This paper studies sovereign debt relief in a long-term perspective. We quantify the relief achieved through default and restructuring in two distinct samples: 1920-1939, focusing on the defaults on official (government to government) debt in advanced economies after World War I; and 1978-2010, focusing on emerging market debt crises with private external creditors. Debt relief was substantial in both eras, averaging 21% of GDP in the 1930s and 16% of GDP in recent decades. We then analyze the aftermath of debt relief and conduct a difference-in-differences analysis around the synchronous war debt defaults of 1934 and the Baker and Brady initiatives of the 1980s/1990s. The economic landscape of debtor countries improves significantly after debt relief operations, but only if these involve debt write-offs. Softer forms of debt relief, such as maturity extensions and interest rate reductions, are not generally followed by higher economic growth or improved credit ratings.
Abstract Households in developing economies have greater access to formal credit today than at any point in history, owing to the global expansion of microfinance and recent innovations in consumer finance, such as digital lending. While this has improved the ability to smooth consumption and invest in productive activities, it has also raised concerns about over-indebtedness. Against this background, this article reviews and extends the literature on debt relief for households in developing countries. We begin by laying out a simple stylized model that illustrates the costs and benefits of debt relief and use the model to guide our review of the evidence on various relief policies, such as debt forbearance, debt forgiveness, and personal bankruptcy. We additionally present survey evidence from a population of microfinance and bank borrowers with recent exposure to debt relief. The results highlight that an important channel through which discretionary debt relief policies, which are common in developing countries, affect credit market outcomes is their impact on borrower expectations. The development of legal bankruptcy institutions that offer a rules-based avenue to discharge unsustainable debts can reduce such distortions and alleviate the credit market inefficiencies that have often accompanied debt relief initiatives in developing economies.
Kenya's external debt has continued to swell over the years, and despite the country meeting its debt commitment through regular servicing, this has been done at the expense of key social services such as health, education, water and sanitation. Although good health is a pre-requisite to socioeconomic development, public budget allocation to the health sector has been dwindling over the years in per capita terms. Furthermore, development of health infrastructure has not kept pace with the population growth rate. In particular, many health facilities lack the necessary equipment and medical supplies. Medical personnel, trained by the government at public expense, are leaving the public service in large numbers for better opportunities in the private sector and in other countries. The HIV/AIDS pandemic and other emerging diseases are taking toll on the country's population, as resources available to the health sector are not adequate for effective treatment and prevention of these diseases or for the mitigation of their consequences.
The Cologne Initiative (hereafter CI) re-opens the international official discussion about the HIPC (highly indebted poor country) debt crisis. Unfortunately, the CI leaves in place many of the serious flaws of the original HIPC initiative of 1996. To a first approximation, the current debt servicing "system" works as follows. Part of the debt service that is due is postponed, formally, or de facto as arrears. Of the substantial debt service that is actually paid, some gets covered through new loans and the rest through grants from bilateral donors. In the end, the HIPCs generally receive more than they pay, but the amounts of net resource transfers are small, less that US$10 per person in 1997. Even though the net resource transfers tend to be positive, the debt servicing system is fundamentally flawed. First and most urgently, the net resource transfers are not large enough to enable the HIPC governments to meet basic health and education needs of the population. Second, the bilateral grants do not neatly offset the heavy burden of debt servicing, even if they appear to do so in formal accounting. The debt burden falls heavily on the budget, and therefore on line ministries (such as the ministry of health) while grants frequently finance extra-budgetary activities established by the donors. Third, the process of offsetting heavy debt payments with grants and new loans is highly unstable and erratic. There is no guarantee that new grants will fill the fiscal void left behind by the heavy debt servicing; indeed sometimes there is a self-fulfilling collapse of fiscal resources. The instability, unpredictability, and time-consuming nature of these rollover mechanisms contribute to the incapacity of HIPC governments and the international community to formulate long-term solutions to the pressing social crises in the HIPC countries. While the new CI aims at more "ambitious" debt reduction targets than the 1996 HIPC Initiative, the basic problem remains that the new standards are as arbitrary as the old ones. Both initiatives focus mainly on the relationship of debt to exports, even though debt-to-export ratios have little if anything to do with the real ability of governments to meet urgent social needs while servicing debts. An effective process of HIPC debt relief should be grounded on the following principles: the unmet social needs of most HIPC countries require significant net resource inflows; to achieve these increased inflows, it will be necessary to cancel most or all old debts; to the extent possible, new inflows should be highly concessional; debt relief should be guided by a process that helps to insure that the increased resource transfers will be channeled into areas of urgent human need, especially in public health and primary education.
Since the introduction of the HIPC Initiative in the early 2000s, indebted LICs had to show a decent governance performance before their debts were forgiven. We discuss the hypothesis that during the follow-up, Multilateral Debt Relief Initiative (MDRI), the World Bank has refrained from this policy, and that debt relief decisions are rather politically driven. We test different political economy theories by applying panel models to a set of debtor and creditor countries, respectively. Our main finding shows, that improvements in governance quality led to higher levels of debt forgiveness in 2000-2004, but not in the subsequent periods.
