What is the HIPC Initiative?

David Ricksecker

Debt Relief for Developing Countries
and the Heavily Indebted Poor Countries (HIPC) Initiative

First, some background on developing country debt.

Poor countries owe a large amount of money to rich nations and international financial institutions (IFIs) such as the World Bank and the International Monetary Fund. This debt is over $2 trillion for developing countries as a whole. Most of this is owed by "middle-income" developing countries, but some of the lowest-income countries in the world are heavily indebted, owing around $250 billion.

These poor countries have millions of people living in poverty, who are paying the price for their countries enormous debt. Ordinary people did not benefit from many of the loans that gave rise to this debt, but they bear the burden of repayment. Without major debt reduction, poor countries are trapped, making endless interest payments on these debts. This requires them continuously to divert large amounts of scarce resources from health care, education and food security. The debt burden inhibits the social and economic development that is needed to reduce poverty. Debt relief - if carried out in ways that benefit ordinary people - can bring hope to millions who are currently unable to meet their basic human needs.

How did these countries acquire such great amounts of debt?

In the 1960s the United States government spent more money than it earned and decided to print more dollars. Consequently, the dollar depreciated. In 1973, oil-producing countries raised their prices since their exports now bought less, and deposited their huge profits in Western banks. Interest rates began to plummet and commercial banks (London Club) began lending lavishly to the Third World without much thought about how the money would be used or whether the recipients had the ability to repay it. Later debts came from bilateral loans from individual Western governments (Paris Club).

Third World governments were pleased to take advantage of loans at very low interest rates because they needed money to maintain development and meet the rising costs of oil. Little of the money borrowed benefited ordinary people. Much of it went to military supplies to shore up oppressive regimes, or large-scale development projects that proved of little value. Corruption, waste, and inefficiency also ate up large amounts of the loans. Relying on advice from the West, Third World countries began growing cash crops. This produced a glut on the market, and prices dropped. While interest rates and oil prices began to rise, exports were earning less and less. The developing countries had to borrow more money just to pay off the interest.

In 1982, Mexico, followed by other countries, told its creditors it could not repay its debts. The International Monetary Fund (IMF) and World Bank stepped in with new loans under strict conditions, to help pay the interest. But the debts continued to rise, and new loans were added to the burden. The West did not want to lose their loans, so they clubbed together and obtained the support of the International Monetary Fund (IMF) for a scheme to reschedule the debts. Since then the IMF and the World Bank - the two main international financial institutions - have been involved in lending money and rescheduling debt in countries that cannot pay the interest on their loans. But their loans add to the debt burden and come with conditions. Governments have to agree to impose very strict economic programs, known as Structural Adjustment Programs (SAPs), on their countries in order to reschedule their debts or borrow more money. SAPs consist of measures designed to help a country repay its debts by earning more hard currency, increasing exports and decreasing imports, as well as promoting economic stability. SAPs have particularly affected the countries of sub-Saharan Africa, whose economies are already the poorest in the world. Governments implementing SAPs usually have to: spend less on health care, education and social services, devalue the national currency, cut back on food subsidies, cut jobs and wages for government workers, and encourage privatization of public industries.

Why is debt relief for Heavily Indebted Poor Countries important?

First of all, much of the loans was used to fund development projects (dams, coal burning factories, etc.) that did not help the poor but did hurt the environment, leaving HIPC countries environmentally ravaged. In addition, SAP's have forced nations to cut back on conservation programs, and use up natural resources, leading to even more environmental degradation (such as deforestation and heavy overuse of soil). Secondly, countries struggling with debt must cut back on imports, and increase exports. This hurts the developing countries with low prices for their exports, and fewer markets for developed nations' exports. For example, before the debt crisis broke out, Europe sold about a fifth of its exports to the Third World, particularly Africa. By 1990, it was a little more than a tenth. In addition, commercial banks have suffered very little from the accumulation of unpaid debts because Western taxpayers, inflation, and currency speculation have cushioned the blow for them. Banks can also gain tax relief on a loan that is not being repaid by selling the debt on the secondary market.

However, the main reason that the debt should be cancelled is so that these poor economies can grow. Long-term growth will not occur without investing in human capital--education and health. These countries can not invest in human capital because they are using all the money to pay off crippling debt.

What is the HIPC Debt Initiative?

The Heavily Indebted Poor Country (HIPC) Initiative is an agreement among official creditors designed to help the poorest, most heavily indebted countries escape from unsustainable debt. It enables poor countries to focus their energies on building the policy and institutional foundation for sustainable development and poverty reduction. HIPC represents the first effort to coordinate all creditors. It includes foreign debts owed to bilateral creditors (Paris Club), multilateral creditors (international financial institutions, such as the World Bank and the IMF) and commercial creditors (London Club). For the first time, multilateral creditors will reduce, not just refinance, debt. Poverty reduction is included, along with fiscal and monetary performance, as one of the measurements of a government's commitment to reform.

The Initiative is open to the poorest countries, those that: (1) are eligible only for highly concessional assistance such as from the World Bank's International Development Association (IDA) and the IMF's Poverty Reduction and Growth Facility (formerly called Enhanced Structural Adjustment Facility); (2) face an unsustainable debt situation even after the full application of traditional debt relief mechanisms; and (3) have a proven track record of implementing strategies focused on reducing poverty and building the foundation for sustainable economic growth.

The Initiative involves two stages. The first stage is a three-year period during which a HIPC country works in coordination with, and the support of, the World Bank and IMF to establish a record of implementing economic reforms and poverty reducing policies. At the end of this three-year period, the country reaches its "decision point," where it is determined whether its debt level is sustainable. For those countries whose debt burden remains unsustainable, a package of debt relief is prepared and committed to by creditors. Countries receive their full package of debt relief once it has implemented a set of key, pre-defined structural reforms. This approach-called a "floating completion point"-replaces the fixed three-year performance period of the original framework, and will enable countries to meet ambitious policy targets early and accelerate the release of debt relief.

Recently, Western nations have felt rising political pressure to respond to the debt crisis. This pressure has led to recent changes of the HIPC Initiative, called the G8 Köln Debt Initiative. These changes are part of a coherent strategy to help poor countries move on to a sustainable faster growth path, bringing a substantial reduction in poverty. Running through these changes is an increased emphasis on ownership, transparency, and broad-based participation, as well as a much greater emphasis on more effective social policies. The key changes include: (1) deeper debt relief through lower debt sustainability targets, lower qualifying thresholds, and calculations based on earlier actual data rather than projections; and (2) faster debt relief, including through the earlier provision of front-loaded assistance to free up resources for poverty-reducing spending, such as on health and education. These modifications should result in a broadening of debt relief, expanding the likely number of participants from 29 to 36 HIPCs, and possibly more. In addition, these changes will provide a greater safety margin for achieving debt sustainability and free up additional resources for poverty reduction.

Recent Updates:

As of July, 2001, 23 nations are current participants in the HIPC initiative:

Benin, Bolivia, Burkina Faso, Cameroon, Chad, The Gambia, Guinea, Guinea-Bissau, Guyana, Honduras, Madagascar, Malawi, Mali, Mauritania, Mozambique, Nicaragua, Niger, Rwanda, Senegal, Săo Tomé and Príncipe, Tanzania, Uganda, Zambia. These nations are receiving what will amount to $34 billion dollars in relief.

Bolivia and Uganda have successfully reached their "floating completion points" under the original framework. Creditors will now deliver the remaining package of debt relief to these countries previously determined during their "decision points." The World Bank and IMF may deliver additional relief or take further measures after assessing Bolivia and Uganda's ability to service their debts in a sustainable fashion.