The world’s poorest countries are deeply ill. In the highly indebted poor countries (HIPCs) of the world, one in ten infants die at birth. For those who survive birth, life is an uphill battle. The unholy trinity of malaria, AIDS, and malnutrition conspire to deliver a life expectancy in the HIPCs of 51 years the average child born in Mozambique will be approaching his death bed as his counterpart in the United States enters middle age and the prime income earning years of his life. Nor do the HIPCs’ economies offer much hope of pulling its citizens out of grinding poverty anytime soon. Their average growth rate for the past 20 years has been negative things are getting worse, not better, for the indigent of the world.
Statistics such as these (see Table 1) are not easy to take. Civilized people find talk of death and destitution rather unpleasant. Something must be to blame, and the debt burden of the world’s poorest countries 169 billion dollars in 1999 is a highly visible target. There have always been those who think that the debts of the world’s poorest countries should be forgiven. But in 1996 debt relief advocates redoubled their efforts. Catalyzed by Bono, there is an increasingly popular view from NGOs to the Pope to Jesse Helms that the staggering level of debt is the primary obstacle to improved economic growth and living standards in the HIPCs.
Is debt relief a viable solution to worldwide poverty or a waste of time and money? The answer to this important question depends critically on another does debt relief promote economic efficiency by improving incentives for investment and growth? Debt relief promotes investment and growth in circumstances where debt overhang a term we later define more precisely exerts a drag on economic performance. When a country suffers from debt overhang, debt relief can improve economic efficiency and make everyone better off, creditors as well as debtors. Section 1 provides some prominent examples of countries whose economies suffered from excessive debt during the 1980s. The debt overhang of these countries was resolved by the debt relief plan engineered by former U.S. Treasury Secretary Nicholas Brady. Under the Brady Plan, the international commercial banks agreed to write down a substantial fraction of the debt owed to them by sixteen emerging economies (the Brady countries).
The major problem for the Brady countries was that they ran into temporary difficulty servicing their debt in August of 1982. A combination of adverse economic conditions and poor policy choices substantially increased the riskiness of the banks’ loan portfolios in these countries. Creditors got worried and rushed to collect on their loans all at once, but the creditors’ panic created an unmanageable short-term payment burden for the debtors. To make matters worse, new lending also ground to a standstill. With no new money coming in, scarce resources that would normally have funded investment were consumed by debt servicing. Growth came to an abrupt stop. Once some of the debt was relieved seven years later the path was clear for new funds to come from other sources. This provided the impetus the countries needed to stimulate investment and growth.
It is tempting to conclude that debt relief for the HIPCs would produce similar results, if only relief was forthcoming more quickly and in larger quantities. Unfortunately, the evidence does not support this conclusion. Debt relief is unlikely to stimulate investment and growth in the HIPCs and the reason is obvious: The HIPCs lack much of the basic infrastructure that forms the basis for profitable economic activity things like well-defined property rights, roads, schools, hospitals, and clean water. Since the principal problem of the highly indebted poor countries is a lack of infrastructure, there is no reason to believe that debt relief there will stimulate a sudden rush of foreign capital that leads to higher investment and growth.
Download
PDF Ebook The World’s Poorest Countries: Debt Relief or Aid?
