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Finance & Development
A quarterly magazine of the IMF
March 2003, Volume 40, Number 1

Letters to the Editor

Poverty debate

Reading the articles on poverty reduction in your June 2002 issue, I was surprised and concerned to learn that my country, Peru, had not yet prepared a poverty reduction strategy paper (PRSP). However, I welcomed the recommendation made in the article "Crafting Bolivia's PRSP: Five Points of View" (Ramiro Cavero Uriona, Juan Carlos Requena P., Juan Carlos N��ez, Rosalind Eyben, and Wayne Lewis), that Bolivia's national dialogue should include women and indigenous peoples.

Women, indigenous peoples, and young people are systematically excluded from the PRSP process; they are absent from public debates and national dialogues, particularly when budget reform and public policy priorities are on the agenda. These three key sectors of society were not officially represented at the signing, in July 2002, of the National Agreement on Governance by Peru's president and decision makers from the worlds of politics and civil society, although the agreement was a historic achievement strengthening our citizenry's commitment to Peru's restored democracy. Those of us who did manage to attend were able to include proposals on combating discrimination, promoting gender equity, and ensuring a more secure environment for young children. The key is to learn from these mistakes: there can be no progress based on discrimination and inequality. Democracy and good governance mean allowing a diversity of voices to be heard, thereby enabling ordinary citizens to become full participants in the dialogue.

The article "Odious Debt" (Michael Kremer and Seema Jayachandran) was thought provoking. It makes no sense for governments and multinationals to talk about growth, competitiveness, and poverty reduction while ignoring the issue of debt. The standard practice in Latin America has been to set money (part of the national treasury) aside for military spending and social welfare geared to electioneering or a populist agenda, while members of the governing elite and their families line their own pockets. In general, the resources in question have been (poorly) managed by regimes prone to authoritarianism, corruption, and cronyism. Why should the young mortgage their future and their current well-being to pay for decisions reached without the people's consent that have contributed nothing to national wealth? There is a need for mechanisms that facilitate ownership by the national citizenry as well as involvement by an outside agency that can keep track of fresh borrowing and where the funds end up.

There is a whole movement focused on debt reduction. Those of us who are involved are skeptical of research that disregards the macroeconomic context. That is because, in addition to the debt burden, our weakened economies have to cope with the protectionist policies of the developed world, not to mention cheap exports from China, harmful dumping practices, and other impediments to trade. Paradoxically, while some studies indicate poverty is decreasing, in our region we are witnessing mass impoverishment of the middle classes, and the trend is toward more evenly distributed poverty. The future is bleak, and the vicious circle of poverty, violence, and insecurity threatens to ensnare the younger generation.

Olenka Ochoa Berreteaga
Executive Member of the Latin American
Federation of Municipal Women
Councillor, Municipality of Lima
Director, Program on Urban Violence and
Citizen Security, Women and Families Institute (NGO)

IMF loans to autocratic regimes

In "Prolonged Use of IMF Loans" (December 2002), the IMF's Independent Evaluation Office (IEO) is correct in pointing out the negative repercussions of allowing frequent borrowing from the IMF. An additional unintended outcome is the implicit financial backing given to existing autocratic regimes, which may have otherwise lost support and been driven from power. Past rulers in the Philippines, Haiti, and Kenya, which all appear on the list of most prolonged users, turned to the IMF for financial support that the private capital markets would not provide. We do not know if the people of those countries would have been worse off if the IMF had not lent to the oligarchs who held power there, but at least the IMF would be free of any indirect responsibility for these regimes.

The article also mentions several recommendations in the IEO's report that could diminish the incentives for continued borrowing. An additional change mentioned in the report would be the imposition of an adjustable interest rate charge that would rise if a government continued to apply for IMF lending programs. As economists, we believe that people respond to incentives; there is no reason to believe that governments would not do so as well.

Joseph P. Joyce
Professor of Economics
Wellesley College

Measuring potential debt

Christina Daseking's article, "Debt: How much is too much?" (December 2002), highlights some important issues regarding the monitoring of debt in IMF member countries, including the tracking of contingent liabilities. I was surprised, however, to read that contingent claims "are exceedingly difficult to measure in practice." Indeed, the major international debt-rating agencies, as well as commercial risk–assessment firms and specialized political risk analysts, have been using a number of quantitative and qualitative country risk–assessment models for years.

Likewise, Hana Polackova Brixi of the World Bank and Ashoka Mody of the IMF have recently published highly relevant studies about the scoping and quantification of contingent government liabilities (Hana Polackova Brixi and Allen Schick (eds.), 2002, Government at Risk: Contingent Liabilities and Fiscal Risk (World Bank)). In addition, some academics focusing on corporate risk–assessment methodologies, including Edward Altman and Scott Nammacher, have developed default risk–assessment models that have been used for well over a decade to monitor the financial health of public enterprises and other beneficiaries of government guarantees.

The author should therefore recognize that, since the early 1990s, major progress has been made in better quantifying contingent claims on governments and in evaluating the likelihood of their actual exercise.

Lucien Peters, Expert-Advisor
EUROSTAT, European Commission
Advisor, Technical Assistance, IMF

Odious debt

Michael Kremer and Seema Jayachandran courageously address a politically sensitive issue in "Odious Debt" (June 2002). Clarification of what constitutes odious debt and consensus on a solution are needed. Borrowing money to buy weapons—including equipment to quell domestic "disturbances"—cannot automatically be considered odious. If France buys bulletproof vests or smoke bombs for possible use by the authorities during demonstrations, that is not, in itself, an odious contract. The French government is legitimate and the tools it uses to maintain order are part of the standard arsenal of the forces of law and order. Nor does borrowing without the people's consent in itself constitute odious debt. Government representatives are supposed to represent their constituents. The concept of "illegitimate authority" applies only to regimes established by force.

In determining whether a debt is odious, we need to ask the following questions: (1) Was it incurred to finance operations that proved to be of no benefit only after the funds were used for their stated purpose? (2) Was it incurred to fund operations that were not in the people's interest from the outset? (3) Was it incurred by a notoriously corrupt state that might have been expected to use the funds for purposes other than the stated ones? (4) Did a private bank make a loan to an overindebted country in the expectation that the latter would soon be receiving foreign aid and using the threat of the country's default as blackmail? Examples (2), (3), and (4) are odious.

A new regime can challenge the validity of a loan revealed to be odious if circumstances warranting "presumptions of fraudulent context" were widely known to exist when the loan was granted. However, we should avoid creating a new "moral" authority with the power to judge a regime's practices. In the age of the Internet, everyone is familiar with the findings of Amnesty International and Transparency International and can easily get information on countries' debt, commitment to democratic practices, and leaders' reputations. Ethical bankers have an obligation to inquire into how the borrowing country will actually use their loans and, following the World Bank's example, should release the funds only when their use has been shown to be "non-odious." Any loan granted under questionable circumstances and used for something other than the stated purpose as a result of a banker's presumed culpable negligence would be easy to challenge in most courts.

Since most loans are made on the basis of Roman or Anglo-Saxon law, which provides for challenging dishonest transactions, new regimes have grounds for challenging odious loans of types (2) and (3). As for type (4), why not apply laws that already exist for enterprises? Bankers granting loans during "suspect" periods (when an already heavily indebted country is in the midst of a disastrous economic situation that is likely to require intervention by the international monetary authorities) could find that their collateral is invalid in relation to other creditors or be held liable themselves or have a moratorium imposed on their claims. After a few "cold showers," bankers would stop making such loans.

Luc Queyrel
Procurement Consultant

Seema Jayachandran and Michael Kremer reply

We agree with many of Mr. Queyrel's points. Debt is odious if it was incurred both without the consent of the people and not for their benefit. One interpretation of "consent of the people" is that any government that came to power through democratic elections or at least without violating domestic law automatically has consent.

We also agree that Mr. Queyrel's case (1)—in which, after the fact, a loan turns out to have been unhelpful to the people in a country—would not constitute odious debt. We argue that determining in advance whether a loan is odious has the advantage of reducing biased judgments (for example, helping a poor country by falsely deeming its debt odious). If a government borrows with good intentions, the debt is not odious even if the spending proves unsuccessful.

We disagree with Mr. Queyrel on two points. First, we would not consider case (4)—in which an overindebted country borrows—odious debt. The case is analogous to odious debt in that advance assessments—in this case, about a country's ability to repay loans—could curtail questionable lending. However, there is an important distinction. If a legitimate government borrows to build schools and educate its people but expects to be unable to repay the loans, it endangers the interests of its creditors, not its people. Making it clear that a creditor lends at its own peril and should not expect a bailout from the international financial institutions could curtail lending to overindebted countries. There is no need to make the contract unenforceable. Second, while we agree that agencies like Transparency International disseminate valuable information about governments' democratic practices and other important matters, these agencies will not always agree. There is a need for a single voice. Note that a new institution need not be created; the United Nations Security Council could assess odiousness, for example.