In 2005, IMF and the World Bank introduced the joint World Bank–IMF Debt Sustainability Framework for Low-income Countries, in order to assist low-income countries17 in achieving debt sustainability with regard to new borrowing from concessional official loans (World Bank and IMF, 2014). The Framework has the following three key objectives: to guide the borrowing decisions of low-income countries in a way that matches their financing needs with their current and prospective repayment ability, taking into account each country’s circumstances;
provide guidance for lending and grant allocation decisions of creditors to ensure that resources are provided to low-income countries on terms that are consistent with both progress towards their development goals and long-term debt sustainability; and help detect potential crises early so that preventive action can be taken. The Framework is currently undergoing what may become a substantial revision (World Bank and IMF, 2015). Within the Framework, debt sustainability analyses are regularly conducted and consist of the following:
• An analysis of a country’s projected debt burden over the next 20 years and its vulnerability to external and policy shocks (baseline and shock scenarios are calculated);
• An assessment of the risk of debt distress in that time, based on indicative debt burden thresholds that depend on the quality of the country’s policies and institutions (table 5);
• Recommendations for a borrowing (and lending) strategy that limits the risk of debt distress.
The Framework analyses both external and public sector debt. Given that loans to low-income countries vary considerably in their interest rates and lengths of repayment, the Framework focuses on the net present value of debt obligations in order to ensure comparability over time and across countries, although the use of short-term and currency-specific discount rates may distort such comparability.
To assess debt sustainability, debt burden indicators are compared with indicative thresholds over a 20-year projection period. A debt burden indicator that exceeds its indicative threshold suggests a risk of experiencing some form of debt distress (table 3). The Framework classifies countries into one of three policy performance categories (weak, medium and strong) using the World Bank’s country policy and institutional assessment index18 and uses different indicative thresholds for debt burdens depending on the category (table 5).
Thresholds corresponding to strong policy performers according to the Framework are the highest, indicating that in countries with strong policies, debt accumulation poses less risk. Despite various improvements in debt sustainability frameworks and analyses since the 1990s, many still consider the Framework too mechanical and backward looking and excessively restrictive in not sufficiently differentiating between capital and recurrent public spending (UNCTAD, 2004). In many African countries, there remains a tension between accumulating external debt to finance national development strategies and the Sustainable Development Goals and maintaining external debt sustainability. For instance, to improve the current Framework, a limited increase in debt financing may need to be permitted for African countries to progress in achieving the Goals without creating a debt overhang.
Table 5. Debt burden thresholds in the World Bank–International Monetary Fund Debt Sustainability Framework
Policy performance Net present value of debt as percentage of Debt service as percentage of Exports Gross domestic product Revenue Exports Revenue
Weak 100 30 200 15 18
Medium 150 40 250 20 20
Strong 200 50 300 25 22
Source: World Bank and IMF, 2014.
There have been concerns among African low-income countries that the Framework may lock low-income countries into a scenario of low debt and low growth. In particular, there is an inherent tension in most low-income countries between debt financing for national development strategies to achieve the Sustainable Development Goals and maintaining debt sustainability. Concern with regard to a scenario of low debt and low growth has been heightened by the emerging consensus among the main donors in the mid-2000s that countries that have received debt relief under the Multilateral Debt Relief Initiative should not accumulate new debt in the near future, even if their debt levels are below the thresholds of the new framework. However, restrictions on concessional financing have been a key factor for many African low-income countries in increasing domestic borrowing and, as previously noted, some African low-income countries have also started borrowing from non-concessional international capital markets.
Figure 8 shows a comparison of the debt burden thresholds and actual debt burden values of the average heavily indebted poor country in Africa in 2000–2013 in order to present the level of restrictiveness of debt burden thresholds. As there is a wide range of debt levels within the group of heavily indebted poor countries, the averages are not optimal, although they still provide some information. Figures 8c and e present data on debt service indicators. In the period under consideration, it is apparent that none of the averages ever surpassed the debt thresholds, not even in countries with weak policy performances. In contrast, figures 8a, b and c show that the average net present value debt indicators were mainly below the thresholds in countries with medium and strong policy performances. Finally, as shown in figures 8d and e, none of the averages came close to the threshold for weak policy performances, according to the Framework. This may indicate that the thresholds became less binding in the early 2010s, that is, heavily indebted poor countries were able to borrow more as they were below the debt thresholds. The rising debt indicators and the fact that some countries have more recently been categorized as having high levels of debt indicate that many of these countries have borrowed more aggressively in recent years. However, debt difficulties are not only driven by excessive borrowing; changes in exchange rates and terms of trade, as well as exogenous shocks, can all lead to sudden increases in debt ratios.
There may be a need to revisit current debt sustainability frameworks in light of the growing development finance requirements of African countries and developing countries generally, especially since the adoption of the Sustainable Development Goals. Clearly, the dilemma is how to achieve the Goals while maintaining debt
Figure 8. Comparison of debt burden thresholds and actual debt averages of African HIPCs
300 (a) NPV debt to exports
0
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013
2004 2005 2006 2007 2008 2009 2010 2011 2012
(c) NPV debt to revenues
2003 2004 2005 2006 2007 2008 2009 2010 2011 2012
(d) Debt service to revenues
30 (e) Debt service to exports
Weak policy Medium policy
Strong policy Average of selected heavily indebted poor countries in Africa
Source: UNCTAD secretariat calculations, based on World Bank, 2016c.
Note: The average net present value covers 2000–2013, except for revenue indicators, which cover 2003–2012.
sustainability and whether this may be achieved. More than a decade ago, the relevant report of the Secretary-General proposed to redefine debt sustainability as the level of debt that would allow a country to achieve the Millennium Development Goals and reach 2015 without an increase in debt ratios (United Nations, 2005).
Today, with the adoption of the Sustainable Development Goals, there is a similar need to outline the Debt Sustainability Framework in a manner consistent with the Goals. There is also a need to clarify the purpose of the Framework in connection with the Goals (for example by including scenarios related to the Goals, based on funding for the Goals and the likely sources of finance). Some options for improving the current Framework to allow a limited increase in the debt financing of countries in order to allow for African countries to make progress in achieving the Goals without creating a debt overhang include the following:
• Make adjustments for investments related to the Goals: A revised Framework should have improved systems for monitoring the uses of debt, ensuring that countries are borrowing to finance productive investments rather than for consumption and in order to achieve the Goals;
• Place greater emphasis on payment caps on debt service: Refocusing debt sustainability for low-income countries on public debt service payments to government revenues and implementing payment caps on debt service payments for low-income countries, with a proportional reduction in debt service payments to all creditors, including commercial creditors, would be a significant improvement. Such debt service limits would have to be part of binding collective action clauses.19 Given uncertainty regarding whether a debt problem reflects a temporary illiquidity or a more permanent debt overhang, debt service caps may be implemented on a temporary basis without reducing total debt stocks. If it becomes clear that a country faces a longer term debt overhang, a debt stock reduction would have to be implemented.
There is a case for reforming the current Framework for low-income countries, especially in the context of financing the Sustainable Development Goals and implementing national and regional development strategies in Africa. Aside from the problems and limitations previously mentioned, there are other more fundamental challenges concerning the country policy and institutional assessment index (Gunter, forthcoming) and the underlying modelling logic of the Framework (Guzman and Heymann, 2015). The Framework may be improved by addressing the following aspects:
• There is a need to strengthen the assessment of total public debt. At present there is no formal rating for total public debt, only external public debt, which is a particular challenge given the heterogeneity of low-income countries in Africa and the rising importance of domestic debt (chapter 3). There is also a need to better capture the risks of market access such as rollover risks, which are only partially reflected in debt service indicators, and the risks associated with public debt;
• There is a need for the Framework to better reflect risks from contingent liabilities (Guzman and Heymann, 2015).20 The main challenge relates to the lack of available data and reliability, as well as limited experience with risks related to public–private partnerships (chapter 4). The Framework also needs to better capture risks from natural disasters, as low-income countries are often the most vulnerable to such disasters;
• There may be a need to recalibrate existing Framework models for macroeconomic projections of growth and debt dynamics in low-income countries that may systematically overestimate their capacities to repay debt (Guzman and Heymann, 2015). External debt thresholds centred on the country policy and institutional assessment index have been criticized for attempting to measure too many variables unrelated to a country’s ability to repay debt (Ferrarini, 2008). There is also a lack of country-specific data in deriving thresholds, given that slight differences in country policy and institutional assessment index scores may lead to major threshold differences (Gunter, forthcoming).