Debt

Objectives

This unit will consider the wider issues and challenges of global interdependence through examining:

• the history and current position of the debt crisis in developing countries
• the role of the World Bank and the International Monetary Fund (IMF)
• initiatives which seek to eradicate debt.

Background

The debt crisis

All countries borrow money. For example, the Marshall Plan was important for the reconstruction of Europe after World War II. Problems emerge when repayments are a high proportion of a country’s wealth. Many developing countries have foreign debts so large that the interest payments are an intolerable burden on them. Economic growth is slowed or reversed by the high ratio of repayments to export earnings. Money that could be used to improve standards of living is used instead to service debts. Tanzania spends six times more on repayments than it does on healthcare. It is estimated that developing countries pay nine times more in debt repayments than they receive in aid. Ironically, Western countries are often providing aid and expecting debt repayments from the same developing nation.

Debt is tearing down schools, clinics, hospitals, and the effects are no less devastating than war.
Dr Adebayo Adedeji (www.debtchannel.org)

A short history of debt

• After World War II (1939–45), many former colonies gained independence. The change often caused instability, crippling countries financially.
• Wealthy developed countries gave assistance in the form of financial aid.
• As a result of financing the Vietnam War (1961–75), the US government was seriously over-spending. The US Federal Reserve printed millions of dollars to pay for this. More dollars in the world meant they were worth less.
• The increase in dollars in the world and the dollar’s decrease in value badly affected oil-producing countries, since oil has always been priced in dollars. The Organisation of Petroleum Exporting Countries (OPEC) co-operated to control the production of oil and was able to triple its price. While the rest of the world was suffering from the effect of high oil prices, OPEC members were making billions of dollars and depositing the profits in Western banks.
• With all this investment, the banks began to search for borrowers for loans and found willing ones in developing countries, which were desperately struggling to pay increasing fuel bills and were keen to carry out large-scale development plans.
• Sometimes bank loans were wasted on over-ambitious and badly planned projects or used to buy arms. Sometimes, the money was used for private projects that only benefited the rich, and sometimes, loans were simply used to line the pockets of a corrupt elite, often ending up as private deposits in the very bank that had issued the loan in the first place. All this only served to make the situation worse for the ordinary citizens of the country. Not only was the country in financial difficulty, the original loans had not been of any benefit to the vast majority of the population.
• When interest rates went up the cost of the loans to developing countries doubled or even tripled in a very short space of time. The commercial banks had insisted on repayment guarantees and many countries had borrowed, regardless of the country’s economic capacity.
• By the 1980s there was a failure to pay by many struggling countries and this caused major problems for the international banking system.
• Because of these problems, the IMF then the World Bank stepped in as ‘lenders of last resort’. In order to qualify for a loan from them, ‘structural adjustment programmes’ had to be adopted. Countries had to agree to cut spending to decrease their debt and stabilize their currency. This has been described as neo-colonialism – a country has political independence but is still under foreign control largely due to financial debt.
• The HIPC (Highly Indebted Poor Country) Initiative was introduced in an attempt to reduce the debt levels of the poorest countries

The origins of the World Bank and the IMF

In the Great Depression of the 1930s many countries made efforts to pull themselves out of crisis. By imposing high import duties on goods from abroad, individual nations caused world trade to plummet and economic growth to falter, resulting in high levels of unemployment and poverty.

In 1944 representatives from 44 nations met together in New England at a place called Bretton Woods. Their aim was to put together a stable framework for the post-war global economy. Three administrative institutions were created:

1 The International Monetary Fund (IMF)

• To facilitate ease of currency exchange between nations.
• To provide emergency loans to countries in financial difficulties.

2 The World Bank

• To rebuild the economies of those countries in Europe devastated by World War II. With funds from member countries, it provided loans at below commercial rates for reconstruction, whether it was for roads and airports, or education systems.
• By the 1960s this role was largely redundant and the World Bank used its resources in the developing countries of the South. Although its rates are concessional in order to maintain its own viability, the Bank imposes conditions on borrowers to ensure they will be able to repay. (These are the structural adjustment programmes described below.)

3 General Agreement on Tariffs and Trade (GATT)

• To regulate import duties (see ‘Global Economy’ module).

Structural adjustment policies

In order to receive further loans (often necessary just to pay the interest on other loans) the IMF imposed certain conditions. Governments limited their outgoings by:

• slashing the budget for education, health, food subsidies and social services
• devaluing the national currency, which is meant to result in fewer imports, along with more and cheaper exports
• giving large-scale export crop farming precedence over subsistence farming in order to earn more foreign exchange
• cutting jobs and wages in the public sector.

Initiatives that seek to eradicate debt

The escalating crisis in the developing world has become so extreme that even the lending financial institutions have had to admit that debt relief is necessary. There have been a number of initiatives. The latest is called the HIPC (Highly Indebted Poor Country) Initiative proposed by the IMF and World Bank in 1996, where the selected countries have to undertake a three-year ‘probation’ period and implement economic reforms and poverty-reducing policies. At the end of this period, if the debt is still unsustainable, then debt relief becomes available.

The principal objective of the Debt Initiative for the heavily indebted poor countries (HIPCs) is to bring the country's debt burden to sustainable levels, subject to satisfactory policy performance, so as to ensure that adjustment and reform efforts are not put at risk by continued high debt and debt service burdens.

World Bank website (www.worldbank.org/hipc)

However, it is still very difficult to get debt relief.

Pressure groups have been formed to lobby governments and raise public awareness. The Jubilee 2000 Drop the Debt campaign was the leading organisation in the campaign against debt. It was an alliance between concerned NGOs, faith-based organisations and charities. It has some high-profile supporters, notably Bono and Sir Bob Geldof, who have become very knowledgeable and committed spokesmen, lobbying national leaders across the world, and meeting with such people as the Pope and the Secretary General of the United Nations to put across their case.

Useful websites

• www.debtchannel.org – Debt Channel
• www.jubileedebtcampaign.org.uk – Jubilee Debt Campaign
• www.worldbank.org – The World Bank