HOW CAN WE KEEP DEBTS SUSTAINABLE ? Matthew Martin Debt Relief International  World Bank DMF Conference Lusaka, 30 May 2016

BACKGROUND TO PRESENTATION PhD at UNZA, looking at how Zambia got into its previous debt crisis – access to expensive debt, copper price shocks and poor investments – result 20 years of catastrophic damage to Zambia’s development – must stop this from happening again ! Evidence paper to DFID on debt sustainability and potential reforms to LIC-DSF (available at www.development-finance.org) Research project on keeping debt sustainable by using it for productive expenditure (forthcoming) Based on views of Ministers and debt managers of countries for which DSF analysis is conducted (20 years of HIPC/Comsec/most recently OIF networks) And on experiences of building capacity including feedback from DMF missions + bilateral projects + regional partner institutions

DEBT POLICY AND SUSTAINABILITY

HOW TO JUDGE DEBT SUSTAINABILITY? LICs/LMICs have constantly stressed since 1995 that most important burden for them is service on total public debt, because it a) crowds out other development spending and b) is best early warning of arrears/need for restructuring Total public debt service/revenue has been rising rapidly in recent years – accelerated by recent commodity price fall Now averages 23% across all LIC/LMICs, and 19 countries have debt service exceeding 30% of revenue. If recent borrowing trends continue, averages will be close to 50% by 2030 - in practice would mean default and debt relief on a scale much greater than HIPC/MDRI AfDB looking into doing more detailed study of financing prospects and impact on debt sustainability, which could involve country debt managers closely

SERVICE/REVENUE AND BROADER RESULTS ARE VERY DIFFERENT DSF treats this as only one indicator of distress, and continues to focus on external debt rather than domestic Might be OK if correlation between countries with public debt service problem and “high risk” DSF countries, but isnt – as likely to be low risk as high risk And not even published/used as key indicator in MAC-DSF DSF CLASSIFICATION Service/Revenue Low Moderate High/DD >18-22% 13 14 12-18% 4 10 3 <12% 9 5

WHAT IS CAUSING NEW DEBT PROBLEMS ? Countries with high ratios mainly received no major debt relief, or got it post-2005 – not “irresponsible borrowing” following relief Also very markedly those which have accessed commercial bond markets, and/or graduated from LIC to LMIC and are therefore getting harder terms on their new official borrowing, including export credits from OECD and non-OECD governments, and seeing a dramatic fall in grants/aid loans And those which have been developing market-based domestic debt systems with high interest costs (on average 55% of debt service is domestic)

WHAT IS CAUSING NEW DEBT PROBLEMS ? Service/ Revenue Early HIPC Late/ Non-HIPC No Relief Market Access Non-Market Accessing >18-22% 7 13 20 25 15 12-18% 3 10 <12% 4 9 5

THE HIDDEN OR POTENTIAL CRISIS: CONTINGENT LIABILITIES Increasing number of countries undertaking PPPs and similar “off-budget” arrangements to fund infrastructure by guaranteeing financing for private implementing partners Not a cost-effective way to fund infrastructure – average returns required by equity partners are 20-30% a year over 10 years or more, private debt also more expensive OECD at Accra DMF meeting based on experience of its own members - “PPPs should not be seen as a financing solution, only as a mean to access private sector expertise” DSF should include actual costs eg foregone revenue to repay PPPs (reduce revenue forecasts accordingly in baseline scenario), & potential high risks (scenario of liabilities becoming explicit/public, based on probability analysis – in many countries, around 30% of PPPs go wrong in early year

SOLUTIONS – IN WAY DSF IS USED Include domestic debt more effectively and focus on total public debt Make debt service/revenue ratios the key indicators and focus on liquidity burden including high interest costs and ST principal-rollover risks of domestic debt, bullet repayments of bonds Analyse DS/revenue in MAC-DSFs (or MACs/LMICs should continue to use LIC-DSF analysis) Countries should be doing this even if BWIs arent - but most countries are NOT doing their own DSAs, just supplying data to IMF/WB to do it Welcome new focus in DMF II on DSF training, but need teams mandated in countries to conduct regular DSAs and test impact of any large project

SOLUTIONS – BEYOND THE DSF Measures to reduce the cost of funding: Full risk guarantees by MDBs for external bonds (for high-return investments) to mobilise funds at near-MDB interest rates, + systematic gradual > bullet repayments (Ghana+) More creative solutions in bond issuance – eg sukuks/diaspora bonds generally have considerably lower costs than others Much tougher negotiations with external commercial funders eg on PPPs to reduce revenue costs/potential contingent liabilities More scope for “managed” domestic debt markets a la Rwanda/UEMOA (interest rates = inflation +2-3%) rather than free for alls through auction (inflation + 10-15%) – and/or significant purchases by MDBs etc at lower rates to provide “competition” for oligarchical buyers

PRODUCTIVE EXPENDITURE

PRODUCTIVE EXPENDITURE STUDY Study looking at how to ensure debts stay sustainable by spending the money on the most “productive” projects (across all sectors – returns for growth often higher in “social” sectors) Vital because countries have already been complaining that the DSF and IMF debt limits are stopping them from spending enough to reach the MDGs and goals in national development plans. SDGs will require public spending to double even if much infrastructure is done by private sector Also because countries (and global attention led by G20) are increasingly turning to large “growth-promoting” projects – so that one bad project or financing decision can have a major impact on debt sustainability Examining two case studies in detail (Ghana/Rwanda) working with national debt managers, and survey of broader range of DFID programme countries (Africa/Asia)

PRODUCTIVE EXPENDITURE: FINDINGS Analysis of “micro returns” on projects has improved in many countries, as part of broader PFM reforms, but often way too optimistic especially on infrastructure, even when assisted by donors/MDBs Far too little analysis of broader “ macro” impact even on growth, let alone on “inclusive growth” ie poverty/inequality-reducing growth Project implementation delays and cost overruns dramatically reduce net returns on projects, as do underestimated maintenance/recurrent costs Not enough transparency or accountability to parliaments/citizens, or up front detailed discussion of projects before take decisions

PRODUCTIVE EXPENDITURE: FINDINGS Countries keeping debts more sustainable are conducting all these assessments, accelerating project implementation, pre-budgeting maintenance costs, and being more transparent/accountable They are also systematically “matching” returns on projects to cost of funds to make “net” returns are as high as possible, and NOT borrowing if cannot find funds whose cost are justified by the project returns and broader macro impact Several countries are keeping their debt distress risk “low” to be able to benefit from larger AfDB hard window funding for high-return projects – example of positive incentive On the other hand, worst practice in many countries has been borrowing expensive external or domestic debt with no idea of what it will be spent on – to fill budget deficits or win elections Often countries have no choice but to borrow – when hit by exogenous shocks (economic or natural disasters)

PE: RECOMMENDATIONS Need much more emphasis on improving all stages of public investment cycle, from planning/prioritising through project design, funding, implementation, evaluation/audit and accountability Especially assess broader macroeconomic/SDG impact, match funds to this, and be more transparent/accountable to citizens and parliament Integrate analysis of growth/poverty/inequality impact of key investment projects via IMF models with DSF and MTDS into one tool to provide comprehensive financing guidance Simulate scenarios of impact of funding the SDGs with different financing sources, to define long-term policy Reinforce capacity-building in these areas – much scope also for South-South learning

PE: RECOMMENDATIONS Cannot fund NDP/SDG-level commitments unless much more concessional funding is provided – need frank discussion of this at national/regional/global level Need dramatic improvement in speed/scale of availability of low-conditionality anti-shock finance – on grants/IDA terms shock finance for LMICs (UNHFP) – or many will have to borrow non-concessionally for general budget financing Even better is higher tax revenues, providing sustainable no-cost financing – countries should set targets to reduce share of spending funded by debt – slash tax exemptions, renegotiate tax regimes and treaties, tackle avoidance and evasion (including IFFs) by corporations and individuals – OECD and MDBs need to cooperate/show policy coherence by ending tax exemptions on high-return projects Should set an SDG target for no country to be at high risk For countries in distress, debt relief should be on the table