Benefits and Costs of the Debt Relief Enhancement Act of 2002	 
(11-OCT-02, GAO-03-215R).					 
                                                                 
Despite years of effort to provide debt relief to the world's	 
poorest countries, these countries' debt problems still have not 
been resolved. In response to this situation, Congress introduced
Senate Bill 2210, the Debt Relief Enhancement Act of 2002, to	 
reduce these countries' debt service payments to manageable	 
levels. The act proposes that no qualified country pay more than 
10 percent of its revenue on external debt service or no more	 
than 5 percent if the country suffers a public health crisis. GAO
found that the act would immediately lower the debt service of	 
countries that qualify for relief. It would cost $2.7 billion for
26 countries over the next 3 years and have no effect on	 
long-term debt sustainability. If applied over a 20-year period, 
the act's provisions would address the long-term debt		 
sustainability of these countries. However, the cost of the	 
proposal would grow to between $7 billion and $12 billion for	 
those 26 countries. An alternative debt proposal, proposed by the
Bush administration, is to convert up to 50 percent of future	 
multilateral concessional loans to grants. This proposal does not
address the short-term debt service obligations of these	 
countries. However, it its sustainability improves their	 
prospects of achieving long-term debt sustainability. The cost of
implementing this proposal would be $9.7 billion over 40 years	 
and would lower the debt burdens of all 65 countries that are	 
eligible to borrow only from the World Bank's concessional	 
resources.							 
-------------------------Indexing Terms------------------------- 
REPORTNUM:   GAO-03-215R					        
    ACCNO:   A05289						        
  TITLE:     Benefits and Costs of the Debt Relief Enhancement Act of 
2002								 
     DATE:   10/11/2002 
  SUBJECT:   Debt						 
	     Federal aid to foreign countries			 
	     Foreign loans					 
	     International organizations			 
	     International economic relations			 
	     Heavily Indebted Poor Countries Debt		 
	     Initiative 					 
                                                                 
	     International Monetary Fund			 

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GAO-03-215R

                                       A

The Financial Challenge of Debt Relief

Briefing for Senate Staff September 26, 2002

1

Overview

Background on Debt Relief

Limitations of the Enhanced HIPC Initiative

Additional Paris Club Debt Relief

Proposals to Further Enhance Debt Relief

Summary

2

Background: The Scope of the Debt Problem

42 countries identified as heavily indebted and poor,  3/4 of which are in
sub- Saharan Africa

In 1998, the debt service- to- revenue burden for 26 of these HIPC
countries averaged 27 percent

In 2002, the debt service- to- revenue burden for the e 26 countries
averaged 14 percent

HIPC countries will still need large amount of development assistance
following debt relief, including substantial loans from multilaterals

3

Background: What Has Been Done to Address the Debt Problem?

Bilateral Debt Forgiveness

Despite efforts of bilateral and commercial creditors to reduce debt of
poor countries, total debt owed to external creditors increased by about $
100 billion between mid- 80s and mid- 90s

HIPC Initiative

Coordinated effort among bilateral and multilateral creditors provided
over $ 7 billion in debt relief through a 2- stage process

Enhanced HIPC Initiative

Intends to provide an additional $ 29 billion in deeper, broader, faster
debt relief with central focus on reducing poverty in HIPC countries

4

Limitations of the Enhanced HIPC Initiative

Enhanced HIPC is not fully funded

GAO estimates the World Bank s unfunded liability at $ 4.4 billion (
present value) for assistance under the Enhanced HIPC Initiative

Enhanced HIPC assumes overly optimistic growth rates

Projects future export growth rates will be approximately double
historical rates

Recent World Bank analysis acknowledges lower actual growth rates for both
exports and government revenue

Recent topping up infusions due to lower growth

5

Additional Paris Club Debt Relief

Bilateral donors have agreed to provide about $ 5 billion in additional
debt relief, beyond their commitments to finance the HIPC initiative

Most bilateral donors are providing 100 percent forgiveness on
concessional and pre- debt relief nonconcessional loans

This will increase the proportion of total debt held by multilateral
institutions, thereby potentially increasing the cost of additional debt
relief to the United States

6

Comparison of Proposals to Further Enhance Debt Relief

Biden/ Santoru 100 percent Switching 50

multilateral percent loans to forgiveness

grants Impact time frame 2003- 05 Near term Medium-

Long- term

Effect on debt

Lowers immediately Lowers immediately No impact until

service

second decade Effect on long

No effect if for only Delays, but does not Probability for term debt 3
years

preclude future debt debt sustainability sustainability sustainability
problems improved Cost profile Short run Short run Gradual/ long run Total
cost

$ 2. 7 billion for 26 $ 14 billion for 26 $ 9. 7 billion for 65 ( NPV)

countries ( 3 years) countries IDA- only $ 7- 12 billion for 26 countries
countries ( 20 years)

7

The Biden- Santorum Bill

Uses debt service as criteria; proposes that no qualified country pay more
than 10 percent of its revenue on external debt service; 5 percent if the
country suffers a public health crisis

Proposal would be costly during its 3- year window 20 of 26 HIPCs are
likely to fall in 5 percent category because of

health crises in those countries Cost of proposal over 3 years is about $
3.4 billion before additional

Paris Club debt relief and about $ 2. 7 billion after, in addition to
existing HIPC funding requirements

Applying the Bill s criteria over a 20- year horizon escalates the cost
Cost would range from $ 7- 12 billion for 26 countries depending on

how the proposal i implemented and future country growth rate

8

Cost Bill Millions of Biden- Santorum 4, f d llars Present Value ( 26
countries)

$ 000 $ 3,410 $ 3, 500

$ 3, 000 $ 2,750

$ 2, 500 Bilateral $ 2, 000

Multilateral $ 1, 500

$ 1, 000 $ 500

$ 0 After Enhanced HIPC Debt

After additional Pari Club Relief

Debt Relief

9

Sharing the Burden: Cost of Biden- Santorum Bill by Type of Creditor* ( 26
countries)

Present Value C st f Biden- Sant rum Bill Present Value C st f Biden- Sant
rum by Credit r Type, 2003- 2005 Bill by Creditor Type, 2003- 2022 ( lower
estimate)

Multilateral $ 950 million

Bilateral $ 2, 465

Multilateral $ 1, 800 million

million Bilateral

( U. S. hare $ 4, 660 approx. $ 360 million million) ( U. S. share i
approx. Total $ 2,750 million

$ 930 million) Total $ 7,125 million

* After additional Paris Club debt relief

10

Multilateral Debt Forgiveness

NGOs and others have recommended that multilateral organizations forgive
100 percent of old debts owed by poor countries, as many bilateral
creditors have done

Co t would be about $ 14 billion for 26 HIPCs Significantly reduces
current multilateral resources available for new

lending; bilateral donors, including U. S. , may be expected to fund
shortfall Long- term debt sustainability concerns remain as countries
accumulate

substantial new debt after forgiveness, with debt burdens once again
becoming unsustainable

11

Loans- to- Grants Proposal

Medium- to long- term approach to debt sustainability President s proposal
was to replace 50 percent of future multilateral loans

with grants 18- 21 percent grants for World Bank ( IDA) ultimately agreed
upon GAO estimates the cost of 20 percent grants at $ 3.9 billion in
present

value 2002 dollars Increased grants improves debt sustainability by
lowering future debt- to export ratios from what they would otherwise be,
but does not address

short- term debt service burden Promotes long- term debt sustainability
better than 100 percent forgiveness

of old multilateral debt

12

Summary

Current debt relief efforts are insufficient to provide long- term debt
sustainability

Immediate efforts to increase debt relief result in substantial short-
term budget costs, and don t address long- term problem

U. S. share of costs likely to be significant, given the growing
proportion of total debt belonging to multilaterals

Long- term debt relief efforts easier to finance, but do not address
short- term debt service burden

13

(320150)

GAO- 03- 215R Debt Relief Enhancement Act United States General Accounting
Office

Washington, DC 20548

October 11, 2002 The Honorable Joseph R. Biden United States Senate

The Honorable Rick Santorum United States Senate

Subject: Benefits and Costs of the Debt Relief Enhancement Act of 2002

Despite years of effort to provide debt relief to the world*s poorest
countries, these countries* debt problems still have not been resolved. In
response to this situation, you and other Members of Congress introduced
Senate Bill 2210, the Debt Relief Enhancement Act of 2002, to reduce these
countries* debt service payments to manageable levels. The act proposes
that no qualified country 1 pay more than 10 percent of its revenue on
external debt service or no more than 5 percent if the country suffers a
public health crisis. You asked us to evaluate the financial implications
of the Debt Relief Enhancement Act and compare the act with other debt
relief proposals. We provided your staff and other interested parties a
formal briefing on our findings on September 26, 2002. The briefing
discussed prior debt relief efforts and their limitations, provided
information on additional Paris Club debt relief, and compared three
proposals to increase debt relief. A copy of our briefing is attached.

In summary, we found that the Debt Relief Enhancement Act would
immediately lower the debt service of countries that qualify for relief.
It would cost about $2.7 billion (present value) for 26 countries over the
next 3 years and have no effect on long- term debt sustainability. If
applied over a 20- year period, the act*s provisions would address the
long- term debt sustainability of these countries. However, the cost of
the proposal would grow to between $7 billion and $12 billion (present
value) for those 26 countries. An alternative debt relief proposal,
promoted by the Bush administration, is to convert up to 50 percent of
future multilateral concessional loans to grants. 2 This proposal does not
address the short- term debt service

1 Qualified countries are those that are eligible to receive debt relief
under the Heavily Indebted Poor Countries Initiative. Countries are
eligible if existing means are not enough to make debt levels sustainable
and creditors are willing to finance the additional relief. In making this
determination, the World Bank decides whether (in most cases) the ratio of
a country*s debt (in present value terms) to the value of its exports is
more than 150 percent.

2 See U. S. General Accounting Office, Developing Countries: Switching
Some Multilateral Loans to Grants Lessens Poor Country Debt Burdens, GAO-
02- 593 (Washington, D. C.: Apr. 19, 2002).

2 GAO- 03- 215R Debt Relief Enhancement Act

obligations of these countries. However, it substantially improves their
prospects of achieving long- term debt sustainability. We estimate that
the cost of implementing this proposal by the World Bank would be about
$9.7 billion (present value) over 40 years and would lower the debt
burdens of all 65 countries that are eligible to borrow only from the
World Bank*s concessional resources.

In reviewing the cost of the Debt Relief Enhancement Act, we focused on
the 26 countries in the Heavily Indebted Poor Countries Initiative that
have qualified for debt relief as of July 2002. The primary data for our
analysis were the World Bank*s and the International Monetary Fund*s (IMF)
country- specific economic forecasts and debt service projections for
these 26 countries. Specifically, we compared the annual debt service that
the countries would pay if the act*s provisions were implemented with
their projected debt service if the act were not implemented. We conducted
this analysis for two time periods: the 3 years covered by the act and the
20 years covering the repayment period of more than 80 percent of the
countries* existing debt stock. The cost of converting 50 percent of
multilateral loans to grants was based on our prior analysis of that
proposal, which calculated a 40- year cost horizon for the countries that
are eligible to borrow concessional resources from the World Bank. The 40-
year cost horizon is consistent with the time period covered by the World
Bank*s analysis.

We performed our work from August 2002 through September 2002 in
accordance with generally accepted government auditing standards.

- - - - We are sending copies of this report to appropriate congressional
committees and to the Honorable Paul O*Neill, Secretary of the Treasury.
We are also sending copies to the World Bank and the IMF. Copies will be
made available to others on request. In addition, this report will be
available at no charge on our Web site at http:// www. gao. gov.

If you or your staff have questions about this report, please contact me
at (202) 512- 8979. Thomas Melito, Anthony Moran, Bruce Kutnick, R. G.
Steinman, Ming Chen, Stephanie Robinson, and Janey Cohen made key
contributions to this report.

Sincerely yours, Joseph A. Christoff Director, International Affairs and
Trade

Enclosure

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