‘highly indebted
The study by Hjertholm (1997) for 20 sub-Saharan African countries, while not generating
strong evidence for the narrow debt overhang hypothesis, showed clear evidence of the broad
hypothesis in that public debt burdens had several (indirect) e.ects that were transmitted
through macro economic variables, such as the in.ation rate, exchange rates and exceptional
countries’ (HICs), also known as the ‘Baker 17 countries’.
Realizing that ”debt
burdens varies across developing countries,” the WDT 1989-90 asserted that while
foreign debt did ”not place stress” on some countries, for others ”the burden is so
large that it hampers their e.orts to pursue a sensible, growth-oriented policy”
(p. 50).
Following the implicit logic of this assertion, the aim of the new system of clas-
sification was thus to provide a procedure for singling out those countries were
the debt burden posed a problem for economic growth, i.e. for development. To
the outside observer, it would therefore appear that the new system would be
driven by a concern for the development implications of the debt burden. Though
this may well have been the intention (at least on the part the report team), the
method adopted in the report was not based on linking the debt burden to mea-
sures of economic performance, but on linking the debt burden to debt servicing
performance, which is a di.erent (though related) matter. The classification sys-
tem presented in the WDT 1989-90 adopted the indicator approach, as embedded
in the traditional debt capacity literature: the countries singled out were not those
were the debt burden adversely a.ected economic development, but those were
the debt burden adversely a.ected debt servicing performance. So, at the outset,
the WDT exercise only dealt with one aspects of debt sustainability.
Seeking to diversify the topology of debtors by evaluating their debt service ca-
pacity problems, the WDT 1989-90 went on to consider the relevant debt burden
indicators and their relationship with the problem at hand, namely the deterio-
rating debt service performance of debtor countries. In order to avoid some of the
problems inherent in using a single debt burden indicator, the report decided on
using four indicators. These were:
• the ratio of debt to GNP,
• the ratio of debt to exports,
• the ratio of (next year) scheduled debt service to exports, and
September 1985, spurred by the unsolved debt problems of Mexico and other countries with
heavy commercial debt burdens, James Baker, the newly appointed US Treasury Secretary,
put forward a plan which aimed at ”broader attack on the debt problem”. The plan involved
17 highly indebted middle-income countries (Argentina, Bolivia, Brazil, Chile, Colombia, Costa
Rica, Cˆ
ote d’Ivoire, Ecuador, Jamaica, Mexico, Morocco, Peru, Philippines, Uruguay, Venezuela,
former Yugoslavia, and Nigeria, which only later become a low-income country), later known
as Baker 17 countries. Largely unsuccessful, the Baker plan was reformulated in 1989 as the
Brady plan, named after (then) US Treasury Secretary Nicholas Brady, and thereafter met
with considerable more success in terms of solving the commercial debt crisis of middle-income
countries Cline (1989).
• the ratio of scheduled interest to exports.
The ratios to exports relate the debt burden to the availability of foreign exchange
earnings of the economy, while the ratio to GNP relates the debt burden to the
broadest measure of the income-generating ability of the economy. To be classified
as a debt-burdened country, the value of three of these ratios had to be greater
than ”empirically observed critical values”. The reason for requiring that three of
four ratios have critical values followed from experiencing sometimes anomalously
low values for one ratio even though the country in question was obviously having
trouble servicing its debt. To avoid excluding such cases where a seriously debt-
distressed country is excluded, three critical values must therefore be observed.
Debtor countries were subsequently classified into the following four groups:
• Severely indebted low-income countries (SILICs)
• Severely indebted middle-income countries (SIMICs)
• Moderately indebted low-income countries (MILICs)
• Moderately indebted middle-income countries (SIMICs)
But what was meant by ”empirically observed critical values”. These critical
values of the indicators were based on information from the April 1989 edition of
World Economic Outlook (IMF, 1989). The WEO regularly publishes debt data
for a sub-group of net debtor countries ”with recent debt-servicing di.culties”.
This analytical group includes debtor countries (as many as 73 reported in April
1989) which had recently incurred payments arrears or entered o.cial or com-
mercial bank debt rescheduling agreements during a specified three-year period
(in this case during 1985-87). The IMF used information on such occurrences
from the Fund’s Annual Report on Exchange Arrangements and Exchange Re-
WDT 1989-90 applied the 1988 unweighted average value of each of
the four indicators for the 73 problem countries as the critical values. The critical
values were (critical values for SIMICs in brackets):
Low-income countries were those in which 1987 GNP per capita was less than US dollars
480, and middle-income countries were those in which 1987 GNP per capita was higher US
dollars 480 but less than US dollars 6,000.
Upon consulting the relevant editions of the said IMF publication, the author found that
only countries that had accumulated payments arrears were clearly reported (there was 64 of
them). As regards countries that rescheduled o.cial or commercial debt, only the total number
of countries having done so were reported, not the individual countries. The remaining nine
countries (73 less 64) that rescheduled without having accumulated arrears during 1985-87
could thus not be identified from this source, although this appears to have been possible in
1989. Instead information on rescheduling countries was obtained from editions of World Debt
• Debt to GNP ratio: 50 percent (for SIMICs: 30-50 percent),
• Debt to exports ratio: 275 percent (for SIMICs: 165-275 percent),
• Scheduled debt service to exports ratio: 30 percent (for SIMICs: 18-30
percent), and
• Scheduled interest to exports ratio: 20 percent (for SIMICs: 12-20 percent).
The notion was that countries could not avoid debt servicing di.culties if these
indicators were allowed to rise above these critical levels, since recent history had
shown that they had not been able to do so. As noted, if values (for poor coun-
tries) were above critical values for three of these indicators, the country was
classified as a ‘severely indebted low-income country’ (a SILIC). If a country was
not a SILIC, but at least three of the observed values exceeded 60 percent of
the critical values, then it was classified as a ‘moderately indebted low-income
country’ (a MILIC). In WDT 1989-90 this classification produced 27 SILICs (24
in sub-Saharan Africa, plus Vietnam and Myanmar in Asia and Guyana in Latin
America). Nine countries were identified as moderately indebted low-income coun-
tries, including Uganda which, although having a debt to export ratio above 700
percent and scheduled debt service payments (mainly principal) amounting to
nearly half of exports, had low interest payments and a relatively low debt to
GNP ratio. A further 19 countries were identified as SIMICs, including later
HIPCs like Bolivia, Honduras and Nicaragua.
Acknowledging that this procedure could not be expected to provide a perfect
identification of debt-distressed countries, the report conducted an informal sensi-
tivity analysis, which did not, however, lead to any substantial shifting of countries
among the debtor categories. If, for example, the critical values were lowered with
10 percent, only three countries (Ethiopia, Indonesia and Yemen) would move to
the SILIC group. A 10 percent lowering of the critical value of the debt service
ratio may have captured many of the borderline cases, if there had been any (no-
tice that most of the 73 problem countries had scheduled ratios above 20 percent
anyway). This is di.erent for the debt to export ratio, since lowering the critical
value by 10 percent, from 275 to 265 percent, would not have made much of a
di.erence, since there were a lot less countries below than above the 265-275 range
Tables, but only seven additional countries could be identified, thus arriving at a total of 71
countries. Curiously enough, however, as many as 12 countries were identified in WDT as having
accumulated payments arrears at one point in time during 1985-87, but which were not reported
in the IMF publication as having experienced debt servicing di.culties. What accounts for this
discrepancy is not clear.
Be that as it may, of particular interest for the current discussion on the HIPC
sustainability targets, is that the report sta. were quite explicit in stressing the
informal ‘rule-of-thump’ nature of the new classification system. Stating (pp. 50-
51) that ”the methodology used here should simply be taken as one of a set of
tools for making informed judgements in identifying countries with heavy debt
burdens,” the report went on to assert that, given the static nature of the in-
dicators, the tool ”should be used in conjunction with data on other economic
variables and projections pertaining specifically to the country”. The ”projected
trend [of the indicators] would [not] be a determinant of the pervasiveness or depth
of debt problems”. The report finally noted that:
The methodology used here is not useful in identifying the degree to
which debt and debt service reduction increases growth and adjustment
prospects in one country relative to another.
Such cautionary statements may, of course, be interpreted in several ways, but it
is hardly unfair to perceive them as re.ecting the view that high debt burdens are
a problem, not only in terms of debt service capacity, but also in terms of their
wider development implications.
In passing, it is interesting to note that the international donor community, when
it launched the Special Programme of Assistance (SPA) for sub-Saharan Africa
in the late eighties, did exactly what the WDT 1989-90 warned against. Besides
being poor and pursuing policy reforms, the eligibility criteria for SPA assistance
was that countries had to be debt-distressed, and the approach adopted for such
assessments was based on the indicator approach as embraced by WDT, or rather
part of it, since only the critical value of 30 percent for the debt service ratio was
used as a benchmark for assistance. On this basis, it is doubtful whether the SPA
programme originally succeeded in reaching all debt-distressed countries.
The Net Present Value of Debt: World Debt Tables 1992-93. In 1992, with the
publication of the WDT 1992-93, the World Bank in a certain respect consid-
erably refined the classification system of previous editions. This followed the
It was also noted that since the indicators presented the debt situation in a particular
reference year, it may not provide a representative picture. A temporary rise, for example, in
export earnings will lower the debt to export ratio without having increased long-term solvency.
One way of correcting for this was to use a three-year average rather than a single-year value, and
this was indeed done in the 1991-92 and subsequent editions of WDT (incidentally, the WDT
edition in-between (1990-91), did not develop the classification system any further, indeed it
wasn’t even mentioned, although the classification results of the previous year was re-reported
(with minor alterations).
introduction of the net present value (NPV) of debt burdens as a basis for classi-
fying debtor countries. Since debt indicators based on the nominal value of debt
and debt service does not adequately re.ect a country’s true solvency position,
they do not provide a true picture of debt service capacity, especially in the longer-
term perspective. This is because no account is taken of the term structure and
the concessionality mix that characterizes developing country debt, and yet this
is of critical importance for the actual cash-.ow burden of the debt.
In order
to account for this deficiency, the WDT 1992-93 classification system was based
on the present value of scheduled debt service payments, using the interest rates
charged by OECD countries for o.cially-supported export credits as discount
Whether the present value is higher or lower than the nominal value of
the debt depends on the interest rates of loans and the discount rate (see WDT
1992-93 (p. 127-128) for details). Usually the present value of poor country debt
is lower than its nominal value, since interest rates are usually low and fixed.
Two NPV debt burden indicators were used by the WDT 1992-93 to classify
debtor countries: NPV debt service to GNP ratio and the NPV debt service to
exports ratio.
The critical values chosen were the ”1989-91 averages of the mean
ratios for the countries identified in World Debt Tables 1991-92 as severely and
moderately indebted: a PV-to-GNP ratio of 80 percent and a PV-to-exports ratio
of 220 percent” (p. 128). As noted, because of the high grant element of poor
country debt, the present value of debt of these countries is usually significantly
lower that its nominal value. If this is case, it seems curious that the NPV debt
to GNP critical value is set higher (80 percent) than the nominal critical value
(50 percent) used in earlier classifications.
A country was classified as a SILIC (or SIMIC, if middle-income) if either one
of the ratios were above the critical values, and a MILIC (or SIMIC, if middle-
income) if one of the ratios exceeded 60 percent of the critical values. The ap-
plication of the NPV method yielded a similar number of SILICs as in previous
editions (27). The customary sensitivity analysis, however, though taken to a.rm
For instance, a country receiving a large amount of concessional (i.e. soft) loans will experi-
ence much less di.culty in subsequently servicing its debt than a similar country with the same
loan amount contracted on commercial (i.e. hard) terms. The nominal debt sto ck indicators
could be similar in the two cases, but the severity of the debt service burden are very di.erent
(see Chaudhuri and Zhu (1996) for a more detailed discussion of nominal versus present value
debt analysis).
These rates are seen as representing, on average, the most favourable term of fixed-rate,
non-concessional debt developing countries are able to obtain in international markets.
The inclusion of the interest to exports ratio, used in previous editions as a measure of
the cost of using externally-borrowed resources under varying degrees of concessionality, was
discontinued since this dimension was captured by using the present value of debt (i.e. the
impact of the rate of interest is accounted for).
that the method was ”relatively robust to the choice of critical values”, neverthe-
less showed that a 5 percent lowering of critical values would add another ten
countries to the SILIC group. Curiously, the sensitivity analysis did not try a 10
percent lowering of critical values (as was done in previous editions), so the extra
ten SILIC countries must be regarded as a minimum addition.
4.2. Methodological Issues
Determining Critical Values. Despite the immediate evaluative usefulness of the
original WDT classification system, the use of average indicators to capture the
debt servicing problems of a large number of countries with dissimilar economies
raises some methodological questions relating to the procedure of determining
critical values. As noted earlier these values can be interpreted as switching val-
ues, above which countries (on average) turn from performing to non-performing
debtors in debt service terms. Implicit in this notion is the assumption that there
exists a universal and time-invariant set of switching values (or at least a nar-
row range of values) which is applicable to all debtor countries at all times. But
this is a dubious assumption. For one thing, universality is compromised by the
presence of extreme observations (of which there were quite few among the 73
problem countries used as reference group) in the calculation of switching values.
These extreme observation (e.g. debt to export ratios of 1000 percent and even
higher) tend to raise the average value which is used as the switching value, but
without any concurrent deterioration in debt servicing performance having been
It must be remembered that the 73 countries reported by the WEO were identi-
fied as problem debtors because they had rescheduled or accumulated payments
arrears regardless of the size of the amounts involved. This meant that no link
was established between the size of the debt burden indicator and the severity
of debt servicing problems. For instance, if the debt to export ratios of Sudan,
Guinea-Bissau, Mozambique, Somalia and Nicaragua (all above 1000 percent),
were to have been (hypothetically) cut in half, they would without doubt still
have had major debt service problems (thus would still have been on the WEO
problem list), but the average debt to export ratio would have been considerably
lower, and so would the (critical) switching value. The point is that the adopted
switching values, as they are reported in WDT 1989-90, did not account for the
presence of countries with abnormal debt situations.
This raises the question of whether the WDT 1989-90 was justified in simply
using the 1988 unweighted average as a summary switching value. What should
have been done was to first look at the distribution of the 73 observation (i.e.
combinations of country and indicator value) for each of the four indicators. If
the distribution is non-normal, because of extreme values, considerations as to
the appropriate summary indicator would be warranted. To see if this was the
case, data for the debt to export ratio of 63 of the problem countries (for which
data could be found) listed in the WEO were examined (Table 1). The number
of countries in each interval is given, to see whether the distribution is normal or
skewed in one way or other. It seems that it is, with a right-hand tail of several
high values above average. Using an unweighted average as summary indicator in
this case does certainly not appear to be the most appropriate. There are several
ways (none of them perfect though) to remedy the in.uence of the abnormal
cases. A weighted average could be uses (based e.g. on GNP values). The
median value could also have been used. Or the extreme observations (e.g. the
five aforementioned countries) could have been cleansed from the sample. In any
case, while acknowledging the trade-o. between operationality and precision, it
seems that some considerations about the appropriate summary indicator should
have been included in the WDT exercise.
Table 1: Distribution of Debt/Export Ratios, 1988
(63 WEO problem countries. No. of countries in each interval)
0-100 100-200 200-300 300-500 500-1000 1000-1500 1500-2000 above 2000
Source: WDT 1989-90.
The other problem, that of time-invariance refers to the use of a specified time-
period (1985-87) as the genesis of debt servicing problems. Many of the problem
countries listed were also problem countries in the years prior to the reference
years, with indicator values sometime far below those of 1988 (on this, see also
Verhagen, 1997). The point here is that the ‘true’ switching values may not
coincide with those accidentally observed in 1988.
To sum up, since the switching values adopted in WDT 1989-90 may have been
set to high, in part due to the in.uence of abnormal debt burdens, and in part
due to having been calculated on the basis of an arbitrarily selected reference
year, it may be doubted whether they are appropriate approximations of the
‘true’ switching values governing the debt servicing performance of debtor coun-
tries. Moreover, given the whole range of explanatory variables determining debt
service performance (as discussed in section 3), it may be doubted whether all rel-
evant information determining debt service performance is contained in the four
indicators used, and it is certainly debatable whether the di.erence in the true
switching values among countries could lie within the (+/-) 10 percent boundaries
suggested by the sensitivity analysis.
Methodological Problems Unresolved. Despite the justified introduction of the net
present value of debt (in WDT 1992-93 ), and an initial explicit acknowledgment
of the still unattended fiscal aspects of the debt capacity problem, the method
of determining critical values remained a weak spot. What was done in WDT
1992-93) was to lump together all countries classified as severely and moderately
indebted in WDT 1991-92, calculate for each countries and each NPV ratio the
values for 1989, 1990 and 1991, and then adopt as the critical switching value
the three-year average of the country average for each ratio. Apart from losing
universality, due to the continued inclusion in the summary indicator (i.e. the
unweighted average) of extreme debt burdens (which were still in evidence, in
spite of the NPV approach), the critical values adopted lost further credibility
due to the legacy of past imprecisions.
The debtor classification from which the new NPV system was created was, as
argued above, based on linking 1988 debt indicators to 1985-87 debt servicing
problems, a procedure which in the first place is unlikely to have generated ‘true’
switching values. Unfortunately this somewhat mechanistic approach to debt
capacity analysis appears to also underlie successive editions of World Debt Ta-
bles/Global Development Finance, and also to underlie the debt sustainability
targets guiding HIPC assistance.
The assertion of a World Bank sta. working
paper World Bank (1995a) prepared in the initial phase of the design of the HIPC
initaive that ”empirical evidence supports the view that a present value of out-
standing debt above 220 percent of exports is so high that the country could not
meet principal repayments, as they fall due, without undue compression of im-
In passing, an alternative (and more direct) way of classifying countries would be to simply
group (if IMF data allowed) the 73 countries on the WEO list according to the severity of debt
servicing problems. For example, SILICs could be defined as those countries that rescheduled
and/or had arrears in excess of, say, 20 percent of total debt, MILICs could be those with arrears
between 10-20 percent of total debt, and so on.
The NPV debt to export ratios of the five most indebted SILICs were (1990-92 average):
Nicaragua (2798.5 percent), Sudan (2727.1 percent), Somalia (2557.5 percent), Mozambique
(1156.9 percent) and Guinea-Bissau (916.6 percent) (Ahmed et al., 1994).
For example the WDT 1993-94, which reported 29 SILICs (no sensitivity analysis carried
out in this or later editions), the WDT 1994-95, which reported 32 SILICs, the WDT 1996,
which reported 35 SILICs, the GDF 1997, which reported 37 SILCs, and the GDF 98, which
reported 36 SILICs. In GDF 98, in order to account for debt relief in 1996–97, the debt to GNP
and export ratios used were no longer based on three-year average ratios, as done before, but
by holding NPV of debt 1996 against 1994–96 averages of GDP and exports.
ports, or else an expansion of exports beyond what seems feasible,” could hardly
refer to the type of analysis just discussed.
5. HIPC Application of Sustainability Targets
In case of the HIPC initiative, the debt relief e.ort of creditors aims to, indeed is
limited to, bringing down three selected debt burden indicators to their perceived
switching values. Thus the debt to export ratio in NPV terms is to be brought
down to the 200-250 percent range (depending on a number of vulnerability fac-
tors), the debt service to export ratio in NPV terms down to the 20-25 percent
range (again depending) and the debt to fiscal revenue ratio in NPV terms down
to 280 percent. Since an unsustainable debt is said to be in evidence if just one
of these switching values are not reached, ‘perfect’ sustainability requires that all
three targets are satisfied.
5.1. Export Targets
The rationale for adopting the (200-250 and 20-25 percent) target values for
the export ratios rested partly on the successive WDT exercises and in part on
the findings of a number of other empirical investigations (notably Cohen, 1996;
Underwood, 1990) which were interpreted as being largely supportive of targets
Before considering the results of the supportive evidence, it is worth
noticing at this point the absence of the debt to GNP (or GDP) ratio among the
targets adopted. As mentioned earlier, the GNP ratio relates the debt burden to
the broadest measure of the income-generating ability of the economy, and the
ratio has been used for numerous years in the WDT/GDF as part of the debtor
classification system. However, in 1994, a World Bank publication on poor coun-
try debt World Bank (1994) signalled the demise of the debt to GNP ratio on
grounds that its usefulness was compromised by the in.uence of ”erratic changes
arising from real exchange rate changes” in SILIC countries. However, similar
problems relate to the export ratios, since export earnings may .uctuate widely
in SILIC countries. This problem was accounted for in the WDT exercise by using
three-year averages of the debt to export ratio, and in the HIPC context, export
.uctuation are (to some extent) accommodated by including exports among the
risk factors. It is not clear why exchange rate-induced .uctuations in GNP could
not have been dealt with in a similar manner.
The adoption of the fiscal target is another story, as discussed below.
As noted, a couple of studies have been frequently cited in the HIPC context (e.g.
in Claessens et al., 1996; Chaudhuri and Zhu, 1996) as lending empirical support
to the notion of a sustainability threshold of 200-250 percent for the NPV debt
to export ratio as being ”about right”. A note by Underwood (1990) attempted
to identify the upper bound of the value of the debt to export ratio (adjusted for
the grant element) at which debtor countries would still be considered sustainable
and creditworthy. This was done by grouping 111 debtor countries into those
that had rescheduled since 1982 or had accumulated extensive payments arrears
(not defined) during 1980-87 (56 countries) and those which had had no debt
service problems (55 countries). With few exceptions, all countries without debt
servicing problems had (adjusted) debt to export ratios below 200 percent, as
correctly reported by Claessens el al. It is di.cult, however, to go along with the
subsequent assertion by Claessens et al. that ”most countries with a history of
rescheduling or interest arrears had debt-to-exports ratios above 200 percent”.
Inspecting the Underwood data reveals that as many as 17 of 56 problem coun-
tries in 1987 had debt to export ratios below 200 percent, a fact that prompted
Underwood to argue that the 200 percent should be considered as a necessary
but not su.cient condition for sustainability. Moreover, counting the number of
problem countries with below 200 percent debt to export ratios for the other years
yielded some interesting numbers (see Table 2). As we go back in time, the num-
ber of countries with ‘extensive’ debt servicing problems below the 200 percent
threshold increases markedly. In all years during 1980-84 over half the countries
had ‘extensive’ debt servicing problems even though their debt burden was lower
than what was considered sustainable. This suggests that the Underwood study
proposed a 200 percent debt to export ratio only as an upper bound (but it is
used as a lower bound in the HIPC context). Re.ecting on the reason as to why
so many countries with below 200 percent debt to export ratios could not avoid
arrears and rescheduling, Underwood argued that the fiscal burden of debt had
been the binding constraint.
Table 2: No. of countries with below 200% debt to export ratio, 1980-87.
(Percent share of total number of problem countries in brackets)
1980 1981 1982 1983 1984 1985 1986 1987
(82.1) (66.1) (55.4) (55.4) (57.1) (35.7) (35.7) (30.4)
Source: Underwoo d (1990).
Another, more recent, study by Cohen (1996) for sub-Saharan African countries
had a similar aim. Cohen suggested a number of ways to assess the sustainability
of African debt. For instance, sustainability can be roughly assessed by determin-
ing the share b of a country’s national resources that would be required for debt
servicing if the debt to export ratio were to be stabilized. If D/X is the debt to
export ratio, r the rate of interest, and n the rate of export growth, the share
b would be determined by (r-n)(Dt/Xt) for any given period t.
If the coun-
try is willing (and capable) of paying more than b, the debt to export ratio will
fall, leading eventually to a sustainable debt position, while repayments below b
would lead to an indefinite rise in the debt to export ratio, an unsustainable debt
position per se.
Since the upper value of the share b can be theoretically interpreted as the cost of
debt repudiation, that is, the share of national resources that would be foregone
in the event that the country was to ”go to war with its creditors”, its value
can be indirectly inferred by reference to countries that have been pushed to the
‘limit’ by their creditors. Using as this limit the situation where countries begin
to reschedule their debts, the associated value of the debt to exports ratio (D/X)
indicates the sustainability threshold, and can then be used to calculate the value
of b (given information about interest rates and export growth). Calculating these
values for sub-Saharan SILICs during the 1985-93 period reveals that an average
of 12.8 percent of African resources would be required to stabilize the debt to
export ratio (compared with Mexico’s average transfer on only 4.7 percent in that
country’s crisis years of 1984-89).
An alternative method was to conduct a La.er-style analysis, based on ‘recon-
structed’ secondary market prices for a large number of African countries. Since
only few sub-Saharan African countries are actually quoted on secondary markets,
Cohen econometrically constructed the price value of each country’s debt, as if
it had been quoted on grounds similar to other debtors in the market. Calculat-
ing also the threshold price at which the elasticity of the secondary price with
respect to the debt was (in absolute value) smaller than unity (0.31 cents to the
dollar in African case), it was possible to compare the actual (though ‘fictitious’)
price quotations of each sub-Saharan debtor with the threshold price to arrive at
the number of countries on the ‘wrong’ side of the debt La.er curve. The study
showed that in 1988 and 1992, about a third of sub-Saharan African countries
had debt burdens that, had they been commercially quoted, would have invited
pareto-improving debt reductions. Cohen then proceeded to calculate the debt to
export ratio that would have brought the secondary market price up to, say, 0.75
cents to the dollar, and the average debt to export ratio for the African coun-
Cohen uses the debt to GDP ratio as sustainability indicator, but this does not alter the
tries arrived at was 211 percent, suggesting that a sustainability target within the
200-250 percent range would be largely correct.
However, apart from the question of whether a 25 percent discount on African
debt could be considered to re.ect a wholly sustainable debt situation, the Co-
hen analysis remains problematic because its implicitly suggests that the average
switching value of 211 percent for the debt to export ratio can be used as a uni-
versal threshold applicable to all countries. Yet, examining the Cohen data on
the (implied) sustainable debt to export ratios of individual sub-Saharan African
countries reveal very large variations indeed (Table 3).
Table 3: Sustainability of African Debt.
(Based on estimated secondary market prices for 1988 and 1992)
Sustainable debt to export (D/X) ratios for African countries (at 25% discount)
100-200% 200-300%
above 300% above 400%
ote d’Ivoire Benin
Burkina Faso
Cameroon Ghana
Zimbabwe Mauritius
Madagascar C.A.R.
Guinea Bissau
Mauritania African average
Sierra Leone
Source: Cohen (1996).
Only a few of the 28 African countries examined conform to the notion of switching
values in the range of 200-300 percent. Most of the countries could only become
sustainable (defined by a 0.25 cents discount to the dollar) at below 200 percent
debt to export ratios, and eight of these would have to get their debt to export
ratios down below 100 percent. On the other hand, the data also shows that
a number of countries could achieve sustainability at high values of the debt to
export ratios. This finding, and those of the Underwood study, suggests that the
di.erential treatment of debtor countries in the HIPC context within the 200-250
percent boundaries is not likely to adequately deal with the sustainability problem
of quite a number of countries. Rather, adopting country-specific switching values
as a analytical point of departure seems to be a more promising avenue of debt
relief assessment.
5.2. The ‘Fiscal Window’
The 280 Percent Threshold. As regards the fiscal dimension of the HIPC debt
problem, the present procedure appears to be inadequate. Many have argued
that the threshold of 280 percent is much to high. This may very well be so,
but it may in fact also have been set too low for some countries. We don’t
really know, since the 280 percent-target appears not to have been generated from
economic analysis of the problem at hand.
Despite the methodological .aws of
the export related sustainability targets, they were at least based on analysing the
relationship between debt indicators and debt servicing performance and, while
imperfect, can be interpreted as switching values. The fiscal target cannot be
interpreted as such; it does not tell us whether values below the target signifies
countries that can be expected to avoid budget-related debt servicing problems
in the future. For the fiscal target to be perceived (and employed) as a switching
value, its value would have had to be determined in the same manner in which
the aggregate debt sustainability targets were determined.
There is a further way to examine the consistency of the 280 target under the
condition of a 20 percent tax rate. If these two ratios are combined we arrive at
an approximate debt to GDP ratio of 56 percent (line 1 in Table 4), which is, as
correctly pointed out by Eurodad (1998) near equivalent to the EMU convergence
criteria of 60 percent.
In passing, this value di.ers by a wide margin from the
sustainable level of 80 percent adopted earlier. In table 4, for sake of experiment,
other combinations of the three indicators (the tax ratio (T/Y), the debt to
revenue ratio (D/GR) and the approximate implied debt to GDP ratio (D/Y )is
presented in percentage terms.
Line 2 holds the D/Y ratio constant (since the present fiscal window, by perceiving
the D/GR ratio of 280 percent as a ‘true’ switching value, implicitly ‘sees’ this
value as a sustainable one) and sets D/GR at the lower target of 200 percent
(currently discussed). The implied tax rate criteria (T/Y)thengoesupto28
percent. But assuming that it is inconceivable that the stipulated tax condition
will be increased to this implied level, a lowering of the D/GR target to 200
percent will no longer be consistent with a sustainable D/Y ratio of 56 percent.
This view is confirmed by a HIPC report (IMF and World Bank, 1997a), in which the sta.
in e.ect indicted the apparent politics of matter by dryly noting that is was ”not aware of any
firm analytical basis” for the 280 percent fiscal target.
In fact, this is not exeactly right since the first indicator involves taxes while the other
involves government revenue (tax and non-tax) and so is usually higher (though not necessarily
by a lot in HIPC countries). The implied debt to GDP ratio should thus be interpreted as an
Table 4: Consistency of the Fiscal Target.
(Combinations of fiscal targets, tax ratios, and app. debt to GDP ratios, in percent)
Line Tax Ratio Debt/Revenue Ratio
App. Debt/GDP Ratio
Rather, a 200 percent D/GR target with a 20 percent T/Y condition yields the
lower sustainable D/Y ratioof40percent(line3).
In a similar vein, if the D/Y ratio is again held constant and the stipulated tax
rate is lowered to 15 percent (as has also been discussed), the implied D/GR
target increases to 373 percent (line 4). Again, assuming that it is inconceivable
that the stipulated D/GR target will be increased to this implied level, a lowering
of the T/Y condition to 15 percent will no longer be consistent with a sustainable
D/Y ratio of 56 percent. Rather, a (maintained) 280 percent D/GR target with
a lowered 15 percent T/Y condition yields the lower sustainable D/Y ratio of 42
percent (line 5).
If both the D/GR target and the T/Y condition is lowered (to 200 and 15 per-
cent, respectively), the implied sustainable D/Y ratio is only 30 percent, that is,
considerably below the level currently seen through the fiscal window as sustain-
able. It appears that the combination of tax e.ort condition and a fiscal D/GR
target delinked from ‘true’ fiscal switching values introduces some confusion as to
the correct level of a sustainable debt to GDP, a consistency problem that would
have been clearly in evidence if the a HIPC target for this ratio had been set at
the outset. ratio. Since a sustainable debt to GDP ratio must also be defined by
its switching value, it has to be made clear whether that value is 80, 56, 42, 40 or
30 percent.
The Twin-Conditions. Equally unsatisfying is the attached twin conditions that
only very open economies with a very strong government tax e.ort are allowed to
benefit from the fiscal window. There are several reasons for this. First, the 20
percent minimum tax rate looks suspiciously like a form of double-conditionality,
since improved tax collection is (usually) already part of the attached policy re-
forms. The reason for asking for policy reforms before extending debt relief is
to ensure that the financial resources (whatever the amounts) freed up is put to
the best possible use. So what is important is that the debtor country is seen as
moving in the right direction in terms of the macro environment. Usually part
of such policy reforms are attempts to increase the tax collecting ability of the
government, as a basis for more sustainable fiscal policies. However, by (simul-
taneously) stipulating a minimum tax rate of 20 percent as a precondition for
additional debt relief, such relief hinges, not only on policy reform, but on the
results of such reforms.
Secondly, it is clear that not many HIPC countries are going to benefit from the
fiscal window, since their tax e.ort is often well below the 20 percent threshold
stipulated; indeed that is one of the reasons why they have a fiscal problem in the
first place. In the HIPC Decision Point Document for Uganda, the tax e.ort of a
sub-group of 24 HIPC countries was reported (IMF and World Bank, 1997b). The
data showed that only two countries had tax revenue to GDP ratios on the safe
side of the threshold, namely Guyana 31.6 percent) and Congo (24.8 percent), and
with Nicaragua just making it with 20.3 percent. Four countries (Cˆ
ote d’Ivoire,
Honduras, Mauritania and Zambia) had tax ratios relatively close to the threshold
(i.e. above 15 percent), while the remaining 17 countries had tax ratios below 15
percent, seven of them even below ten percent. So for many HIPC countries,
despite severe fiscal debt burdens, even the most determined reform e.orts in the
area of taxation is not likely to bring them additional debt relief at the completion
point on a account of the fiscal burden of debt.
This assertion follows from observing the wide di.erences between developing and
developed countries in terms of the constraints on taxation. As noted by Tanzi
and Blejer (1988), a number of tax constraining factors, be they political, struc-
tural, administrative or purely social, tend to be more in.exible and limiting in
developing than in developed countries. Consequently, experience shows that it
is very di.cult to substantially raise the level of taxation in the short or medium
term. Tanzi and Blejer reports from that experience that, unlike in industrial
countries, no developing country had (until then) been able to raise the tax ratio
by ten or twenty percentage points in a matter of one or two decades, or, for that
matter, by just several percentage points in a few years. But this is precisely what
is asked for in the HIPC context. Take the case of Niger, which has a severe fis-
cal debt burden (scheduled public sector debt service as a percent of government
revenue in 1995 was 76 percent and amounted to 36 percent of government expen-
ditures). If Niger were to be eligible for additional debt relief at the completion
point (scheduled for 1999) through the fiscal window, a rise in the tax rate of 13.4
percentage points would be required in a matter of just four years, an enterprise
likely to be out of reach for any developing country and many developed too.
Thirdly, there is the added complication that some HIPC countries, opting for
the fiscal window, will be tempted to increase government revenue through a
hasty rise in tax rates. This scenario may then contradict the tax advice usually
given to developing countries about the criticality of expanding the tax base as
the primary source of higher government revenue. This advice is based on the
experience that higher tax rates, even if their initial values are relatively low,
often act to discourage investment activity.
A case in point is Uganda, where the whole tax system was reformed in the early
1990s (inter alia by the establishment of the Uganda Revenue Authority (URA)
in 1991). Concern with the adverse implications for private investment when
tax rates increase when the tax base does not, prompted a World Bank country
report to assert that domestic revenue in Uganda could only increase in a gradual
manner (World Bank, 1995b). This suggest that broadening the tax base, which
is an undertaking with a long gestation period, is the appropriate way to increase
the revenue needed to sustain future fiscal policy. The short-term hunt for a 20
percent tax rate, in order to get to the fiscal window may (if the target rate
is reached before the completion point) provide some additional debt relief, but
this relief may come at the cost of a discouraged investment community. So the
final development outcome of this amendment to the HIPC scheme is unsure for
Fourthly, while it is widely recognized that the gap between external and fiscal sus-
tainability may be larger in export dependent debtor countries, it is not clear why
only very open countries (of which there are only a few in the HIPC group) should
be recognized as having a fiscally unsustainable debt, since this may certainly also
be in evidence in less export dependent countries (see also Underwood, 1990). As
argued by Esquivel et al. (1998), the application of the joint tax-openness criteria
tends to produce a undesired biassed treatment of HIPC countries. It does so by
penalizing those countries that are undertaking a substantial tax e.ort since the
implied target value of the debt to exports ratio (in NPV terms) tends to increase
as the tax rate increases, and by rewarding countries that are highly export de-
pendent since the implied target value of the debt to export ratio tends to fall as
the export to GDP ratio rises.
Esquivel et al. shows this by calculating the mathematically implied debt to export ratio
of various combinations of the export to GDP ratio and the tax to GDP ratio, under the
modification of a 280 percent sustainability threshold of the debt to revenue ratio (thus, the
implied debt to export ratio D/X is given by 2.8((T/Y )(X/ Y )), where T/Y is the tax ratio
and X/Y is the export ratio.
So only highly open countries with a moderate tax e.ort are going to benefit from
this amendment to the HIPC scheme, although it was intended (or so one would
like to think) to deal with the fiscal aspect of the debt of all HIPC countries. Even
if the tax criteria were to be lowered to 15 percent and the openness criteria to
30 percent, this would not change the fundamental .aw of the joint criteria, as
indicated in Table 5 (calculated in the same way as is done in Esquivel et al., but
focussing on below-present-criteria combinations of the tax and export ratios).
The best treatment would still be accorded to export dependent countries with
a moderate (just-above-criteria) tax e.ort, clearly contradicting the rationale for
the fiscal window. The numbers also show that the implied debt to export ratio
rises above the present lower bound of the 200-250 target range at export to
GDP ratios around 25-26 percent, below which a substantial number of HIPCs
are located.
Table 5: Debt to Export Ratios Implied by the Fiscal Target.
(D/X given by 2.8((T/Y )(X/ Y )))
X/Y =40 X/ Y =38 X/ Y =36 X/Y =34 X/ Y =32 X/ Y =30 X/Y =28 X/ Y =26
T/Y =20
140 147 156 165 175 187 200 215
T/Y =18
126 133 140 148 158 168 180 194
T/Y =16
112 118 124 132 140 149 160 172
T/Y =14
98 103 109 115 123 131 140 151
T/Y =12
99 105 112 120 129
T/Y =10
93 100 108
T/Y =8
T/Y =6
Note: Pro ceduce adopted from Esquivel et al. (1998).
By way of experiment, it would be interesting to see the implied sustainability
target for the debt to export ratio of HIPC countries under the assumption that
the 280 percent sustainability target for the debt to revenue ratio was indeed a
bona fide switching value, but without the tax-openness criteria attached. This is
done in Table 6 for 24 HIPC countries for which data is available. The calculations
show that the target debt to export ratio of most HIPCs (19 of the 24) would lie
below the lower bound of the present 200-250 percent range, in fact below 150
percent for 16 countries, and below 100 percent for five countries (Chad, Guyana,
Guinea, Madagascar and Mauritania). Three countries (Ethiopia, Uganda and
Burkina Faso) would arrive at ‘fiscally-corrected’ targets within present bound-
aries, while two countries (Sierra Leone and Bolivia) would arrive at targets above
present boundaries.
Table 6: Country Debt to Export Ratios Implied by the Fiscal Target, 1995.
(24 HIPCs ranked by size of D/X . Assuming no tax-openness conditions)
(D/X given by 2.8((T/Y )(X/ Y )))
Export Ratio Tax Ratio Debt/Export Ratio
Congo, Rep.
ote d’Ivoire
Burkina Faso
Sierra Leone
Sources: World Bank (1998) and IMF and World Bank (1997b).
To sum up, as presently applied, the fiscal window seems too narrowly and incon-
sistently defined and is unlikely to adequately deal with the fiscal dimension of
HICP debt. From the perspective of which countries gain most from this amend-
ment, it would be more accurate to describe it as a ‘openness window’ rather
than a ‘fiscal window’. Creditor politics, not economics, seems to have been the
principal leitmotif of this extension.
5.3. The Development Aspect
The sustainability targets adopted do not as yet contain su.cient information
about the growth and development implications of the pursuit for a sustainable
level of foreign debt. This remains a matter of judgement, pending country-studies
that deal specifically with the investment and growth scenarios of di.erent debt
and financing paths. And yet, the notion of a sustainable debt is widely recognized
as consisting of a restored debt servicing capacity (i.e. exit debt relief) as well as
an uncompromised development process. This perspective is outwardly shared by
the World Bank and the IMF.
For example, in a background paper prepared by the sta.s of the Fund and the
Bank, debt sustainability was perceived to be a situation were a country ”is ex-
pected to be able to meet its current and future external obligations in full, with-
out recourse to relief or rescheduling of debts or the accumulation of arrears, and
without unduly compromising economic growth” (IMF and World Bank, 1996).
But in practice, the overriding aim of using sustainability targets, as presently
applied, is the restoration of debt service capacity. Indeed that was root problem
from which these targets derived their analytical rationale. The analytical origins
of the sustainability targets therefore tend to limit their use for adequate growth
and development considerations, and it is di.cult to see how the growth process
of HIPC countries over the coming years can be systematically ‘protected’ in such
an ad hoc context.
These concerns are further strengthened by the assumption of only relatively
modest growth targets in the external financing projections underlying the debt
sustainability analyses of HIPC countries. In the case of Uganda, for example,
the HIPC Decision Point Document (IMF and World Bank, 1997b) assumed an
annual average real GDP growth rate of seven percent during 1996/97–1998/99
and five percent thereafter. Such growth rates are of course not as such ‘modest’
by the usual standards of low-income countries, but the low starting point of these
countries in terms of per capita GDP must be kept in mind. Given the growth
targets stipulated, the external debt and financing path of Uganda will thus only
be consistent (ceteris paribus) with rise in per capita GDP from US dollars 280
in 1995/96 to US dollars 480 in the year 2015/16.
The employment of ‘vulnerability factors’ as the only way to di.erentiate the
treatment of HIPC countries would be valid if the only aim was to improve debt
servicing performance (though, as argued, it may be doubted whether the tar-
get boundaries adopted can encompass the in.uence of all these factors in each
and every case). They include a number of risk factors which may upset pro-
jected trends in debt service and external financing, thus inhibiting the desired
improvement in debt service performance.
However, in terms of evaluating the
development dimension of future debt and financing paths, the vulnerability fac-
tors (as they are presently defined) fall short of facilitating adequate assessments.
Not included among the risk factors are variables that relate more directly to
economic performance, such as, for example, projections in the GDP growth rate
and public and private investment ratios.
This shortcoming is regrettable, since such variables would o.er an opportunity
to assess whether a country striving for a sustainable debt position must do so at
investment and growth levels below what is considered socially desirable. In case
investment and growth levels were to be included, and then were to be considered
too low, more ambitious target rates could then be adopted in the calculations
of future financing needs that are part of the debt sustainability analyses. This
would increase the gap between the sustainability target and the projected debt
path, since future borrowing will increase. This in turn would require, either that
the additional financing required is accommodated by donors, or that additional
debt relief is forthcoming from creditors. In either case, a partly sustainable debt
position would have been transformed into a wholly sustainable one, through the
intervention of a development oriented donor/creditor community.
6. Summing Up and Concluding
The foregoing leads to the conclusion that the sustainability targets presently
guiding HIPC debt relief assessments lacks a strong analytical basis. The par-
ticular nature of the underlying solvency theory made it necessary to adopt the
debt indicator approach in order to determine the switching values of various debt
burden indicators. This is what was done in the 1989-90 and subsequent editions
They include measures of export diversity and sensitivity to export shortfalls, the underlying
resource gap (i.e. the non-interest current account), the degree of aid dependence, the reserve
position, the fiscal burden of debt (now subject to its own target), and the track record of policy
reform (IMF and World Bank, 1996).
of the World Debt Tables/Global Development Finance, and this is how the HIPC
targets should be interpreted. But since the switching values are based on average
calculations, no account is taken of the fact that HIPC countries encounter debt
servicing problems for a wide variety of reasons and at very di.erent levels of
foreign debt.
Considering the diversity of debt problems and economic circumstances, it would
not be unjustified to expect that the ‘true’ switching value of the debt to export
or revenue ratios could di.er quite a lot from one country to another. However,
implicit in the debt capacity analysis underlying the HIPC initiative, is a common
switching value which is sought after. To some extent, of course, allowing a
range of switching values to signify sustainability (200-250 and 20-25 percent
for the debt and debt service ratios, respectively) is an attempt to remedy this
deficiency. Yet, in the absence of more solid evidence, it is doubtful whether the
‘true’ switching values of each and every HIPC country can be found within the
boundaries applied. The foregoing history of the analytical origins of these values
would seem to support this doubt. Instead the adoption of country-specific targets
is suggested as a possible way to tailor debt relief more accurately to country needs.
Since some di.erential treatment is already accepted (by looking at risk factors),
adopting country-specific switching values does not seem to be such a big step
analytically speaking, except that technical obstacles and creditor politics may
limit the immediate feasibility of such an amendment. But it shouldn’t.
Lastly, the implications for domestic economic performance of the pursuit for
a sustainable debt position remain a concern. It seems uncertain whether the
immense development needs of the countries involved can be adequately accom-
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