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---

### Executive Summary
- Purpose: Examine experience with the policy on debt limits in Fund-supported programs across the membership and propose possible reforms to strengthen the policy.
- Historical context:
  - Debt limits policy in place since the 1960s.
  - Concessional flows excluded from debt limits from the policy’s inception.
  - 2009 reform primarily focused on LICs; left policy for rest of membership broadly unchanged.
  - This paper is the first stage of a review; a second paper with specific proposals will follow if Directors agree with the proposed approach.
- Key Fund instruments and frameworks referenced: PRGT, GRA, DSF.

### Findings on policy implementation and effects
- Bifurcated approach:
  - One branch focuses on members to whom concessional financing is normally available (practically LICs).
  - The other branch focuses on members to whom concessional financing is not normally available (non-LICs).
- Role of debt limits by program type:
  - GRA-supported programs: debt accumulation typically controlled through a performance criterion on the fiscal balance; debt limits (if any) used to broaden coverage of the fiscal target.
  - PRGT-supported programs: debt limits are quasi-universal and systematically take capacity into consideration; they mainly aim to control composition (concessional/non-concessional breakdown) of external public debt, with overall debt generally left unconstrained.
- Weak application of capacity assessment:
  - Policy provides that capacity should play a role, but there is only a weak relationship between capacity and the existence of a debt limit in GRA programs.
- Implementation outcomes of 2009 reform:
  - Reform broadly met goals of providing LICs enhanced flexibility to tap non-concessional resources within a specified framework.
  - Reform has proven complex to implement and in some cases distorted investment and financing decisions.
  - Available evidence does not provide strong support for excluding concessional borrowing from debt limits.
  - Historical observation: debt accumulation in LICs in the run-up to the HIPC Initiative was largely driven by accumulation of concessional debt; in countries that reached HIPC completion point several years ago, concessional borrowing has been the main driver of recent debt accumulation.

### Recent debt trends (summarized evidence)
- Risk of debt distress (LIC DSAs):
  - External risk of debt distress in LICs improved or remained stable in 90 percent of LICs since 2009.
  - For HIPCs: about 30 percent experienced an improvement in their risk rating; rating remained unchanged in another 65 percent.
  - Among five LICs with worsened ratings since 2009, three went from “moderate” to “high” (Chad, Maldives, and St. Lucia), and two from “low” to “moderate” (Mali and Samoa). In one case (Chad) the downgrade was driven by large concessional borrowing.
- External debt ratios:
  - External debt-to-GDP ratios have remained broadly stable since 2008 but have increased in some countries.
  - Median external debt is much lower today than a decade ago due mainly to HIPC and Multilateral Debt Relief initiatives.
  - Median debt-to-GDP ratio rose by about 5 percentage points in both non-HIPCs and “early HIPCs” between 2007 and 2011.
- Program vs non-program LICs (2007–11):
  - Average external debt-to-GDP ratio across all program LICs has fallen by 23 percentage points since 2007, dominated by countries that recently reached HIPC completion point and benefited from large debt write-offs.
  - Excluding those HIPC countries, average external debt ratio has increased by 2.3 percentage points in program LICs, while decreasing by 1 percentage point in non-program LICs.
- Drivers in five early HIPCs with fastest debt accumulation:
  - Concessional debt was the main driver of recent increases in debt ratios.
  - Non-concessional borrowing has also been increasing, though pace of disbursements has been slow.
  - Trends do not support substitution of non-concessional borrowing for concessional borrowing; debt ratios likely to increase further as disbursements pick up.

### Implementation details and compliance (LICs and GRA programs)
- LIC program design and coverage (2007–12):
  - All Fund-supported programs in LICs approved during 2007–12 included a limit on external public debt; in all but one case, the limit included a concessionality requirement.
  - No program included a limit on total public debt.
  - Concessional borrowing was unconstrained in 80 percent of LIC programs.
  - Concessionality requirements typically set a floor on the grant element of a loan, with the floor usually set at 35 percent.
  - Concessional borrowing was capped in only 20 percent of LIC programs.
  - Domestic borrowing was constrained in almost all LIC programs.
  - In about half of the programs, debt limits had broader coverage than fiscal performance criteria.
- Room for non-concessional borrowing in LIC programs:
  - During 2007–09, about 30 percent of programs provided pre-defined room for non-concessional borrowing.
  - Since the 2009 reform, this share rose by 11 percentage points.
  - As of end-December 2012: 13 out of the 32 program countries were allowed some room for non-concessional borrowing; another 12 countries were eligible for non-concessional borrowing under the new framework but faced a zero ceiling in the program.
- Compliance, modifications, and waivers:
  - Out of the 31 modifications of the debt limits requested since 2008, about 90 percent took place between 2010 and 2012.
  - Five programs (Ghana, Kyrgyz Republic, Mozambique, Tanzania, and Uganda) account for three quarters of the requests.
  - The vast majority of requests aimed to increase the non-concessional debt limit to allow additional borrowing.
  - All requests for higher debt limits were granted either in recognition of available borrowing space or to accommodate critical investment.
  - Debt-related conditionality in GRA programs was met in more than 95 percent of cases; modifications were rarely sought.

### Implementation issues cited (operational problems and distortions)
- Discount rate decline and concessionality:
  - Decline in the discount rate reduced the assessed grant element of the average loan offered by official creditors by roughly 20 percentage points since 1999 (using the Fund’s current methodology).
  - Using a fixed discount rate of 10 percent would lead to a decline in the grant element of only 6 percentage points.
  - World Bank Global Development Finance data (since 1999) show the average loan extended by official creditors had a maturity of 26 years, with a 7-year grace period and an interest rate of 1.4 percent (with little variance).
- Discontinuities by maturity:
  - Concessionality of loans with maturity <15 years assessed using six-month average CIRRs; loans with maturity ≥15 years assessed using ten-year average CIRRs, producing discontinuities and arbitrary outcomes.
- Binary concessionality assessment effects:
  - Loans originally assessed as concessional could become non-concessional because of intervening declines in the discount rate, triggering additional scrutiny and requests for modifications/waivers despite unchanged economic characteristics.
  - Incentives created to turn to alternative, more costly financing (example: bias toward domestic and regional financing in WAEMU countries).
  - Potential bias in project selection where bids combine financing terms with project cost.
  - Low take-up of average-assessment option: only one of six eligible countries used it.
- Project-level scrutiny and capacity assessment:
  - Project-level scrutiny for concessionality is typically outside Fund expertise and difficult to implement.
  - Capacity-assessment process is complex, difficult to explain to authorities, and not typically used to design measures to enhance debt management capacity.
  - Two layers of capacity assessment (debt limits policy and DSF) may amount to double-counting.
- Operational examples where discount-rate changes affected projects:
  - Guinea (2012): Islamic Development Bank loan abandoned after discount rate changed before signature.
  - Mozambique (2012): Two loans used NCB ceiling; modification requested subsequently to accommodate other projects.
  - Senegal (2011): Islamic Development Bank loan for floating power station abandoned as grant element fell below threshold.
  - Sierra Leone (2011–2012): NCB ceiling breached; waivers requested and obtained in consecutive reviews.
  - Tanzania (2012): Loan from China Exim-Bank and other loans breached NCB ceiling; waivers obtained in two consecutive reviews.
  - Togo (2012): Road project loan turned non-concessional after discount rate fell; project abandoned.

### Discount rate methodology and implications (Box 1)
- Two main Fund purposes of discount rates: (i) assess concessionality of a loan (grant element calculator); and (ii) calculate present value of debt in the LIC DSF.
- Grant element calculator:
  - Uses currency-specific CIRRs and different averaging periods by maturity: six-month average CIRR for loans with maturity <15 years; ten-year average CIRR for loans with maturity ≥15 years.
  - Margins reflecting maturity are added, leading to higher discount rates in the grant element calculator.
- LIC DSF:
  - Uses a single rate based on the U.S. dollar CIRR, adjusted only when the six-month average US$ CIRR deviates from the prevailing discount rate by at least 100 basis points for six consecutive months.
  - The LIC DSA uses a fixed discount rate corresponding to the US$ CIRR, currently 3.0 percent (effective as of September 2012).
- These methodological differences have produced substantial and growing differences in discount rates used for Fund purposes and in assessments of concessionality across Fund tools.

### Survey of LIC authorities (Box 2) — views and key statistics
- Survey conducted March 2012; response rate for the 34 countries surveyed was close to 80 percent.
- Perceived benefits:
  - Over 80 percent of respondents felt the policy helped preserve debt sustainability.
  - About 70 percent felt the policy was useful in securing better financing terms.
  - Authorities reported the policy provided a simple and coherent framework for contracting external debt and motivated efforts to raise concessional funding.
- Implementation issues cited:
  - Lengthy delays to consult Fund staff or request Board approval for projects financed with non-concessional resources and for augmenting NCB limits.
  - Difficulties meeting project assessment requirement.
  - Difficulties assessing concessionality of Islamic loans and financing packages.
  - Difficulty controlling borrowing of state-owned enterprises and local governments.
- Reported consequences and behavior:
  - About one fourth of countries surveyed reported that the current policy caused critical and highly profitable projects to be dropped.
  - Two thirds of countries with access to non-concessional borrowing had not fully utilized the available space at the time of the survey.
- Preferences for reform:
  - More than 90 percent favored moving away from the current loan-by-loan approach to concessionality requirements.
  - About 80 percent considered that relaxing the 35 percent grant-element threshold for concessional borrowing would help secure additional external financing.
  - A majority agreed that debt vulnerabilities and macroeconomic and financial management capacities were relevant factors to take into account in designing debt limits; almost half felt the need to further tailor the policy to country situations.

### Analytical tools and scenario assessment (Box 3)
- New dynamic LIC-specific open-economy multi-sectoral model developed by Buffie et al. links public capital to productive sectors, financing strategies (external concessional, external commercial, and domestic), and fiscal rules.
- Key simulation findings:
  - An increase in infrastructure investment can produce large long-run benefits, but results depend on structural conditions such as the return to public capital and revenue-collection capacity.
  - Public investment inefficiencies and absorptive capacity constraints can limit gains to private capital and GDP.
  - Increase in fiscal revenue needed to maintain sustainability during the investment period can be large, especially when concessional borrowing does not fully cover costs.
  - Non-concessional borrowing can ease the transition but raises fiscal risks if combined with large front-loaded investment programs and weak structural conditions.
- Applications: model applied to Togo, Burkina Faso, and Côte d’Ivoire; work underway for seven more countries (Afghanistan, Cape Verde, Ethiopia, Ghana, Liberia, Rwanda, and Senegal).

### Selected country-level facts and figures cited
- Discount rate: originally set at 5 percent (rounded US$ CIRR level at the time).
- Ethiopia:
  - Debt relief under HIPC and MDRI lowered Ethiopia’s public external debt stock by about US$6 billion (about 40 percent of GDP) to 11 percent of GDP in 2007.
  - PPG external debt-to-GDP reached 21.9 percent of GDP in 2011.
  - Concessional debt accounted for about 70 percent of Ethiopia’s PPG debt in 2011.
  - Share of non-concessional debt in total PPG debt increased from 10 percent in 2008 to almost 30 percent in 2011.
- Niger:
  - PPG external debt fell from over 90 percent of GDP at end-2000 to about 15 percent of GDP at end-2007.
  - PPG external debt-to-GDP reached 26 percent of GDP in 2011.
- Senegal:
  - PPG external debt increased by US$2.3 billion (equivalent to 16 percent of 2011 GDP) between end-2007 and end-2011.
  - Composition of the increase: 65 percent multilateral, 9 percent official bilateral, 26 percent commercial creditors.
  - PSI non-concessional borrowing ceiling: US$500 million (equivalent to 4.1 percent of GDP) over 2011–13; so far US$300 million contracted; remaining ceiling US$200 million.
  - Separate ceiling equivalent to CFAF 44 billion in 2011–13 for untied non-concessional external debt financing with a grant element of at least 15 percent.
  - Public investment rose from 5½ percent of GDP to nearly 11 percent in 2011 since 2000.
- Tanzania:
  - HIPC completion point: November 2001; MDRI assistance: January 2006.
  - PPG external debt ratio fell from 54 percent of GDP at end-2003 to 19 percent at end-2007.
  - External PPG debt increased by about US$4 billion (equivalent to 12 percent of 2011 GDP) over the past four years to end-2011.
  - PSI non-concessional borrowing ceiling: cumulative $2.7 billion (equivalent to 11 percent of GDP); about $2.1 billion contracted, $505 million disbursed as of end-June 2012.
- Uganda:
  - HIPC completion point: 2000; MDRI assistance: January 2006.
  - PPG external debt declined from 70 percent of GDP in 2003 to 10 percent at end-2007.
  - PPG external debt edged up by about US$2 billion (about 11 percent of 2011 GDP) as of end-2011.
  - PSI non-concessional borrowing ceiling: cumulative US$1 billion (equivalent to 5.7 percent of GDP); about US$455 million contracted so far.

### Proposed reforms (staff recommendations)
- Core proposal:
  - Abolish the binary distinction between concessional and non-concessional borrowing; establish a unified debt limits framework for all countries.
- Design features:
  - Debt limits, when needed, would be set in nominal terms based on the volume of contracted or guaranteed debt, rather than on the terms of financing.
  - Where appropriate, the nominal debt limit would be complemented by an indicative target on the average concessionality of new financing to preserve incentives for concessional terms.
  - Individual projects would no longer be subject to Fund staff scrutiny; Fund teams would focus on institutional framework for public expenditure management and macroeconomic impact of investment.
  - Breaching the indicative concessionality target would lead (via the DSA) to a reassessment of the nominal debt target at program review.
  - Capacity dimension would be delinked from the debt limits policy and addressed directly in the structural component of the country’s program.
- Operational specifics for LICs:
  - Minimum concessionality requirement would no longer be applied to each individual loan; concessionality would be assessed on an average basis.
  - Countries would no longer be subject to a fixed nominal ceiling on non-concessional borrowing; flexibility to contract smaller amounts of “less concessional” debt or larger amounts of “more concessional” debt consistent with average concessionality target.
  - Concessionality target expected to vary over time depending on financing profile.
  - Debt limits expected to be set on a contracting, rather than a disbursement, basis.
- Implications for GRA programs:
  - No changes to design of debt limits in GRA programs proposed.
  - Formal delinking of the capacity dimension from the debt limits policy.
  - Guidance on circumstances under which GRA programs would be expected to include a debt limit.

### Reforming the discount rate
- Proposal:
  - Establish a single discount rate across all Fund tools and policies to ensure closer integration of the DSF and the debt limits policy.
  - Staff favors resetting the discount rate to a long-run average, bringing it back close to its value when the LIC DSF was originally designed, and fixing it there until the next review of the LIC DSF.
- Rationale:
  - Unifying discount rate intended to eliminate distortions from multiple rates and allow greater stability and predictability in concessionality calculations.
  - Modifications to the DSF discount rate require approval of both Fund and World Bank Boards; intention is to put forward a specific proposal in a joint paper by the two staffs.

### Projected benefits and safeguards
- Benefits:
  - Unified framework would make volume of contracted or guaranteed debt the primary focus and remove problematic aspects of current policy.
  - Would mitigate investment and financing distortions and provide LICs increased flexibility to manage borrowing within an envelope consistent with debt sustainability.
  - Would strengthen links to debt sustainability while preserving incentives for concessional financing via an indicative average concessionality target.
  - Discount rate reform would streamline implementation and increase predictability.
- Safeguards and mitigation:
  - Financing assumptions should be explicitly discussed in program documents, anchored by the average concessionality target.
  - Where individual high-cost loans pose significant program risk, authorities could commit in the letter of intent and MEFP not to contract loans below a given concessionality level.
  - Staff notes many lenders’ financing terms are determined by their own policies; available concessional financing is usually known in advance and integrated in program financing projections.
  - In cases where debt levels are already high, restricting concessional borrowing may be warranted to maintain sustainability.

### Next steps, outreach, and implementation plan
- Outreach:
  - Staff proposes outreach with country authorities, lenders, and other development stakeholders for buy-in before returning to the Board with a final reform proposal.
  - Continued close collaboration with the World Bank intended to reach agreement on discount rate reform in the DSF.
- Two-stage review process:
  - This paper will be followed by a second paper based on Executive Directors’ feedback and consultations with stakeholders.
  - Follow-up paper will put forward specific policy proposals and be followed by a guidance note to facilitate implementation.
  - Staff plans to develop tools to calculate and monitor average concessionality.

### Issues for discussion (posed in the document)
- Do Directors agree that the Fund’s policy on external debt limits should be reformed to establish a unified debt limits framework making the volume of contracted or guaranteed debt the primary focus in all countries?
- Do Directors agree that the reform proposal in paragraphs 27-35 would tighten the link between debt vulnerabilities and debt limits, while limiting investment distortions and reducing uneven outcomes?
- Do Directors agree that the reform proposal contains sufficient incentives to ensure that LICs receive favorable terms on their official financing?
- Do Directors agree that, to ensure full effectiveness, the reform should be coupled with a reform of the discount rate putting in place a single discount rate for Fund purposes?

*Source: POLICY ON DEBT LIMITS IN FUND-SUPPORTED PROGRAMS — International Monetary Fund (excerpts).*

### EXECUTIVE SUMMARY

### EXECUTIVE SUMMARY

### Review scope and background
- Purpose: Examine experience with the policy on debt limits in Fund-supported programs across the membership and propose possible reforms to strengthen the policy.
- Historical context:
  - Debt limits policy in place since the 1960s.
  - Concessional flows have been excluded from debt limits from the policy’s inception, on the presumption they were critical for LICs and posed only limited risks to debt sustainability.
  - 2009 reform: adapted policy to changing circumstances in low-income countries (LICs); primarily focused on LICs and left the policy for the rest of membership broadly unchanged.
  - The paper represents the first stage of a review; if Directors agree with the proposed approach, a second paper with specific proposals will follow.
- Key Fund instruments and frameworks referenced: PRGT, GRA, DSF.

### Findings on policy implementation and effects
- Bifurcation of the policy:
  - One branch focuses on members to whom concessional financing is normally available (practically LICs).
  - The other branch focuses on members to whom concessional financing is not normally available (non-LICs).
- Role of debt limits in programs:
  - GRA-supported programs: debt accumulation typically controlled through a performance criterion on the fiscal balance; debt limits (if any) used to broaden the coverage of the fiscal target.
  - PRGT-supported programs: debt limits are quasi-universal and systematically take capacity into consideration; they mainly aim to control composition (concessional/non-concessional breakdown) of external public debt, with overall debt generally left unconstrained.
- Weakness in applying capacity assessment:
  - Although policy provides that capacity should play a role in the design of debt limits, there is only a weak relationship between capacity and the existence of a debt limit in GRA programs.
- Implementation outcomes of 2009 reform:
  - The 2009 reform broadly met goals of providing LICs enhanced flexibility to tap non-concessional resources within a specified framework.
  - However, it has proven complex to implement and in some cases distorted investment and financing decisions.
  - Available evidence does not provide strong support for excluding concessional borrowing from debt limits—a core aspect left untouched by the 2009 reform.
  - Historical observation: debt accumulation in LICs in the run-up to the HIPC Initiative was largely driven by accumulation of concessional debt; in countries that reached HIPC completion point several years ago, concessional borrowing has been the main driver of recent debt accumulation.

### Recent debt trends (summarized evidence)
- Risk of debt distress (LIC DSAs):
  - The external risk of debt distress in LICs improved or remained stable in 90 percent of LICs since 2009.
  - For HIPCs: about 30 percent experienced an improvement in their risk rating; rating remained unchanged in another 65 percent.
  - Among five LICs with worsened ratings since 2009, three went from “moderate” to “high” (Chad, Maldives, and St. Lucia), and two from “low” to “moderate” (Mali and Samoa). In one case (Chad) the downgrade was driven by large concessional borrowing.
- External debt ratios:
  - External debt-to-GDP ratios have remained broadly stable since 2008 but have increased in some countries.
  - Median external debt is much lower today than a decade ago due mainly to HIPC and Multilateral Debt Relief initiatives.
  - Median debt-to-GDP ratio rose by about 5 percentage points in both non-HIPCs and “early HIPCs” (HIPCs that reached completion point before 2007) between 2007 and 2011.
- Program vs non-program LICs (2007–11):
  - The average external debt-to-GDP ratio across all program LICs has fallen by 23 percentage points since 2007, dominated by countries that recently reached the HIPC completion point and benefited from large debt write-offs.
  - Excluding those HIPC countries, the average external debt ratio has increased by 2.3 percentage points in program LICs, while decreasing by 1 percentage point in non-program LICs.
  - Interpretation: increase in program LICs largely reflects higher debt accumulation in the wake of debt relief and has generally been accommodated in Fund-supported programs.
- Drivers in five early HIPCs with fastest debt accumulation:
  - Concessional debt was the main driver of recent increases in debt ratios.
  - Non-concessional borrowing has also been increasing in these countries, though pace of disbursements has been slow.
  - These trends do not support substitution of non-concessional borrowing for concessional borrowing; debt ratios likely to increase further as disbursements pick up.

### Proposed reforms (staff recommendations)
- Abolish the binary distinction between concessional and non-concessional borrowing; establish a unified debt limits framework for all countries.
- Design of debt limits under the proposed framework:
  - Debt limits, when needed, would be set in nominal terms based on the volume of contracted or guaranteed debt, rather than on the terms of financing.
  - Where appropriate, the nominal debt limit would be complemented by an indicative target on the average concessionality of new financing to preserve incentives for borrowers and lenders to transact on concessional terms.
  - The capacity dimension would be delinked from the debt limits policy and addressed directly in the structural component of the country’s program.
- Discount rate reform:
  - Establish a single discount rate across all Fund tools and policies to ensure closer integration of the DSF and the debt limits policy, a key objective of the reform.
  - To address unwarranted fluctuations, staff favor resetting the discount rate to a long-run average, which would bring it back to a level close to its value when the LIC DSF was originally designed, and fix it there until the next review of the LIC DSF.

### Next steps and process
- This paper is the first stage of the review; if Executive Directors agree with the proposed approach, a second paper with specific proposals will be prepared based on Directors’ feedback and consultations with relevant stakeholders.

*Source: EXECUTIVE SUMMARY (March 1, 2013).*

### 11.      Public debt ratios in emerging and advanced economies have been rising in the wake

### 11.      Public debt ratios in emerging and advanced economies have been rising in the wake of the global financial crisis

### Trends in public debt ratios
- The median debt ratio (scaled by nominal GDP) in advanced economies reached close to 75 percent in 2011.
- In emerging markets, the median debt ratio increased by 7 percentage points from its trough in the middle of the last decade.
- Advanced-economy debt increases were driven by lower growth, more persistent budget deficits, and fiscal pressure stemming from population aging and weak financial sectors.
- Program countries often had higher initial debt levels than non-program counterparts:
  - Average public debt ratio at program approval was 66 percent of GDP, 18 percentage points higher than in non-program countries at end-2010.
  - In the three years prior to program approval, debt-to-GDP ratios in program countries increased on average 4.5 percentage points per annum (twice as fast as non-program countries).
  - Following program start, the speed of debt build-up decreased to around 1 percentage point per year, in line with developments in non-program countries in 2010–12.

### Debt limits in Fund-supported programs (emerging and advanced)
- Fiscal and debt limits in programs with emerging and advanced economies helped keep debt accumulation in check.
- Figures referenced: Figure 3 (Median Total Public Debt in Advanced and Emerging Economies) and Figure 4 (Average Total Public Debt in Advanced and Emerging Economies — Program vs Non-program countries).

### Implementation with respect to LICs — design features and coverage
- All Fund-supported programs in LICs approved during 2007–12 included a limit on external public debt; in all but one case, the limit included a concessionality requirement.
- No program included a limit on total public debt.
- Concessional borrowing was unconstrained in 80 percent of LIC programs.
- Concessionality requirements typically set a floor on the grant element of a loan, with the floor usually set at 35 percent.
- Given that concessional borrowing was systematically excluded from debt limits, constraints on concessional borrowing, where present, were imposed via a fiscal performance criterion (PC).
- Concessional borrowing was capped in only 20 percent of LIC programs, implying no effective upper bound on the fiscal deficit (and hence external public debt) in about 80 percent of programs.
- Domestic borrowing was constrained in almost all LIC programs.
- In about half of the programs, debt limits had broader coverage than fiscal performance criteria.

### Room for non-concessional borrowing in LIC programs
- During 2007–09, about 30 percent of programs provided pre-defined room for non-concessional borrowing.
- Since the 2009 reform, this share rose by 11 percentage points.
- As of end-December 2012:
  - 13 out of the 32 program countries were allowed some room for non-concessional borrowing.
  - Another 12 countries were eligible for non-concessional borrowing under the new framework but faced a zero ceiling in the program.
- In the majority of cases, non-concessional borrowing limits were not tied to specific projects.
- Types of debt limits at program approval (2007–12) included: Zero NCB ceiling, Non-zero NCB ceiling, Indicative target (IT) on average concessionality, IT on public external debt.

### Compliance, modifications, and waivers
- There has been a relatively high and increasing incidence of requests to modify external debt PCs:
  - Out of the 31 modifications of the debt limits requested since 2008, about 90 percent took place between 2010 and 2012.
  - Five programs (Ghana, Kyrgyz Republic, Mozambique, Tanzania, and Uganda) account for three quarters of the requests.
  - The vast majority of requests aimed to increase the non-concessional debt limit to allow additional borrowing.
  - All requests for higher debt limits were granted either in recognition of available borrowing space or to accommodate critical investment.
- Text Table summarizing compliance (2008–12) shows numbers of Met / Waived / Modifications / Total by year, with cumulative totals (Total row): 193 Met, 173 Waived, 124 Modifications, 1 (unclear in snippet) Total — sourced from MONA database and Fund staff calculations.

### Issues raised in implementation of the debt limits policy (LICs)
- Decline in discount rates reduced assessed concessionality:
  - The decline in the discount rate has reduced the assessed grant element of the average loan offered by official creditors by roughly 20 percentage points since 1999 (using the Fund’s current methodology).
  - By contrast, using a fixed discount rate of 10 percent would lead to a decline in the grant element of only 6 percentage points.
  - World Bank Global Development Finance data (since 1999) show the average loan extended by official creditors had a maturity of 26 years, with a 7-year grace period and an interest rate of 1.4 percent (with little variance).
- Discontinuity in concessionality assessment by maturity:
  - Concessionality of shorter-term loans (less than 15 years) is assessed using six-month average CIRRs, whereas concessionality of longer-term loans is assessed using ten-year average CIRRs that are currently much higher.
  - This has created discontinuities and arbitrary outcomes across loan maturities.
- Shifts in discount rates combined with the concessional vs non-concessional dichotomy led to numerous modification and waiver requests:
  - Loans originally assessed as concessional could become non-concessional because of intervening declines in the discount rate, triggering additional scrutiny and requests for modifications/waivers despite unchanged economic characteristics.
- Binary concessionality assessment can distort financing decisions:
  - Incentives to turn to alternative, more costly financing (example: WAEMU countries showing bias toward domestic and regional financing because of concessionality requirements).
  - Potential bias in project selection where bids combine financing terms with project cost; contractors can cross-subsidize financing terms with higher project prices.
- Tied limits seen as overly restrictive and have delayed investments:
  - Requirement for third-party project assessment has been difficult to meet timely, complicated by confidentiality clauses.
- Scrutiny of non-concessional-financed investments may narrow policy discussions to a small part of the investment budget.
- Low take-up of average-assessment option:
  - Only one of the six countries eligible to assess concessionality on an average rather than loan-by-loan basis used this option; low take-up reflected implementation difficulties and complexity of the discount rate methodology.
- Complexity of capacity-assessment process:
  - The debt limits policy’s capacity assessment, relying on multiple indicators and staff judgment, has been complex to explain to authorities.
  - The intended practice of using capacity assessment results to design measures to enhance debt management capacity has not typically occurred.
  - Having two layers of capacity assessment (debt limits policy and DSF) may amount to double-counting.

### Operational and case examples where discount-rate changes affected projects
- Guinea — Islamic Development Bank loan (2012): Guinean authorities failed to avail themselves of the loan because the discount rate changed before signature; the project was ultimately abandoned.
- Mozambique — Two loans (2012) to build a road to the capital city and improve electricity supply: Authorities used space under the program's non-concessional borrowing (NCB) ceiling and requested a modification of the ceiling in the following review to accommodate other projects.
- Senegal — Islamic Development Bank loan for a floating power station (2011): Grant element fell just below threshold; authorities held off on project hoping discount rate would rise; discount rate fell and project was abandoned.
- Sierra Leone — Loan for street lighting project (2011) and e-government security project (2012): NCB ceiling was breached and authorities requested and obtained waivers in consecutive reviews.
- Tanzania — Loan from China Exim-Bank to build a gas pipeline (2012), as well as other loans: NCB ceiling was breached and authorities requested and obtained waivers in two consecutive reviews.
- Togo — Loan for a road project (2012): Loan turned non-concessional after discount rate fell during negotiations; project was abandoned.

### Discount rate methodology and implications (Box 1 summary)
- Discount rates serve two main Fund purposes: (i) assess concessionality of a loan (grant element calculator); and (ii) calculate present value of debt in the LIC DSF.
- Key methodological differences:
  - Grant element calculator uses currency-specific CIRRs and different averaging periods by maturity: six-month average CIRR for loans with maturity <15 years; ten-year average CIRR for loans with maturity ≥15 years. Margins reflecting maturity are added, leading to higher discount rates in the grant element calculator.
  - LIC DSF uses a single rate based on the U.S. dollar CIRR, adjusted only when the six-month average US$ CIRR deviates from the prevailing discount rate by at least 100 basis points for six consecutive months. The LIC DSA uses a fixed discount rate corresponding to the US$ CIRR, currently 3.0 percent (effective as of September 2012).
- These methodological differences have produced substantial and growing differences in discount rates used for Fund purposes, and hence in assessments of concessionality across Fund tools.

*Source: POLICY ON DEBT LIMITS IN FUND-SUPPORTED PROGRAMS — International Monetary Fund (excerpts).*

### 17.      Many of these implementation issues were cited by country authorities in response to

### _030113 - 17.      Many of these implementation issues were cited by country authorities in response to

### Survey of LIC authorities (Box 2): views and key statistics
- Survey conducted by Fund staff in March 2012; addressed to PRGT-eligible countries that requested a program with the Fund between December 2009 and end-2011. The response rate for the 34 countries surveyed was close to 80 percent.
- Major perceived benefits:
  - Over 80 percent of respondents felt the policy helped preserve debt sustainability.
  - About 70 percent felt the policy was useful in securing better financing terms.
  - Authorities reported the policy provided a simple and coherent framework for contracting external debt, helped adherence to a disciplined borrowing strategy, and motivated efforts to raise as much concessional funding as possible.
- Implementation issues cited:
  - Lengthy delays related to the need to consult Fund staff or request Board approval for individual projects to be financed with non-concessional resources and for augmenting the non-concessional borrowing limit.
  - Difficulties in meeting the project assessment requirement.
  - Difficulties in assessing the concessionality of Islamic loans and financing packages.
  - Difficulty in controlling the borrowing of state-owned enterprises and local governments.
- Reported consequences and behavior:
  - About one fourth of the countries surveyed reported that the current policy had caused critical and highly profitable projects to be dropped.
  - Two thirds of the countries with access to non-concessional borrowing had not fully utilized the available space at the time of the survey.
  - For some respondents, incomplete use of non-concessional borrowing space reflected a deliberate strategy of exploring all possible sources of concessional financing before turning to more expensive resources.
- Preferences for reform:
  - More than 90 percent favored moving away from the current loan-by-loan approach to concessionality requirements.
  - About 80 percent considered that relaxing the 35 percent grant-element threshold for concessional borrowing would help secure additional external financing.
  - Most saw only limited scope for tapping domestic financing sources to finance investment.
  - A majority agreed that debt vulnerabilities and macroeconomic and financial management capacities were relevant factors to take into account in designing debt limits; almost half felt the need to further tailor the policy to country situations.

### Implementation in GRA programs (emerging and advanced economies)
- Relationship to fiscal rules:
  - Almost all GRA programs included a performance criterion on the fiscal balance, effectively capping both the fiscal deficit and government-contracted debt.
  - Debt limits often broadened coverage beyond central or general government debt to include public enterprises or debt guaranteed by the government.
  - In a majority of cases, the limit applied to total public debt rather than public external debt only.
- Correlates of inclusion:
  - In all programs where debt levels were high (roughly defined as 60 percent of GDP or higher) a debt limit was included, in a majority of cases directly on the stock of total public debt.
  - Debt limits were included in roughly two thirds of programs where debt levels were below 60 percent.
  - Debt levels were well below 60 percent in the six programs where debt limits were not included, and below 30 percent in four of these cases.
  - Inclusion of debt limits did not appear to be systematically correlated with available measures of the country’s capacity.
- Compliance:
  - Debt-related conditionality was met in more than 95 percent of cases, and modifications were rarely sought.

### Overall assessment of implementation
- Divergent roles by program type:
  - In PRGT-supported programs the main objective of debt limits has been to control the composition (concessional/non-concessional breakdown) of external public debt, with overall public debt generally left unconstrained.
  - In GRA programs public debt accumulation is typically controlled through a fiscal-balance performance criterion; debt limits serve to broaden the coverage of the fiscal target.
- Concerns and evidence:
  - Excluding concessional borrowing from debt limits has left overall borrowing unconstrained in the majority of LIC programs.
  - Available evidence does not provide strong support for excluding concessional borrowing from debt limits. The accumulation of debt in the run-up to the HIPC Initiative was largely driven by an accumulation of concessional debt.
  - Debt sustainability in HIPCs was only restored after a significant share of their debt stock (including concessional debt) was written off at completion point.
- Implementation difficulties in LICs:
  - The binary definition of concessionality combined with the continued decline in the discount rate has reduced the assessed concessionality of loans, led to arbitrary outcomes, and distorted investment decisions.
  - The project-level scrutiny associated with a loan-by-loan assessment of concessionality requirements is typically outside the Fund’s expertise and has proven difficult to implement.
  - The capacity assessment process has been difficult to explain to authorities and was not systematically reflected in the structural component of programs.
- Reform rationale:
  - Staff sees merit in reforming the debt limits policy to establish a unified debt limits framework making overall debt the primary focus in all countries and abolishing the binary concessional/non-concessional distinction to limit investment distortions and reduce uneven outcomes.
  - Reforms should preserve incentives that shift financing for LICs toward concessional terms given that concessionality requirements can help secure better financing terms.

### Proposed reform: design features and operational changes
- Core design shift:
  - Abolish the binary distinction between concessional and non-concessional borrowing and establish a unified debt limits framework for all countries.
- Key proposed features:
  - When needed, debt limits would be set on the volume of contracted or guaranteed debt, rather than on the terms of financing; specific coverage would depend on debt vulnerabilities identified in the DSA.
  - To facilitate monitoring, debt limits would be set in nominal terms for all countries.
  - For countries using the LIC DSF, the nominal debt limit could be complemented by an indicative target on the average concessionality of new financing to preserve incentives for concessional terms.
  - Individual projects would no longer be subject to Fund staff scrutiny; Fund teams would focus on the institutional framework for public expenditure management and the macroeconomic impact of investment.
  - Breaching the indicative concessionality target would lead (via the DSA) to a reassessment of the nominal debt target at the time of the program review, ensuring debt trajectory compatibility with the DSA.
  - The capacity dimension would be delinked from the debt limits policy for all countries and addressed directly in the structural component of the country’s program.
  - Clearer criteria would be provided defining the circumstances under which debt limits should be included in GRA and PRGT-supported programs.
- Measurement and operational notes:
  - Debt limits are expected to be set on a contracting, rather than a disbursement, basis.
  - New financing would be measured on a contracting basis.
  - The indicative concessionality target would serve as a signaling device and figure prominently in the policy dialogue on countries’ investment financing strategies.

### Analytical tools and scenario assessment (Box 3)
- New dynamic LIC-specific open-economy multi-sectoral model developed by Buffie et al. to assess public investment, growth, and debt sustainability linking public capital to productive sectors, financing strategies (external concessional, external commercial, and domestic), and fiscal rules.
- Key findings from simulations:
  - An increase in infrastructure investment can produce large long-run benefits, but results depend on structural conditions such as the return to public capital and revenue-collection capacity.
  - Public investment inefficiencies and absorptive capacity constraints can limit gains to private capital and GDP.
  - The increase in fiscal revenue needed to maintain sustainability during the investment period can be large, especially when concessional borrowing does not fully cover costs.
  - Non-concessional borrowing can ease the transition but raises fiscal risks if combined with large front-loaded investment programs and weak structural conditions.
- Application to countries:
  - Model has been applied to Togo (“Togo—Staff Report for the 2011 Article IV Consultation and Sixth Review under the Extended Credit Facility Arrangement,” August 2, 2011), Burkina Faso (“Burkina Faso: Staff Report for the 2011 Article IV Consultation and the Third Review Under the Extended Credit Facility,” July 2, 2012) and Côte d’Ivoire (“Cote d’Ivoire Enhanced Initiative for the Heavily Indebted Poor Countries—Completion Point Document and Multilateral Debt Relief Initiative,” July 13, 2012), with work underway for seven more countries (Afghanistan, Cape Verde, Ethiopia, Ghana, Liberia, Rwanda, and Senegal).
  - Example: In Côte d’Ivoire, simulation results advise against a massive and sustained surge in public investment and instead suggest a more gradual investment path alongside structural reforms to increase public investment efficiency, economic productivity, and revenue collection capacity.

*POLICY ON DEBT LIMITS IN FUND-SUPPORTED PROGRAMS — International Monetary Fund (excerpts).*

### 28.      The proposed reform would have limited implications for GRA programs. In particular,

### 030113 - 28.      The proposed reform would have limited implications for GRA programs. In particular,

### Implications for GRA programs and overall approach
- No changes to the design of debt limits in GRA programs are proposed.
- Main modifications:
  - Formal delinking of the capacity dimension from the debt limits policy.
  - Provision of guidance on the circumstances under which GRA programs would be expected to include a debt limit.

### Key changes proposed for LICs
- Concessionality treatment:
  - The minimum concessionality requirement would no longer be applied to each individual loan. Rather, concessionality would be assessed on an average basis.
- Nominal ceilings and flexibility:
  - Countries would no longer be subject to a fixed nominal ceiling on non-concessional borrowing.
  - Consistent with the average concessionality target, countries would have the flexibility to contract smaller amounts of “less concessional” debt, or larger amounts of “more concessional” debt.
  - The concessionality target would be expected to vary over time, depending on the profile of expected financing (e.g. it could be lower the year a country decides to issue a sovereign bond, before increasing as the country turns back to traditional sources of development financing).
- Capacity and debt limit design:
  - Public financial and debt management capacity would no longer be used as an input for the design of debt limits.
  - Capacity would remain an important element in assessing debt sustainability and in overall program design.
  - Capacity building needs would be addressed directly in the structural component of the country’s program.
- CPIA index note:
  - The CPIA index, used to assess capacity in LICs, is also compiled for middle-income countries (but not publicly available for these countries) and is not compiled for advanced economies.

### Fiscal targets, debt limits, and monitoring
- Fiscal targets:
  - Fiscal targets would be expected to be set on the broadest available concept of fiscal balance.
  - A broad fiscal performance criterion may obviate the need for a debt limit in some cases.
- Role of separate debt limits:
  - Even where fiscal and debt performance criteria have the same coverage, a separate debt limit may be warranted to capture obligations contracted in a given year but disbursed over several years.
  - In some LICs, institutional constraints (e.g., delayed monitoring of foreign-financed investment projects) may make it infeasible to extend the coverage of the fiscal target; in these cases, debt limits would continue to play an important role in controlling external (or total) borrowing.

### Free-rider concerns and safeguards
- Free-rider risk:
  - Abolishing the concessional/non-concessional dichotomy could raise concerns over “free-rider” effects whereby creditors might be discouraged from providing concessional financing.
  - Mitigation: many lenders’ financing terms are determined by their own lending policies and objectives rather than the Fund’s policy; recent increased recourse to non-concessional borrowing by LICs has not appeared to deter key lenders from providing highly concessional financing, including grants.
- Program documentation and commitments:
  - Financing assumptions should be explicitly discussed in program documents, anchored by the average concessionality target.
  - Where individual high-cost loans pose significant program risk, authorities could commit in the letter of intent and the memorandum of economic and financial policies not to contract loans below a given concessionality level.
- Concern about blocking concessional loans:
  - Setting a limit on the volume of debt contracted or guaranteed could raise concern that concessional loans could be blocked once the debt limit is reached.
  - Counterpoint: available concessional financing is usually known well in advance and generally integrated in programs’ financing projections.
  - In cases where debt levels are already high, restricting concessional borrowing may be warranted to maintain debt sustainability.

### Reforming the discount rate
- Proposal:
  - Establish a single discount rate across all Fund tools and policies to replace the use of multiple discount rates.
  - Unifying the discount rate is intended to ensure closer integration of the DSF and the debt limits policy and to eliminate distortions from multiple rates.
- Historical and methodological notes:
  - The value of the discount rate in the DSF was originally set at 5 percent, which was the (rounded) level of the US$ CIRR prevailing at the time.
  - Since the DSF’s original design, the calculated discount rate has declined markedly as world interest rates have fallen, increasing the computed present value of debt in LICs despite unchanged fundamental borrowing characteristics.
- Staff preference:
  - Use a longer-term average of the benchmark to set the discount rate and keep the new rate unchanged until the next review of the DSF.
  - A fixed discount rate would allow greater stability and predictability in concessionality calculations and avoid automatic falls in assessed concessionality when world interest rates decline.
  - Modifications to the DSF discount rate require approval of both Fund and World Bank Boards; the intention is to put forward a specific proposal in a joint paper by the two staffs.

### Projected benefits of the proposed reform
- Unified debt limits framework:
  - Would make volume of contracted or guaranteed debt the primary focus in all countries and remove the most problematic aspects of the current policy.
- Reduce distortions and increase flexibility:
  - Would mitigate distortions to investment and financing decisions inherent in the current framework and provide LICs with increased flexibility to manage borrowing within an envelope consistent with debt sustainability.
- Strengthen links to debt sustainability:
  - While giving countries greater flexibility on financing terms, would strengthen links to debt sustainability, mitigating medium-term risks (effectiveness depends on sound DSA and clear guidance for deriving country-specific limits).
- Discount rate reform benefits:
  - Would streamline implementation in LICs and allow greater stability and predictability in concessionality calculations.
- Indicative safeguards:
  - An indicative floor on average concessionality and direct feedback between debt limits and the DSA would ensure LIC programs retain focus on appropriate financing terms.
- Capacity building emphasis:
  - Ensuring debt management issues are addressed in the structural component of programs, rather than in the debt limits policy, should increase incentives to build capacity and address evenhandedness concerns.

### Next steps, outreach, and implementation plan
- Outreach:
  - Staff proposes outreach with country authorities, lenders, and other development stakeholders for buy-in before returning to the Board with a final reform proposal.
  - Continued close collaboration with the World Bank is intended to reach agreement on discount rate reform in the DSF.
- Two-stage review process:
  - This paper will be followed by a second paper based on Executive Directors’ feedback and consultations with stakeholders.
  - The follow-up paper will put forward specific policy proposals and be followed by a guidance note to facilitate implementation.
  - As part of the guidance, staff plans to develop tools to calculate and monitor average concessionality.

### Issues for discussion (as posed in the document)
- Do Directors agree that the Fund’s policy on external debt limits should be reformed to establish a unified debt limits framework, which would make the volume of contracted or guaranteed debt the primary focus in all countries, consistent with a key objective of the policy?
- Do Directors agree that the reform proposal put forward in this paper, as presented in paragraphs 27-35, would tighten the link between debt vulnerabilities and debt limits, while limiting investment distortions and reducing uneven outcomes?
- Do Directors agree that the reform proposal contains sufficient incentives to ensure that LICs receive favorable terms on their official financing?
- Do Directors agree that, to ensure its full effectiveness, the reform should be coupled with a reform of the discount rate, which would put in place a single discount rate for Fund purposes?

### Selected country-level facts and figures cited
- Discount rate:
  - Originally set at 5 percent (rounded US$ CIRR level at the time).
- Ethiopia:
  - Debt relief under HIPC and MDRI lowered Ethiopia’s public external debt stock by about US$6 billion (about 40 percent of GDP) to 11 percent of GDP in 2007.
  - PPG external debt-to-GDP reached 21.9 percent of GDP in 2011.
  - Concessional debt accounted for about 70 percent of Ethiopia’s PPG debt in 2011.
  - Share of non-concessional debt in total PPG debt increased from 10 percent in 2008 to almost 30 percent in 2011.
- Niger:
  - PPG external debt fell from over 90 percent of GDP at end-2000 to about 15 percent of GDP at end-2007.
  - PPG external debt-to-GDP reached 26 percent of GDP in 2011.
  - The large non-concessional borrowing in 2010–2011 included contracting of a public guarantee on a large loan to finance the state’s share in an oil refinery.
  - Niger did not have an IMF-supported program at the time when that loan was contracted; under the current ECF-supported program, the non-concessional borrowing ceiling is set to zero.

*POLICY ON DEBT LIMITS IN FUND-SUPPORTED PROGRAMS, INTERNATIONAL MONETARY FUND*

### 2007. However, since then, Senegal’s PPG external debt has grown steadily, increasing by about

### _030113 - 2007. However, since then, Senegal’s PPG external debt has grown steadily, increasing by about

### Senegal — recent debt dynamics and program ceilings
- PPG external debt increased by US$2.3 billion (equivalent to 16 percent of 2011 GDP) between end-2007 and end-2011.
- Composition of the increase:
  - 65 percent from multilateral creditors
  - 9 percent from official bilateral creditors
  - 26 percent from commercial creditors
- As of end-2011:
  - Multilateral and official bilateral creditors accounted for about 90 percent of external PPG debt.
  - MTDS data indicates concessional debt accounts for the majority of the recent build-up in external PPG debt.
- PSI (December 2010–13) non-concessional borrowing (NCB) ceiling details:
  - US$500 million NCB ceiling (equivalent to 4.1 percent of GDP) over 2011–13.
  - Intended originally for a specific road infrastructure project; later extended to other road infrastructure projects, energy sector investment, and urban water and sanitation.
  - So far US$300 million has been contracted under the ceiling by issuing a Eurobond.
  - Following the issuance of a US$500 million Eurobond in May 2011 (with an exchange offer for the outstanding 2009 Eurobond), the remaining ceiling for non-concessional borrowing for 2011–13 is US$200 million.
  - A separate ceiling equivalent to CFAF 44 billion (increased in the 2nd review from the original ceiling of CFAF 30 billion) in 2011–13 applies for untied non-concessional external debt financing with a grant element of at least 15 percent.
  - No loan contracted under the envelope for semi-concessional borrowing yet; authorities intend to do so in 2013.
- Use of increased public external debt:
  - The rapid increase has mainly financed an ambitious investment program.
  - Since 2000, public investment as a share of GDP rose from 5½ percent to nearly 11 percent in 2011.
- Debt projection assessment:
  - Recent increase in the debt-to-GDP ratio and projected borrowing have resulted in an upward shift in the projected path of debt-to-GDP in the next decade in successive DSAs.
  - This upward shift is expected to be temporary, with long-term debt-to-GDP projections now lower than in earlier DSA vintages.

### Tanzania — HIPC/MDRI legacy and new borrowing
- HIPC completion point: November 2001; MDRI assistance: January 2006.
- Effect of relief:
  - PPG external debt ratio fell from 54 percent of GDP at end-2003 to 19 percent of GDP at end-2007.
- Subsequent increase:
  - External PPG debt increased by about US$4 billion (equivalent to 12 percent of 2011 GDP) over the past four years (to end-2011).
  - Composition of the increase:
    - 77 percent from multilateral creditors
    - 5 percent from official bilateral creditors
    - 17 percent from commercial creditors
  - As of end-2011, multilateral and official bilateral debt—mostly concessional—accounted for more than 90 percent of external PPG debt.
- PSI (June 2010–13) non-concessional borrowing ceiling:
  - Cumulative non-concessional borrowing ceiling of $2.7 billion (equivalent to 11 percent of GDP).
  - Ceiling originally set at $525 million annually at PSI request in June 2010; revised three times in the 3rd, 4th, and 5th reviews to accommodate infrastructure borrowing and to add a $920 million loan to finance a gas pipeline (originally intended concessional).
  - So far about $2.1 billion has been contracted under the ceiling, and $505 million disbursed as of end-June 2012.
- Projection impact:
  - The increase in the debt-to-GDP ratio resulted in a permanent upward shift of the projected medium- and long-term nominal debt-to-GDP path compared to earlier DSA vintages.

### Uganda — concessional focus and shifting ceilings
- HIPC completion point: 2000; MDRI assistance: January 2006.
- Effect of relief:
  - PPG external debt declined from 70 percent of GDP in 2003 to 10 percent of GDP at end-2007.
- Subsequent increase:
  - PPG external debt edged up by about US$2 billion (about 11 percent of 2011 GDP) as of end-2011.
  - Almost all of this increase comes from multilateral creditors.
  - As of end-2011:
    - Debt to multilateral creditors accounted for 90 percent of total PPG external debt.
    - Debt to official bilateral creditors accounted for the remaining 10 percent.
  - MTDS data confirms concessional debt accounts for the majority of the recent build-up.
- PSI (May 2010–13) non-concessional borrowing ceiling:
  - Cumulative non-concessional borrowing ceiling of US$1 billion (equivalent to 5.7 percent of GDP).
  - Ceiling set initially at US$500 million at program start; revised twice in the 2nd and 4th reviews.
  - So far about US$455 million in non-concessional debt has been contracted.
- Projection impact:
  - Recent increases and projected borrowing shifted projected debt-to-GDP paths upward in successive DSAs; impact expected to be temporary with long-term projections slightly lower than earlier DSA vintages.

### Annex III — interactions between debt limits and fiscal performance criteria in PRGT-supported programs (LICs)
- Sample and overview:
  - Analysis based on staff reports for programs approved after December 2009 or existing as of December 2009.
  - Key high-level findings:
    - (i) All but two countries had restrictions on non-concessional borrowing.
    - (ii) Only half of LIC programs had a performance criterion (PC) on the overall or primary fiscal balance; in about half of those, foreign-financed capital expenditures were excluded from the PC.
    - (iii) Fiscal balance targets were more prevalent in countries where debt levels are already high.
    - (iv) Concessional borrowing was unconstrained in about 80 percent of LIC programs.
- Program counts and specifics:
  - 58 out of the 61 LIC programs existing or approved after the new debt limits policy (introduced December 2009) had widely-used fiscal PCs along with non-concessional debt limits.
  - Remaining three programs: two Afghanistan ECFs and one Haiti ECF had other PCs (e.g., revenue floors, central bank financing).
  - Almost all countries included limits on non-concessional external debt except two relatively advanced LICs (Armenia and Georgia).
  - No program had a debt ceiling on total public debt (external plus domestic public debt).
- Fiscal PC prevalence and design:
  - About half of LIC programs (32 programs) had a fiscal PC on the overall or primary balance (22 and 10 programs, respectively).
  - In about half of these (15 programs), foreign-financed capital expenditures were explicitly excluded from the balance, creating a loophole for concessional loans.
  - Fiscal PCs were often set from the financing side (net domestic and external financing); around two thirds of programs had a PC on net domestic credit to the government (40 programs), sometimes in addition to a fiscal balance target (14 programs).
- Concessional borrowing treatment:
  - External concessional borrowing was unconstrained in about 80 percent of LIC programs (49 programs).
  - Of programs covering foreign-financed investment (17 programs), many included an adjustor to the fiscal target by the excess in the envisaged loan provision (6 programs), allowing effectively unlimited concessional borrowing.
  - Only some programs covering externally-financed investment (11 programs) without an adjustor implicitly set limits on total external borrowing.
- Relation between debt levels and fiscal PCs:
  - Programs with a fiscal balance target had an average public (external) debt-to-GDP ratio of 48 percent (37 percent).
  - Programs without a fiscal balance target had average ratios of 36 percent (23 percent).
  - No clear relation between inclusion of a PC on domestic financing and domestic debt level.
- Coverage and complementarity:
  - In around half of programs (31 programs), the debt limits PC had broader coverage than the fiscal PC.
  - Many programs used the same coverage (usually central government) for both fiscal PCs and debt limits due to data quality or borrowing practices of local governments/SOEs.
  - Fiscal PCs were sometimes used to address objectives other than debt control (crowding out, inflation, exchange depreciation, or monetary union targets such as WAEMU).

### Annex IV — debt and fiscal limits in Fund-supported programs of emerging market countries (MACs)
- Sample and high-level findings:
  - 27 Fund-supported programs of market access countries existing or approved since 2009 (Kosovo and Iraq excluded).
  - Key findings:
    - (i) All but one of the 27 programs had a PC on the overall or primary fiscal balance.
    - (ii) Debt limits were less ubiquitous than fiscal PCs and generally complemented fiscal targets via different scope and coverage.
    - (iii) Debt vulnerability was systematically considered in the decision to include a debt PC; the role of capacity in designing debt PCs is more ambiguous.
- Fiscal limits:
  - 26 of the 27 programs had an explicit fiscal PC (only exception: Bosnia and Herzegovina).
  - Majority (19 out of 26) applied fiscal limits to the general government or consolidated public sector; others applied to non-oil sectors, non-financial public sector, or central government.
- Debt limits — prevalence and types:
  - 21 of the 27 programs included a form of debt limit.
  - Six cases had no conditionality on debt (Belarus, Dominican Republic, El Salvador 2009, Guatemala, Latvia, Ukraine 2008) — all had low debt levels.
  - Types of debt limits included:
    - Limits on new external public debt flows (short- or longer-term)
    - Limits on total public debt stock (central government in most cases; Portugal covered general government)
    - Standalone limits on public guarantees (Ukraine 2010; Romania 2009 and 2011)
  - Non-concessional borrowing restrictions applied in four non-LIC programs (Bosnia and Herzegovina, Peru, Serbia 2009 and 2011) with access to concessional financing; specifics varied by case and pre-/post-December 2009 policy reform.
- Relation to debt vulnerabilities and capacity:
  - All 11 cases with debt of 60 percent of GDP or higher had a form of debt limit; six of these applied limits on the stock of public debt.
  - The six cases without any debt limits had debt levels well below 60 percent.
  - High-capacity MACs (above 50th percentile WGI) were more likely to have debt limits (15 out of 17) than lower-capacity MACs (6 out of 10).
- Complementarity and redundancy with fiscal limits:
  - Debt limits and fiscal limits mostly complemented each other; e.g., where no fiscal limit existed (Bosnia and Herzegovina), a below-the-line limit on net domestic financing was adopted.
  - In six cases without debt limits, all programs had an overall fiscal limit.
  - Debt limits often broadened coverage to include public enterprises or government guarantees (e.g., Seychelles 2008/2009; Serbia 2009/2011; Greece 2010/2012; Iceland).
  - Ceilings on guarantees addressed contingent liability risk not captured by explicit fiscal limits: 11 programs had ceilings on guarantees; most (8 out of 11) were implemented together with limits on contracting new debt.
  - Potential redundancy arose where fiscal and debt limits shared identical coverage (central or general government) — observed in 17 of 27 programs.
- Types of debt limits in GRA programs (existing or approved since 2009) — distribution:
  - Without any debt limit: 22%
  - PC or IT on debt stock: 26%
  - PC on new borrowing and guarantees: 30%
  - PC on short-term external borrowing only: 11%
  - PC on guarantees only: 11%
- Illustrative country relationships (Table 1 summary):
  - All 11 programs with public debt-to-GDP ≥ 60 percent had debt limits.
  - Some lower-debt cases also had debt limits (Costa Rica, Serbia 2009/2011, El Salvador 2010).
  - The table lists country examples showing debt limits by vulnerability and capacity grouping.

*International Monetary Fund — POLICY ON DEBT LIMITS IN FUND-SUPPORTED PROGRAMS (excerpts from the supplied content)*

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