I Introduction and Summary
- International Monetary Fund
- Published Date:
- March 1998
Official Flows in Context
Overall gross resource flows to developing countries have surged in the 1990s—from some $100 billion in 1990 to over $250 billion in 1996.1 Within the total, there has been a pronounced shift in the composition of net resource flows: the growth reflected almost entirely flows from private sources to emerging markets and other strong performers in Asia and Latin America and to reforming transition economies in Eastern Europe. Private flows consist largely of foreign direct investment (about half of the total), portfolio equity flows, bank credit, and bond lending, with considerable variability from year to year. While private lending in the second half of the 1980s went mainly to public entities or carried a guarantee from the debtor government, private sector entities in developing countries were able to attract some 40 percent of gross private lending in 1996 without requiring government guarantees. Indications are that, as in the past, private flows in 1996 continued to be concentrated in a relatively small number of developing countries. In real terms, private flows are estimated to be higher now than at their previous peak in 1981. In contrast, official flows (for a definition, see Box 1) have changed relatively little in nominal terms in the 1990s. Sources in the Development Assistance Committee (DAC) of the Organization for Economic Cooperation and Development (OECD) estimate annual net flows of official development finance (ODF) at some $70 billion over the period, not including trade-promoting export credits. However, in real terms, official flows have declined by nearly 17 percent since the second half of the 1980s.
This pattern of resource flows reflected the divergent economic trends that have emerged during the past decade in the developing world (International Monetary Fund, 1997b). The largest and more developed countries have, for the most part, been able to access private capital markets and integrate into global economic and financial markets. In contrast, large parts of the developing world have made less progress in improving their policy environment and have yet to implement comprehensive reform strategies. Such countries, including many of the poorest countries in Africa, had little, if any, access to private flows—in part reflecting the detrimental effect of a high debt burden on private flows, the lack of physical and institutional infrastructure, and other impediments to growth. These countries often continued to rely mainly on official sources of development finance.
Role of Strong Performance in Attracting Capital Inflows
Middle-income countries have attracted virtually all private capital flows in the 1990s—with the exception of the sizable private flows to China and India, Net resource flows to these countries have surged, but have also shown an increased variability from year to year—in part reflecting the greater volatility of private flows. These larger and variable inflows have exposed recipient countries to increasing risks and market volatility in response to perceived policy weaknesses, as evidenced in the crisis in Mexico at the end of 1994, the crisis in Thailand in mid-1997, and the simultaneous turbulences in the foreign exchange markets in other emerging markets in Asia. In support of Mexico’s corrective policies, multilateral and bilateral creditors provided large amounts of assistance in early 1995 ($29 billion in 1995), and Mexico made substantial repayments already in 1996 ($15 billion, of which $11 billion went to bilateral creditors). In support of Thailand’s adjustment program, multilateral and bilateral creditors have pledged about $14 billion in assistance for 1997–98. In addition, middle-income countries also received some 50–60 percent of official bilateral and multilateral loans. These official resources often have a catalytic character, both indirectly through official support for policies that allow a country to attract other inflows, and more directly, such as through co-financing of projects by multilateral institutions and private lenders. Most middle-income countries have exited from debt reschedulings and no longer require exceptional financing.
Reliance of Low-Income Countries on Official Capital Flows
In contrast, most low-income countries—and especially the heavily indebted poor countries (HIPCs)—have over the last 10–15 years experienced a withdrawal of private lenders and become more and more dependent on official financing flows, including in the form of debt rescheduling. Only a few low-income countries—such as China and India—have avoided debt rescheduling and have been able to maintain access to private capital flows both to the public sector—directly or with a debtor government guarantee—and, albeit on a relatively small scale, to the private sector without government guarantees. Overall, net bilateral loan disbursements to low-income countries have fallen to very low levels in light of the limited debt-servicing capacity of many of these countries, and bilateral flows are often provided in the form of grants. Thus, multilateral institutions have become the main source of loan finance for most low-income countries, and they, too, have been lending on increasingly concessional terms.
Greater Targeting of Aid Flows
Along with the growing dependence of many low-income countries on official development assistance (ODA), creditors have been providing such resources more selectively on the basis of countries’ policy performance. Their aid policies have undergone a reorientation following the dramatic political changes in the 1990s—with the end of the cold war, new claims on aid from transition countries, and new demands, such as emergency assistance—and in response to domestic pressure to reduce aid budgets. Aid has increasingly been directed to promoting long-term economic development and welfare in recipient countries, including poverty reduction and good governance, and to building the institutional infrastructure necessary for a country to achieve sustainable development.
Increasingly Concessional Debt Relief for Low-Income Countries
The international community has recognized the heavy debt burden of low-income countries as a solvency rather than a liquidity problem. Bilateral creditors have rescheduled the debts of low-income countries on increasingly concessional terms since late 1988, and the reduction granted in the net present value (NPV) of rescheduled debt has reached as high as 67 percent under Naples terms since the end of 1994. Commercial creditors have also restructured their claims on many developing countries, often through debt buybacks at high discounts, especially for the poorest countries. These mechanisms have already allowed, or are expected to allow, most countries to resolve their external debt problems and graduate from the rescheduling process.
Debt Relief Culminated in Initiative for Heavily Indebted Poor Countries
For a number of countries, such traditional debt-relief mechanisms are not enough—even if the countries undertake strong reform policies—to make their external debt burdens sustainable. To assist these countries, the HIPC Initiative was adopted in the fall of 1996 on the basis of joint proposals by the IMF and the World Bank. It is designed to assist eligible HIPCs to lower their external public debt to sustainable levels through concerted action by all creditors, including, for the first time, multilateral creditors, after these countries have established a strong track record of adjustment and reform. The HIPC Initiative thus completes the array of instruments available to the international financial community for dealing with the debt problems of low-income countries. It allows those countries that pursue appropriate adjustment and reform policies to exit from the rescheduling process and should eliminate external debt as an impediment to economic development and growth, thereby enabling HIPC governments to focus on the difficult policies and reforms necessary to achieve sustainable development.
New ODF flows (Section II) to developing countries, 2 as recorded by the DAC, changed little in 1996, but have fallen by nearly 17 percent in real terms since 1990 to the lowest level since 1980. This decline reflects fiscal consolidation and some aid fatigue in many countries providing such resources as well as competing demands from transition countries in the 1990s. Some two-thirds of ODF stems from bilateral sources and is provided mainly in the form of concessional and grant flows (ODA). The sharp drop in bilateral ODA in 1996 was partly offset by an increase in multilateral ODA. The development assistance effort, measured as the ratio of ODA to GNP, dropped to 0.25 percent for the group of DAC member countries—the lowest in the 30 years since the United Nations established a target level of 0.7 percent. There appears little prospect of an early recovery in ODA flows, and the need for aid selectivity based on policy performance, poverty, and social objectives is broadly acknowledged. DAC members have adopted a new strategy to better focus their resources on countries that undertake reform efforts; it includes, for the first time, quantitative objectives for poverty alleviation, social development, and environmental sustainability against which the success of development cooperation is to be measured.
Bilateral support for developing countries in the form of export credit exposure (Section III) declined marginally in 1996—for the first time since 1992. New commitments were slightly lower, particularly in a few major markets in Asia with already high exposure. Export credit flows are highly concentrated in countries with positive market assessments—the top 10 (20) countries received 66 (90) percent of new commitments in 1996, which is more than their share in trade flows or GDP (about 50–55 (80) percent). Most export credit agencies’ financial performance, as measured by net cash flow, improved in 1996, with an aggregate net cash surplus of $1¼ billion—the first surplus since 1981; new claims payments dropped by 10 percent, while recoveries increased by 13 percent and premium income rose slightly.
Multilateral lending (Section IV) fell in 1996 after reaching a record high level in 1995 that reflected exceptionally large IMF lending in support of Mexico and Russia. As noted above, for low-income countries, multilateral flows have become the largest source of public borrowing in net terms, while middle-income countries have increasingly been relying on borrowing from private sources. Nonetheless, middle-income countries received about half of net multilateral disbursements in 1996. Concessional lending increased to close to 60 (28) percent of net (gross) multilateral disbursements to all developing countries in 1996. For HIPCs, over 80 percent of gross disbursements were on concessional terms in 1996, and concessional resources have been used to repay non-concessional debt in the 1990s. As a result, the multilateral debt-service ratio of developing countries declined gradually from 4½ percent of exports in the first half of the 1990s to 3 percent in 1996—for HIPCs, from 8½ percent to 7 percent. HIPCs continued to receive positive net transfers from multilaterals. Recent changes in the regional allocation of multilateral flows reflected the exceptional lending patterns of 1995; over the last decade, lending to transition economies in Eastern Europe surged, while the share of loans to countries in Latin America and South Asia fell sharply, reflecting both their increasing access to financial markets and recent net payments from India to the IMF.
The dichotomy between middle- and low-income countries is very clear in terms of their debt-restructuring status (Section V). Most middle-income countries have already exited from the Paris Club rescheduling process or are expected to graduate after the end of their current consolidation periods. To ensure this outcome, the 1996 flow-rescheduling agreements with Peru and Russia included the nonconcessional restructuring of substantial debt stocks falling due after the end of their consolidation periods. In contrast, less than one-fourth of low-income countries have exited—although their number has doubled over the last two years. All low-income rescheduling countries over the last two years have received Naples terms, involving a 67 percent NPV debt reduction (except for Cameroon, Guinea, and Honduras, where the NPV reduction was 50 percent). Six countries have now received comprehensive stock-of-debt operations, all involving a 67 percent NPV debt reduction, and 13 countries have received flow reschedulings over the last two years, virtually all with a goodwill clause for stock treatment at the end of the consolidation period. This improves these countries’ prospects for exiting from the rescheduling process, and these prospects have been enhanced by the adoption of the HIPC Initiative.
There have also been further debt restructurings with non-Paris Club bilateral creditors. Russia—the largest such creditor, with claims of $123 billion on developing countries—has reached a number of restructuring agreements with developing countries. In June 1997, an understanding in principle was reached between Russia and Paris Club creditors on the basis of Russia’s participation in Paris Club reschedulings as a creditor, which was finalized in September 1997. This is expected to facilitate the regularization of relations of many developing countries with Russia.