Developing Countries: Achieving Poor Countries' Economic Growth  
and Debt Relief Targets Faces Significant Financing Challenges	 
(14-APR-04, GAO-04-405).					 
                                                                 
The Heavily Indebted Poor Countries (HIPC) Initiative,		 
established in 1996, is a bilateral and multilateral effort to	 
provide debt relief to poor countries to help them achieve	 
economic growth and debt sustainability. Multilateral creditors  
are having difficulty financing their share of the initiative,	 
even with assistance from donors. Under the existing initiative, 
many countries are unlikely to achieve their debt relief targets,
primarily because their export earnings are likely to be	 
significantly less than projected by the World Bank and 	 
International Monetary Fund (IMF). GAO assessed (1) the projected
multilateral development banks' funding shortfall for the	 
existing initiative and (2) the amount of funding, including	 
development assistance, needed to help countries achieve economic
growth and debt relief targets. The Treasury, World Bank, and	 
African Development Bank commented that historical export growth 
rates are not good predictors of the future because significant  
structural changes are under way in many countries that could	 
lead to greater growth. We consider these historical rates to be 
a more realistic gauge of future growth because of these	 
countries' reliance on highly volatile primary commodities and	 
other vulnerabilities such as HIV/AIDS. 			 
-------------------------Indexing Terms------------------------- 
REPORTNUM:   GAO-04-405 					        
    ACCNO:   A09788						        
  TITLE:     Developing Countries: Achieving Poor Countries' Economic 
Growth and Debt Relief Targets Faces Significant Financing	 
Challenges							 
     DATE:   04/14/2004 
  SUBJECT:   Debt						 
	     Developing countries				 
	     Exporting						 
	     Foreign economic assistance			 
	     Future budget projections				 
	     International cooperation				 
	     International relations				 
	     Economic growth					 
	     Debt relief					 
	     Development banks					 
	     Heavily Indebted Poor Countries			 
	     Initiative 					 
                                                                 

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GAO-04-405

United States General Accounting Office 

                     GAO Report to Congressional Requesters

April 2004 

DEVELOPING COUNTRIES

    Achieving Poor Countries' Economic Growth and Debt Relief Targets Faces
                        Significant Financing Challenges

                                       a

GAO-04-405

Highlights of GAO-04-405, a report to congressional requesters

The Heavily Indebted Poor Countries (HIPC) Initiative, established in
1996, is a bilateral and multilateral effort to provide debt relief to
poor countries to help them achieve economic growth and debt
sustainability. Multilateral creditors are having difficulty financing
their share of the initiative, even with assistance from donors. Under the
existing initiative, many countries are unlikely to achieve their debt
relief targets, primarily because their export earnings are likely to be
significantly less than projected by the World Bank and International
Monetary Fund (IMF).

GAO assessed (1) the projected multilateral development banks' funding
shortfall for the existing initiative and (2) the amount of funding,
including development assistance, needed to help countries achieve
economic growth and debt relief targets.

The Treasury, World Bank, and African Development Bank commented that
historical export growth rates are not good predictors of the future
because significant structural changes are under way in many countries
that could lead to greater growth. We consider these historical rates to
be a more realistic gauge of future growth because of these countries'
reliance on highly volatile primary commodities and other vulnerabilities
such as HIV/AIDS.

April 2004

DEVELOPING COUNTRIES

Achieving Poor Countries' Economic Growth and Debt Relief Targets Faces
Significant Financing Challenges

The three key multilateral development banks we analyzed face a funding
shortfall of $7.8 billion in 2003 present value terms, or 54 percent of
their total commitment, under the existing HIPC Initiative. The World Bank
has the most significant shortfall--$6 billion. The African Development
Bank has a gap of about $1.2 billion. Neither has determined how it would
close this gap. The Inter-American Development Bank is fully funding its
HIPC obligation by reducing its future lending resources to poor countries
by $600 million beginning in 2009. We estimate that the cost to the United
States, based on its rate of contribution to these banks, could be an
additional $1.8 billion. However, the total estimated funding gap is
understated because (1) the World Bank does not include costs for four
countries for which data are unreliable and (2) all three banks do not
include estimates for additional relief that may be required because
countries' economies deteriorated after they qualified for debt relief.

Even if the $7.8 billion gap is fully financed, we estimate that the 27
countries that have qualified for debt relief may need more than $375
billion to help them achieve their economic growth and debt relief targets
by 2020. This $375 billion consists of $153 billion in expected
development assistance, $215 billion to cover lower export earnings, and
at least $8 billion in debt relief. Most countries are likely to
experience higher debt burdens and lower export earnings than the World
Bank and IMF project, leading to an estimated $215 billion shortfall over
18 years. To reach debt targets, we estimate that countries will need
between $8 billion and $20 billion, depending on the strategy chosen.
Under these strategies, multilateral creditors switch a portion of their
loans to grants and/or donors pay countries' debt service that exceeds 5
percent of government revenue. Based on its historical share of donor
assistance, the United States may be called upon to contribute about 12
percent of this $375 billion, or approximately $52 billion over 18 years.

Estimated Cost to Achieve Economic Growth and Debt Relief Targets for 27
Countries through 2020 in 2003 Present Value Terms

www.gao.gov/cgi-bin/getrpt?GAO-04-405.

To view the full product, including the scope and methodology, click on
the link above. For more information, contact Joseph A. Christoff at (202)
512-8979, or e-mail [email protected].

Contents

Letter                                                                   1 
                                  Results in Brief                          2 
                                     Background                             4 
            Key Multilateral Development Banks Face Significant Challenges 
                                                                        to 
                         Financing the Existing Initiative                  5 
             Achieving Economic Growth and Debt Relief Targets Requires    
                          Substantial Financial Assistance                 13 
                         Agency Comments and Our Evaluation                22 

Appendixes

Appendix I: Appendix II: 

Appendix III: 

Appendix IV: 

Appendix V: 

Appendix VI: 

Appendix VII: 

Appendix VIII: 

Appendix IX: Appendix X: Objectives, Scope, and Methodology 

Status of HIPCs and Their Membership in Three Multilateral Development Banks 

Alternative Strategies for Providing Debt Relief to Poor Countries 

Costs and Impact of Various Strategies for Providing Debt Relief 

How Volatility in Export Earnings Affects the Likelihood that Countries Will Achieve Debt Sustainability 

Comments from the Department of the Treasury 

GAO Comments

Comments from The World Bank 

GAO Comments

Comments from the African Development Bank 

GAO Comments

Comments from the Inter-American Development Bank GAO Contacts and Staff Acknowledgments 

GAO Contacts Acknowledgments

                                       25

                                       30

                                       32

                                       36

                                       40

                                     43 46

                                     49 51

                                     53 57

58

60 60 60

Tables  Table 1: Financing Challenges Facing Key Multilateral Creditors 
                     (U.S. dollars in 2003 present value terms)             5 
               Table 2: World Bank/IMF and Historical Export Growth Rates, 
                      Debt-to-Export Ratios, and Export Earnings Shortfall 16 
           Table 3: Cost and Impact of Three Strategies for Providing Debt 
                             Relief to 27 Poor Countries                   19 

Contents

Table 4: Percentage of Loans Switched to Grants to Achieve Debt
Sustainability 20 Table 5: Countries' Membership in Key Multilateral
Development Banks 30

Table 6: 	Cost and Impact of Three Strategies for Providing Debt Relief to
27 Poor Countries (Grants and Loans Fill the Export Shortfall) 33

Table 7: Cost and Impact of Switching a Constant Percentage of Loans to
Grants 34 Table 8: Cost and Impact of Four Options Requested by Congress
for Increasing Debt Relief to 27 Poor Countries 35

Table 9: 	Cost and Impact of Strategy 1: Switching the Minimum Percentage
of Loans to Grants for Each Country to Achieve Debt Sustainability in 2020
37

Table 10: Cost and Impact of Strategy 2: Paying Debt Service Over 5
Percent of Government Revenue 38

Table 11: Cost and Impact of Strategy 3: Switching Loans to Grants
toMaximize Debt Sustainabilityand Paying Debt Service in Excess of 5
Percent of Government Revenue 39

Table 12: Likelihood of Achieving Debt Sustainability under Different
Scenarios in 2020 41

Figures Figure 1:  Potential Cost of Topping-up Assistance by Creditor     
                                     (millions of dollars)                 11
           Figure 2:  Estimated Cost to Achieve Economic Growth and Debt   
                     Relief Targets for 27 Countries through 2020 in 2003  
                                      Present Value Terms                  14 

Contents

Abbreviations 

AfDB African Development Bank
AfDF African Development Fund
DSA Debt Sustainability Analysis
FSO Fund for Special Operations
HIPC Heavily Indebted Poor Country
IBRD International Bank for Reconstruction and Development
IDA International Development Association
IaDB Inter-American Development Bank
IMF International Monetary Fund
MDB Multilateral Development Banks

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protection in the United States. It may be reproduced and distributed in
its entirety without further permission from GAO. However, because this
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separately.

                                    Contents

A

United States General Accounting Office 

Washington, D.C. 20548 

April 14, 2004

The Honorable Michael G. Oxley
Chairman
The Honorable Barney Frank
Ranking Minority Member
Committee on Financial Services
House of Representatives

The Honorable Peter T. King
Chairman
The Honorable Carolyn B. Maloney
Ranking Minority Member
Subcommittee on Domestic and International
Monetary Policy, Trade, and Technology
Committee on Financial Services
House of Representatives

The Heavily Indebted Poor Countries (HIPC) Initiative is a joint bilateral
and multilateral effort to provide debt relief to up to 42 poor countries
to
help them achieve long-term economic growth and debt sustainability.1
The current cost for the initiative is projected at about $41 billion in
present
value terms, funded almost equally between bilateral and multilateral
creditors.2 Although the initiative was launched in 1996, multilateral
creditors are still having difficulty financing their share of the
initiative,
even with assistance from bilateral donors. GAO and others have reported
that the existing initiative is unlikely to provide sufficient debt relief
to
achieve long-term debt sustainability, primarily because export earnings
are likely to be significantly less than projected under the initiative.

1Under the HIPC Initiative a country is considered to be "debt
sustainable" if, in most cases, the ratio of a country's debt (in present
value terms) to the value of its exports is at or below the150 percent
threshold, which is believed to contribute to countries' ability to make
their future debt payments on time and without further debt relief.

2All figures in this report are stated in 2003 present value terms, unless
otherwise noted. The present value of debt is a measure that takes into
account the concessional, or below market, terms that underlie most of
these countries' loans. The present value is defined as the sum of all
future debt-service obligations (interest and principal) on existing debt,
discounted at the market interest rate. The nominal value of the debt is
greater than the present value. The cost estimate is for 34 countries,
because 4 countries are not likely to need relief under the initiative and
the data for 4 other countries are considered unreliable.

You asked us to analyze financing issues concerning this initiative as
well as options for providing additional relief to help countries achieve
debt targets, including debt sustainability and lower debt service
burdens. In response, we assessed (1) the multilateral development banks'
projected funding shortfall for the HIPC Initiative and (2) the amount of
funding, including development assistance, needed to help countries
achieve economic growth and debt relief targets.

The three multilateral development banks (MDB) included in our scope are
the World Bank/International Development Association (IDA), the African
Development Bank (AfDB)/African Development Fund, and the Inter-American
Development Bank (IaDB)/Fund for Special Operations (FSO). Together they
account for about 70 percent of multilateral creditors' debt relief costs.
To determine the amount and timing of funding shortfalls, we analyzed the
banks' total and annual cost estimates and funding sources for 34
countries. To determine the amount of funding needed to achieve economic
growth and debt relief targets, we analyzed World Bank and International
Monetary Fund (IMF) projections through 2020 for the 27 countries that
have qualified for debt relief thus far, focusing on estimates of key
economic variables including debt stock, debt service, donor assistance,
government revenue, and exports. We projected these countries' debt ratios
over an 18-year period, examining the impact of realistic export growth
rates, various percentages of grants, and varying amounts of debt service
assistance. In addition, we analyzed the impact of fluctuations in export
growth on the likelihood that these countries will achieve debt
sustainability. We performed our work from June 2003 to February 2004 in
accordance with generally accepted government auditing standards. (See
app. I for the details of our scope and methodology and app. II for the
status of each country.)

Results in Brief 	The three key multilateral development banks we analyzed
face a funding shortfall of $7.8 billion in present value terms, or 54
percent of their total commitment, under the existing HIPC Initiative. The
World Bank and the AfDB have not determined how they would close this gap.
The World Bank has by far the most significant shortfall-$6 billion.
Despite significant assistance from donor governments, the African
Development Bank has a financing gap of about $1.2 billion. The IaDB is
fully funding its HIPC obligation by reducing its future lending resources
to poor countries by $600 million beginning in 2009. Based on the rates at
which the United States contributes to these three multilateral
development banks, we estimate that the United States could be asked to
contribute an additional

$1.8 billion to close the known financing shortfall for debt relief.
However, the total estimated funding gap is understated because the World
Bank does not include costs for four countries that are eligible for debt
relief but for which data are unreliable. In addition, all three banks do
not include estimates for additional relief that may be provided due to
deterioration in the countries' economic circumstances since they
qualified for debt relief under the existing initiative. The World Bank
and the IMF project that this additional relief could cost from $877
million to $2.3 billion.

Even if donors fully fund the current initiative, we estimate that the 27
countries that have qualified for debt relief may need more than $375
billion in additional assistance from donors to help them achieve their
economic growth and debt relief targets by 2020 in present value terms.
This $375 billion consists of $153 billion in expected development
assistance, $215 billion in assistance to cover lower export earnings, and
at least $8 billion in relief to reach debt targets. According to our
analysis of World Bank and IMF projections, these countries will need $153
billion to help them achieve their economic growth projections and debt
sustainability. However, we consider that amount to be an underestimate
because it assumes that countries will achieve overly optimistic export
growth rates. Under lower, more realistic historical export growth rates,
23 of the 27 countries are likely to experience higher debt burdens and
lower export earnings, leading to an estimated $215 billion shortfall over
18 years. In addition, we estimate that countries will need between $8
billion and $20 billion in debt relief to achieve their debt targets,
depending on the strategy chosen. Under these strategies, multilateral
creditors switch a portion of their loans to grants and/or donors pay
countries' debt service that exceeds 5 percent of government revenue.
Based on its historical share of bilateral and multilateral assistance,
the United States may be asked to contribute about 14 percent of this $375
billion, or approximately $52 billion over 18 years.

We received written comments on a draft of this report from Treasury,
World Bank, AfDB, and IaDB. IaDB agreed with our report. The three other
organizations said that historical export growth rates are not good
predictors of the future because significant structural changes are
underway in many countries that could lead to greater growth. We consider
these historical rates to be a more realistic gauge of future growth
because of these countries' reliance on highly volatile primary
commodities and other vulnerabilities such as HIV/AIDS.

Background 	The World Bank and IMF have classified 42 countries as heavily
indebted and poor; three quarters of these are in subSaharan Africa. In
1996, creditors agreed to create the HIPC Initiative to address concerns
that some poor countries would have debt burdens greater than their
ability to pay, despite debt relief from bilateral creditors.3 In 1999, in
response to concerns about the continuing vulnerability of these
countries, the World Bank and the IMF agreed to enhance the HIPC
Initiative by more than doubling the estimated amount of debt relief and
increasing the number of potentially eligible countries. A major goal of
the HIPC Initiative is to provide recipient countries with a permanent
exit from unsustainable debt burdens.

Under the enhanced HIPC Initiative, countries seeking debt relief must
first carry out economic and social reforms under specified programs. At a
country's decision point, the World Bank and the IMF assess the country's
eligibility to receive debt relief under the initiative. At the completion
point, the World Bank and the IMF assess whether the country has continued
to implement sound economic policies and is eligible to receive full debt
relief. To determine the amount of assistance that is required for each
country to achieve debt sustainability, the World Bank and the IMF prepare
detailed economic analyses called debt sustainability analyses (DSA),
which include economic projections covering 20 years. To date, 27 poor
countries have reached their decision points, and 10 of these have reached
completion points.4 (See app. II for the status of each country.)

In 1996, to help multilateral creditors meet the cost of the HIPC
Initiative, the World Bank established a HIPC Trust Fund with
contributions from member governments and some multilateral creditors. The
HIPC Trust Fund has received about $3.4 billion (nominal) in bilateral
pledges and contributions, including $750 million in pledges from the U.S.
government. The United States has already paid $600 million of this total.

3Efforts to relieve the debt burdens of poor countries have concentrated
on the external debt of these countries. Thus, debt sustainability is
defined in terms of repaying debt owed to external creditors, with export
earnings considered an important source of revenue for repaying this debt.

4Eligibility for the HIPC Initiative is scheduled to expire at the end of
calendar year 2004. However, previous sunset dates have been extended.

Key Multilateral Development Banks Face Significant Challenges to
Financing the Existing Initiative

The World Bank, AfDB, and IaDB face a combined financing shortfall of $7.8
billion in present value terms under the existing HIPC Initiative. (See
table 1.)

Table 1: Financing Challenges Facing Key Multilateral Creditors (U.S. dollars in 2003 present value terms) 

                          Estimated               Estimated  
                          amount of   Financing   financing        Estimated  
                         debt relief  identified        gap  U.S. share of    
            Institution    (billion)   (billion)  (billion)    financing gap  
              World Bank     IDA 8.8     IDA 2.8    IDA 6.0       1.2 billion 
                     (34    IBRD 0.7    IBRD 0.7             
             countries)a                                     
                           Total 9.5   Total 3.5             
                 African          3.5         2.3        1.2 Between 132      
             Development                                     
          Bank Group (32                                      and 348 million 
             countries)b                                     
          Inter-American          1.4         0.8       0.6d      300 million 
             Development                                     
                 Bank (4                                     
             countries)c                                     
                  Total         14.4         6.6        7.8  Between 1.6      
                                                             and 1.8 billion  

Source: GAO analysis of World Bank, African Development Bank Group, and
IaDB data.

Notes:

IDA = International Development Association.

IBRD = International Bank for Reconstruction and Development.

aOf the 42 countries potentially eligible for debt relief, 4 countries are
not likely to need relief under the initiative. Of the remaining 38
countries, the World Bank does not include estimates for 4 countries whose
data it considers unreliable.

bOf the 42 countries potentially eligible for debt relief, 34 countries
are members of the AfDB. Of these 34 countries, 2 countries are not likely
to need relief under the initiative.

cOf the 42 countries potentially eligible for debt relief, only 4
countries are members of the IaDB.

dThe IaDB's estimated financing includes a reduction in future lending
resources in the Fund for Special Operations, its concessional lending
arm.

The World Bank's share of the shortfall is $6 billion, which it will begin
addressing in spring 2004. The AfDB needs to secure at least $1.2 billion
in additional funding. The IaDB expects to finance its $600 million
shortfall by reducing future lending to poor countries.5 Bilateral donors
may be asked to contribute additional funds under the existing initiative;
the United States may be called on to contribute an additional $1.8
billion.6 However, the total projected funding gap of $7.8 billion is
understated because the World Bank estimate does not include the costs for
four countries that are eligible for debt relief but for which data are
unreliable. In addition, the estimates of all three banks do not account
for any additional relief that may be provided to countries because their
economies deteriorated since they qualified for debt relief.

The World Bank Has An Estimated Financing Gap of $6 Billion

Financing the enhanced HIPC Initiative remains a major challenge for the
World Bank. The total cost of the enhanced HIPC Initiative to the World
Bank for 34 countries is estimated at $9.5 billion. About $8.8 billion of
this debt relief cost is for the highly concessional loans made by IDA,
which provides financing to the World Bank's poorest member countries. The
remaining $700 million in debt relief is for loans made by the
International Bank for Reconstruction and Development (IBRD), which
provides market-based loans to theWorldBank's middle-income
membercountries.7 As of June 30, 2003, the World Bank had identified $3.5
billion in financing, resulting in a gap of about $6 billion. (See table
1.)

5The multilateral development banks' financing gap takes into
consideration pledges from the HIPC Trust Fund. The HIPC Trust Fund was
created to help multilateral creditors meet their share of debt relief
cost. The Fund includes money pledged/contributed by member governments
and some multilateral creditors.

6Factors such as changes in the foreign exchange value of the U.S. dollar
could substantially alter total costs.

7The IBRD does not expect to write off this debt. The IBRD expects the
financing for debt relief on IBRD loans to come from HIPC Trust Fund
resources and through new credits from IDA to certain affected countries.
These HIPC Trust Fund resources and IDA credits are to be funded by
resources other than transfers from IBRD's net income.

To cover this gap, we estimate that IDA's financing needs beginning in
2006 for 34 HIPCs will be about $584 million on average per year through
2020.8 In 2002, donor countries agreed to review the financing gap during
the IDA14 replenishment discussions beginning in spring 2004.9 If donor
countries close the financing gap through future replenishments, we
estimate that the U.S. government could be asked to contribute $1.2
billion, which is based on its historical replenishment rate of 20 percent
to IDA.10

Over 70 percent of the funds IDA has identified thus far come from
transfers of IBRD's net income to IDA. Although IBRD has not committed any
of its net income for HIPC debt relief beyond 2005, we estimate that the
financing gap of $6 billion could be reduced to about $3.5 billion, or by
about 42 percent, if the net income transfers from the IBRD continue.11
Similarly, the U.S.'s potential share decreases by the same percentage,
from $1.2 billion to about $700 million.12 However, transferring more of
IBRD's net income to HIPC debt relief could come at the expense of other
IBRD priorities. For example, a portion of its net income is retained
annually to ensure IBRD's financial integrity. IBRD has also provided
substantial resources to IDA for its new lending, representing about 24
percent of its net income over the last 5 years. Moreover, countries that
borrow from IBRD have also benefited because this net income provides
partial waivers of the interest and commitment fees IBRD charges on its
loans.

8This is a nominal dollar estimate.

9Replenishment refers to periodic contributions by member countries that
are agreed upon by the institution's board of governors to fund
concessional lending operations over a specified period of time, normally
every 3 years. IDA's next replenishment (the 14th) is expected to take
effect in July 2005.

10According to IDA's Articles of Agreement, the Association shall review
the adequacy of its resources and authorize an increase in members'
subscriptions. All decisions to increase members' subscriptions are made
by a two-thirds majority of the total voting power. No member is obligated
to subscribe; however, not participating in an increase may affect a
country's voting power and influence in the Association.

11For this analysis, we assumed that IBRD's net income transfers continue
until 2021 at the maximum rate of $240 million per year beginning in 2006
and decline thereafter to cover all remaining scheduled HIPC relief
through 2035.

12While the U.S. government is not legally obligated to help close the
HIPC financing shortfall of the MDBs, the United States may have an
implicit fiscal exposure, which is an implied commitment embedded in the
government's current policies or in the public's expectations about the
role of the government. See U.S. General Accounting Office, Fiscal
Exposures: Improving the Budgetary Focus on Long-Term Costs and
Uncertainties, GAO03-213, (Washington, D.C.: January 24, 2003) for a
discussion of implicit exposures.

AfDB Has a Financing Gap of at Least $1 Billion

The total cost of debt relief to the AfDB for its 32 member countries is
estimated at about $3.5 billion (see table 1). 13 As of September 2003,
the AfDB has identified financing of approximately $2.3 billion, including
$2 billion from the HIPC Trust Fund and about $300 million from its own
resources. Thus, AfDB is faced with a financing shortfall of about $1.2
billion in present value terms.

Taking into account the total funds the AfDB has identified thus far from
the HIPC Trust Fund, its internal resources, and its annual cash flow
projections, AfDB estimates that it would have sufficient funds to cover
its share of HIPC commitment to its 23 current decision and completion
point countries up to 2007.14 We estimate that AfDB will need about $400
million to cover its shortfall for its 23 eligible countries, as well as
about $800 million for its 9 potentially eligible countries.15

We estimate that the U.S. share of the AfDB's financing shortfall is
between $132 and $348 million, depending on the method used to close the
$1.2 billion shortfall. First, assuming that the United States contributes
at its historical replenishment rate of 11 percent, we estimate the U.S.
share of AfDB's financing shortfall could be at least $132 million.16
However, as of October 2002, the United States had contributed or pledged
approximately 29 percent of the bilateral donors' resources committed to
the HIPC Trust Fund. Under that contribution rate, the U.S. share of the
AfDB's financing shortfall would be about $348 million.

13Most of the debt of these countries is owed to the African Development
Fund, the concessional lending arm of the bank.

14AfDB's annual cash flow projection covers the period 2000 through 2038.

15According to the AfDB, the $800 million is likely to be an
underestimate, given that most of the nine remaining countries are
post-conflict countries that will require high levels of debt relief when
the international community determines that they are ready to become
eligible for HIPC debt relief.

16According to AfDB's Articles of Agreement, the authorized capital stock
of the AfDB may be increased when the Board of Governors deems it
advisable. The decision of the board is adopted by a two-thirds majority
of the total number of governors, representing not less than
three-quarters of the total voting power of the members. No member is
obligated to subscribe to any part of a capital stock increase, but not
participating in an increase could affect a country's voting power and
influence in AfDB.

IaDB Expects to Finance HIPC Commitments at the Expense of Future Lending

The IaDB expects to provide about $1.4 billion for HIPC debt relief to
four countries-Bolivia, Guyana, Honduras, and Nicaragua. Most of the
relief is for debt owed to the FSO, the concessional lending arm of the
IaDB that provides financing to the bank's poorer members. As of January
2004, the IaDB has identified financing for the full $1.4 billion, about
$200 million from donor contributions through the HIPC Trust Fund and $1.2
billion through its own resources. Although the IaDB is able to cover its
full participation in the HIPC Initiative, the institution faces about a
$600 million reduction in lending resources in its FSO lending program for
the years 2009 through 2019 as a direct consequence of providing HIPC debt
relief.

According to IaDB officials, the FSO will not have enough money to lend
for the years 2009 through 2013. To eliminate this shortfall, donor
countries may be asked to provide the necessary funds through a future
replenishment contribution.17 Assuming that donor countries agree to close
the financing gap, we estimate that the U.S. government could be asked to
contribute about $300 million so that the FSO can continue lending to poor
countries after 2008. This estimate is based on the 50-percent rate at
which the U.S. historically contributes to the FSO.

Financing Shortfall Is Understated

Four Countries' Data Are Unreliable

The $7.8 billion shortfall for the three MDBs is understated for two
reasons. First, data for four eligible countries are unreliable. Second,
the financing shortfall does not include any additional relief that may be
provided to countries because their economies deteriorated since they
originally qualified for debt relief. The World Bank and IMF estimate that
this additional relief could range from $877 million to $2.3 billion.

The estimated financing shortfall for two institutions-IDA and the AfDB-
is understated because the data for four likely recipient countries-Laos,
Liberia, Somalia, and Sudan-are unreliable. The World Bank considers
existing estimates of the countries' total debt and outstanding arrears to
be incomplete, subject to significant change, and it is uncertain when the
countries will reach their decision points. Similarly, the estimated costs
of

17According to the IaDB's Articles of Agreement, the FSO shall be
increased through additional contributions by the members when the Board
of Governors considers it advisable by a three-fourths majority of the
total voting power of the member countries. No member, however, is
obligated to contribute any part of such increase, though not contributing
may affect a country's voting power and influence in the Bank.

debt relief for three of AfDB's countries-Liberia, Somalia, and Sudan-are
likely understated due to data reliability concerns.

Additional Relief at Countries' Under the enhanced HIPC Initiative,
creditors and donors could provide Completion Points Poses countries with
additional debt relief above the amounts agreed to at their Additional
Costs to MDBs and decision points, referred to as "topping up." This
relief could be provided Donor Governments when external factors, such as
movements in currency exchange rates or

declines in commodity prices, cause countries' economies to deteriorate,
thereby affecting their ability to achieve debt sustainability. The World
Bank and IMF project that seven to nine countries may be eligible for
additional debt relief.18 Our estimate of the likely funding shortfalls
confronting the MDBs, discussed above, does not account for this potential
additional debt relief. The World Bank and IMF made a preliminary estimate
that this additional relief could cost from $877 million to about $2.3
billion, depending on whether additional bilateral relief is included or
excluded from the calculation. (See fig. 1.)

18The current HIPC framework allows for topping up of relief only in
exceptional cases where a country's debt ratios have worsened as a result
of exogenous shocks, leading to a fundamental change in its economic
circumstances.

Figure 1: Potential Cost of Toppingup Assistance by Creditor (millions of dollars) Methodology II (without additional bilateral relief)

Methodology I (with additional bilateral relief) 

Total cost: $877 million Total cost: $2.3 billion World Bank World Bank

AfDB

AfDB

Other multilaterals

Other multilaterals

Paris ClubParis Club Other bilaterals Other bilaterals

Source: World Bank and IMF estimates based on data in their latest debt
sustainability analyses, August 2003.

Note: The Paris Club is a group of bilateral creditor countries that meets
to negotiate sovereign debt rescheduling and debt relief. Commercial
creditors' costs are grouped with other bilaterals and account for about
10 percent of this subgroup's costs.

Furthermore, the topping-up estimate considered only the 27 countries that
have reached their decision or completion point; the estimate may rise as
additional countries reach their decision points.

Donor countries currently disagree on whether bilateral debt relief
provided outside the HIPC framework should be counted as part of the debt
relief needed for countries to achieve their debt sustainability targets.
Donors that support including additional bilateral relief in topping-up
calculations would benefit through lower additional costs. For instance,
most Paris Club countries would not have additional costs for relieving
their bilateral debt because they have already pledged 100-percent debt
relief,19 but they could be asked to fund the multilateral creditors' debt
relief. In contrast, if additional bilateral relief were excluded from
toppingup calculations, creditors' HIPC costs would increase
substantially. In this case, Paris Club creditors would be faced with
higher HIPC bilateral costs, as well as potential contributions to cover
higher multilateral creditors' costs. Donors that support this method
intend to provide HIPCs with a cushion against external shocks by ensuring
that additional bilateral relief results in debt ratios below the targets.

Using the lower cost methodology and limiting the analysis to the
countries that have qualified but have yet to receive final debt relief,20
the World Bank and the IMF project that at their completion points seven
countries would exceed the debt-to-export ratio calculated at their
decision points.21 In addition, if the lower cost methodology were to
consider countries that have already reached their completion points and
received topping up, the total estimate would increase to about $877
million. The World Bank's share would be $459 million, and the AfDB's
share would be $127 million. (See fig. 1.)

19Under the first methodology, the current bilateral cost is associated
with Russia and non-Paris Club bilateral and commercial creditors, which
did not provide additional bilateral assistance above the enhanced HIPC
agreement.

20When IDA performed the analysis, 19 countries were between the decision
and completion points, and 8 had reached their completion points for a
total of 27 countries. Currently, 10 countries have reached their decision
points, and 17 are between decision and completion points.

21The seven countries are Chad, Ethiopia, Malawi, Niger, Rwanda, The
Gambia, and Sao Tome and Principe.

If the additional bilateral relief is excluded from the topping up
calculation, as some donor countries advocate, the amount of additional
debt relief increases from $877 million to $2.3 billion, including the
cost for countries that have already reached their completion points. 22
Under this methodology, the cost to the World Bank and AfDB for topping-up
would approximately double.23 (See fig. 1.) Depending on the method used
to calculate topping up, the additional cost to the U.S. government could
range from $106 million to $207 million for assistance to the World Bank
and AfDB, based on the U.S. historical replenishment rates to these
banks.24

Achieving Economic Growth and Debt Relief Targets Requires Substantial
Financial Assistance

Even if the $7.8 billion shortfall is fully financed, we estimate that, if
exports grow slower than the World Bank and IMF project, the 27 countries
that have qualified for debt relief may need more than $375 billion in
additional assistance to help them achieve their economic growth and debt
relief targets through 2020. This $375 billion consists of $153 billion in
expected development assistance, $215 billion in assistance to fund
shortfalls from lower export earnings, and at least $8 billion for debt
relief (see fig. 2). If the United States decides to help fund the $375
billion, we estimate it would cost approximately $52 billion over 18
years.

22This figure includes $149 million for Burkina Faso and Benin under
methodology I and $326 million for Benin, Burkina Faso, and Mauritania
under methodology II. Burkina Faso has already received topping up of $129
million, and the IMF and World Bank boards decided in March 2003 that
Benin did not qualify for topping up at its completion point. According to
the World Bank and IMF, the estimates for these countries are provided for
information purposes and do not necessarily imply that methodology II
would be applied retroactively.

23Declines in discount rates and the U.S. dollar exchange rate since these
preliminary cost estimates were calculated could increase total costs. The
World Bank and IMF estimate that the cost in the baseline scenario could
rise to about $1.5 billion under methodology I and about $3.4 billion
under methodology II, using lower exchange and discount rates prevailing
as of June 30, 2003 (end-December 2002 for those countries likely to reach
completion point in 2003). For example, methodology I estimates of topping
up costs for Ethiopia increased from $334 million to $618 million, and
from $71 million to $103 million for Niger.

24Using updated exchange and discount rates, the estimated additional cost
to the U.S. government could range from $179 million to $316 million for
assistance to the World Bank and AfDB.

Figure 2: Estimated Cost to Achieve Economic Growth and Debt Relief Targets for 27 Countries through 2020 in 2003 Present Value Terms 

Countries Projected to Receive Development Assistance through 2020

According to our analysis of World Bank and IMF projections, bilateral
donors and multilateral creditors are expected to provide $153 billion in
development assistance to 27 HIPCs from 2003 to 2020. These estimates
assume that the countries will follow their World Bank and IMF development
programs, including undertaking recommended reforms and achieving economic
growth rates consistent with reducing poverty and maintaining long-term
debt sustainability.25 These conditions will help countries meet their
development objectives, including the Millennium Development Goals that
world leaders committed to in 2000. These goals include reducing poverty,
hunger, illiteracy, gender inequality, child and maternal mortality,
disease, and environmental degradation. Another goal calls on rich
countries to build stronger partnerships for development and to relieve
debt, increase aid, and give poor countries fair access to their markets
and technology.

25Debt sustainability under the current HIPC standard is defined as a
present value external debt stock-to-export ratio less than or equal to
150 percent. The World Bank and IMF established a different debt
sustainability indicator for countries with very open economies. Because
these countries have a large export base compared with other measures of
debt servicing capacity, the fiscal criterion of present value
debt-to-fiscal revenues (250 percent) is considered a more appropriate
debt sustainability measure. The four countries that qualify under this
criterion are Ghana, Guyana, Honduras, and Senegal.

                Source: GAO analysis of World Bank and IMF data.

Countries Face a Substantial Financial Shortfall in Export Earnings

We estimate that 23 of the 27 HIPC countries will earn about $215 billion
less from their exports than the World Bank and IMF project. The World
Bank and IMF project that all 27 HIPC countries will become debt
sustainable by 2020 if their exports grow at an average of 7.7 percent
each year, they receive debt relief under the HIPC Initiative, and donors
provide their expected assistance. However, as we have previously
reported, the projected export growth rates are overly optimistic.26 We
estimate that export earnings are more likely to grow at the historical
annual average of 3.1 percent-less than half the rate the World Bank and
IMF project. Under lower, historical export growth rates, countries are
likely to have lower export earnings and unsustainable debt levels (see
table 2). We estimate the total amount of the potential export earnings
shortfall over the 2003 to 2020 projection period to be $215 billion.27

26U.S. General Accounting Office, Developing Countries: Status of the
Heavily Indebted Poor Countries Debt Relief Initiative, GAO/NSIAD-98-229
(Washington, D.C.: Sept. 30, 1998); U.S. General Accounting Office,
Developing Countries: Debt Relief Initiative for Poor Countries Faces
Challenges, GAO/NSIAD-00-161 (Washington, D.C.: June 29, 2000); U.S.
General Accounting Office, Developing Countries: Switching Some
Multilateral Loans to Grants Lessens Poor Country Debt Burdens, GAO-02-593
(Washington, D.C.: April 19, 2002); and U.S. General Accounting Office,
Developing Countries: Challenges Confronting Debt Relief and IMF Lending
to Poor Countries, GAO-01-745T (Washington, D.C.: May 15, 2001).

27If future export growth rates exceed historical levels, the projected
export earnings shortfall would be lower. We estimate that for every
percentage-point increase (decrease) in export growth rates from the
historical average, the export earnings shortfall would decrease
(increase) by about $35 billion.

Table 2: World Bank/IMF and Historical Export Growth Rates, DebttoExport Ratios, and Export Earnings Shortfall 

Debttoexport ratios in 2020 (percentage) 

Export growth rates (percentage) 

                                            Under World Bank/IMF growth rate 

Under historical growth ratea 

World Bank/IMF (projected) Export earnings shortfall (billions of dollars) 

Historical (19812000) 

          Benin               80.6    150.9       8.3        5.1         $3.7 
         Bolivia             122.5    225.7       7.6        4.0    
      Burkina Faso           118.3    477.9       9.0        1.4    
        Cameroon              71.1    228.5       6.3       -0.1    
          Chad               119.5    137.0       11.9       7.9    
           DRC                90.6    625.9       9.4       -3.2    
        Ethiopia              75.5    199.0       8.0        2.9    
       The Gambia             83.2    75.9        6.3        7.5    
          Ghana               94.5    81.1        6.6        8.0    
         Guinea               90.3    217.2       6.6        1.7    
      Guinea-Bissau          120.1    153.7       8.8        7.8    
         Guyana               49.8    48.7        3.7        4.2    
        Honduras              31.3    46.0        9.4        7.2    
       Madagascar             79.0    111.0       7.7        6.0    
         Malawi              121.6    132.5       4.8        4.3    
          Mali               139.7    119.0       6.3        6.9    
       Mauritania             82.9    236.1       6.3        1.3    

          Mozambique            40.6   79.7     10.3   5.2               21.1 
          Nicaragua             59.6   94.3     8.0    5.7                6.9 
            Niger              137.5   643.2    7.0    -1.6               3.8 
            Rwanda             131.6  1,403.7   10.7   -3.6               4.2 
    Sao Tome and Principe      144.0   946.3    7.4    -4.2               0.4 
           Senegal              56.9   98.7     6.0    3.0               11.2 
         Sierra Leone          104.3   831.8    9.1    -3.4               2.9 
           Tanzania            117.1   149.2    7.0    6.2                5.3 
            Uganda             104.3   263.8    9.5    4.3                9.6 
            Zambia             100.7   270.3    6.6    0.6               12.3 
           Average              95.1   298.0    7.7    3.1      Total $214.5  

Source: GAO analysis of IMF and World Bank debt sustainability analyses.

aThis analysis assumes countries incur no further debt as a result of
their export earnings shortfall. Under this assumption, 12 countries are
projected to be sustainable: Chad, The Gambia, Ghana, Guyana, Honduras,
Madagascar, Malawi, Mali, Mozambique, Nicaragua, Senegal, and Tanzania.

High export growth rates are unlikely because HIPC countries rely heavily
on primary commodities such as coffee, cotton, and copper for much of
their export revenue. Historically, the prices of these commodities have
fluctuated, often downward, resulting in lower export earnings and
worsening debt indicators. A 2003 World Bank report found that the World
Bank/IMF growth assumptions had been overly optimistic and recommended
more realistic economic forecasts when assessing debt sustainability.28

Since HIPC countries are assumed to follow their World Bank and IMF reform
programs, any export shortfalls are considered to be caused by factors
outside their control such as weather and natural disasters, lack of
access to foreign markets, or declining commodity prices. Although failure
to follow the reform program could result in the reduction or suspension
of development assistance, export shortfalls due to outside factors would
not be expected to have this result. For countries to achieve the economic
growth rates consistent with their development goals, donors would need to
fund the $215 billion shortfall. Without this additional assistance,
countries would grow slower, resulting in reduced imports, lower gross
domestic product (GDP), and lower government revenue. These conditions
could undermine progress toward poverty reduction and other goals.

Additional Assistance Will Lead to Debt Sustainability in Most Countries

Even if donors make up the export earnings shortfall, more than half of
the 27 countries will experience unsustainable debt levels.29 We estimate
that these countries will require $8.5 to $19.8 billion more to achieve
debt sustainability and debt service goals.30 In considering strategies
for future debt relief, we examined (1) switching various percentages of
multilateral loans to grants and (2) paying each country's debt
service-to-fiscal revenue ratio in excess of 5 percent of government
revenue. A country's debt service-to-fiscal revenue ratio more closely
links the country's debt burden to the ability of the public sector to
generate income. Many HIPC countries

28World Bank, Operation Evaluations Department, The Heavily Indebted Poor
Countries Debt Initiative, An OED Review, February 20, 2003.

29Under historical export growth rates, more than half of the countries
experience unsustainable debt levels. These debt levels can be reduced
regardless of whether donors address the export earnings shortfall.
However, if donors do not fund the export earnings shortfall, countries
will likely experience significant reductions in economic growth.

30This estimate assumes that donors fund the $215 billion export shortfall
with grants only, as grants avoid the build up of new debt.

are suffering public health crises, most notably HIV/AIDS, which could put
an additional burden on government revenue.

After examining 40 strategies for providing debt relief, we narrowed our
analysis to three specific strategies: (1) switching the minimum
percentage of loans to grants for future multilateral development
assistance for each country to achieve debt sustainability,31 (2) paying
debt service in excess of 5 percent of government revenue, and (3)
combining strategies (1) and (2).32 We chose these strategies because they
maximize the number of countries achieving debt sustainability while
minimizing costs to donors.33 We found that, with this debt relief, as
many as 25 countries could become debt sustainable34 and all countries
achieve a debt service-to-revenue ratio below 5 percent over the entire
18-year projection period (see table 3).

31Of the $153 billion in expected future development assistance, $75
billion is comprised of loans from the multilateral development banks.
This strategy would switch the minimum amount of these loans to grants to
achieve debt sustainability. Because these loans would raise a country's
debt to an unsustainable level under historical growth rates, we consider
switching them to grants to be the equivalent to debt relief.

32See appendix IV for a more detailed discussion of the different
strategies examined.

33Our analysis assumes that under historical export growth rates,
countries will have difficulty repaying their future debt burdens. As
such, we did not take into account any reduction in future costs to
bilateral donors that could arise if HIPCs were able to repay their
multilateral loans.

34Niger and Rwanda do not achieve debt sustainability, even with
100-percent grants because their historical export growth rates are
negative and their existing debt levels are high.

Table 3: Cost and Impact of Three Strategies for Providing Debt Relief to 27 Poor Countries 

Strategy 

Cost of debt relief (billions of dollars) 

Number of countries achieving debt sustainability in 2020 Number of countries paying 5 percent or less of revenue in debt service every year 20032020 

1. 	Switch the minimum percentage of loans to grants for each country to
achieve debt sustainability $8.5 25

2. 	Pay debt service in excess of 5 percent of government revenue $12.6 12

3. 	Switch the minimum percentage of loans to grants and then pay debt
service in excess of 5 percent of revenue $19.8 25

Source: GAO analysis of World Bank and IMF data.

In the first strategy, multilateral creditors switch the minimum
percentage of loans to grants for each country to achieve debt
sustainability in 2020. We estimate that the additional cost of this
strategy would be $8.5 billion.35 The average percentage of loans switched
to grants for all countries under this strategy would be 33.5 percent.36
Twelve countries are projected to be debt sustainable with no further
assistance. In addition, 13 countries would achieve sustainability by
switching between 2 percent (Benin) and 96 percent (Sao Tome and Principe)
of new loans to grants (see table 4). A total of 25 countries could be
debt sustainable by 2020, although only 2 countries would achieve the
5-percent debt service-to-revenue target over the entire period.

35This cost represents loan receipts from 2003-2060 that are forgone after
switching a percentage of new loans to grants.

36The percentage of loans switched to grants necessary to achieve debt
sustainability varies by country and results in different costs and
impacts for each country. For a breakdown of costs and impact by country,
see appendix IV.

Table 4: Percentage of Loans Switched to Grants to Achieve Debt Sustainabilitya Loans switched to grants Country (percentage) 

Benin

                                  Bolivia 32.7

                               Burkina Faso 86.9

                                 Cameroon 42.7

Chad

                             Congo (Dem. Rep.) 89.0

                                 Ethiopia 42.4

The Gambia

Ghana

                                  Guinea 39.5

Guinea-Bissau

Guyana

Honduras

Madagascar

Malawi

Mali

                                Mauritania 57.3

Mozambique 0.0 Nicaragua 0.0 Nigerb 100.0 Rwandab 100.0 Sao Tome and
Principe 95.9 Senegal 0.0 Sierra Leone 93.6 Tanzania 0.0 Uganda 57.1
Zambia 61.3

Average 33.5 

Source: GAO analysis of World Bank and IMF data.

aThis assumes countries receive grants to fund their export shortfall.
bNiger and Rwanda do not achieve debt sustainability, even with
100-percent grants.

The second strategy is aimed at reducing each country's debt service
burden. Under this strategy, donors would provide assistance to cover
annual debt service above 5 percent of government revenue. We estimate

that this strategy would cost an additional $12.6 billion to achieve the
5percent debt service-to-revenue goal for all countries throughout the
projection period. Under this strategy, no additional countries become
debt sustainable other than the 12 that are already projected to be debt
sustainable with no further assistance. While this strategy would free
significant resources for poverty reduction expenditures, it could provide
an incentive for countries to pursue irresponsible borrowing policies. By
guaranteeing that no country would have to pay more than 5 percent of its
revenue in debt service, this strategy would separate the amount of a
country's borrowing from the amount of its debt repayment. Consequently,
it could encourage countries to borrow more than they are normally able to
repay, increasing the cost to donors and reducing the resources available
for other countries.

The third strategy combines strategies 1 and 2 to achieve both debt
sustainability and a lower debt-service burden. Under this strategy,
multilateral creditors would first switch the minimum percentage of loans
to grants to achieve debt sustainability, and then donors would pay debt
service in excess of 5 percent of government revenue. We estimate that
this strategy would cost an additional $19.8 billion, including $8.5
billion for switching loans to grants, and $11.3 billion for reducing debt
service to 5 percent of revenue. Under this strategy, 25 countries would
achieve debt sustainability in 2020, that is, 13 countries in addition to
the 12 that are projected to be debt sustainable with no further
assistance. All 27 countries would reach the 5-percent debt-service goal
for the duration of the projection period. However, similar to the
debt-service strategy above, this strategy dissociates borrowing from
repayment and could encourage irresponsible borrowing policies.

Potential U.S. Costs Are If the United States decides to help fund the
$375 billion, we estimate that it

Significant
could cost approximately $52 billion over 18 years, both in bilateral
grants and in contributions to multilateral development banks. This amount
consists of $24 billion, which represents the U.S. share of the $153
billion in expected development assistance projected by the World Bank and
IMF, as well as approximately $28 billon for the increased assistance to
the 27 countries. Historically, the United States has been the largest
contributor to the World Bank and IaDB, and the second largest contributor
to the AfDB, providing between 11 and 50 percent of their funding. The
U.S. share of bilateral assistance to the 27 countries we examined has
historically been about 12 percent.

Volatility in Export Earnings Likely to Further Increase the Cost of
Achieving Debt Sustainability

The export earnings of HIPC countries experience large year-to-year
fluctuations due to their heavy reliance on primary commodities, weather
extremes, natural disasters, and other factors.37 We found that the higher
a country's export volatility, the lower its likelihood of achieving debt
sustainability. For example, Honduras has low export volatility resulting
in little impact on its debt sustainability. In contrast, Rwanda has very
high export volatility, which greatly lowers its probability of achieving
debt sustainability. Since volatility in export earnings reduces
countries' likelihood of achieving debt sustainability, it is also likely
to further increase donors' cost as countries may require an even greater
than expected level of debt relief to achieve debt sustainability. See
appendix VI for a detailed discussion of the impact of fluctuations in
export earnings on debt sustainability.

Agency Comments and Our Evaluation

We received written comments on a draft of this report from the Department
of the Treasury, the World Bank, AfDB, and IaDB. These comments and our
evaluation of them are reprinted in appendixes VI, VII, VIII, and IX. The
organizations also provided technical comments that we discussed with
relevant officials and have included in this report where appropriate.

The Treasury stated that the report leaves the impression that very large
amounts of money will be needed in the future; the HIPC Trust Fund has a
financing gap; and the HIPC Initiative was never intended to ensure an
exit from unsustainable debt burdens. We agree that the challenge of
achieving high economic growth rates, while maintaining debt
sustainability, will likely require a substantial commitment of resources
from the donors beyond what the World Bank and IMF project. Our report
refers to financing challenges over the life of the initiative, not
specifically to the HIPC Trust Fund at this point in time. Under the
current pay-as-you-go approach, we did not identify a gap in the HIPC
Trust Fund. However, as Treasury recognized in its letter, there are
several factors that are likely to result in the need for additional
resources in the future. Our report provides estimates of those and other
emerging costs. Numerous official World Bank and IMF documents, as recent
as 2003, affirm that a permanent, lasting, or durable exit from
unsustainable debt remains a

37While the previous analysis assumed constant export growth rates,
consistent with the projections of the World Bank and IMF, the export
earnings of HIPC countries are in fact highly volatile.

central objective of the HIPC Initiative. While the Treasury may have
retreated from this objective, the World Bank and IMF have not.

The World Bank disagreed with the assumption that deviations from
projected debt profiles would be offset only through additional debt
relief or compensatory financing, and not through other forms of
adjustments. We disagree with this characterization. The report explicitly
states that donors have the option of not financing the export shortfalls,
however, this will reduce the funds available for poverty reduction and
hamper countries' economic growth. The World Bank concurred with our
finding that longterm projections of export growth rates need to be more
realistic and the report's emphasis on pursuing a sustainable development
finance strategy for countries that have received debt relief.

AfDB said that our estimate of the financing shortfall for the 23
countries that have already qualified for debt relief is overstated. We
disagree with this assessment. We consider our estimate to be more
accurate because it accounts for the actual amount of resources the AfDB
has identified to contribute to the initiative and converts the estimate
into 2003 dollars. The AfDB also said that our finding that countries are
likely to need considerable assistance in the future to meet their debt
relief and economic growth targets is likely to be correct.

All three institutions said that our use of historical export growth rates
are not good predictors of the future because significant structural
changes are underway in many countries that could lead to greater growth.
We consider these historical rates to be a more realistic gauge of future
growth because of these countries reliance on highly volatile primary
commodities and other vulnerabilities such as HIV/AIDS.

IaDB agreed with our report.

As agreed with your office, unless you publicly announce the contents of
this report earlier, we plan no further distribution until 30 days from
the report date. At that time, we will send copies of this report to the
Honorable John Snow, Secretary of the Treasury, and to appropriate
congressional committees. We are also sending copies to the World Bank,
AfDB, IaDB, and IMF. Copies will be made available to others upon request
and at no charge on the GAO Web site at http://www.gao.gov.

If you or your staff have any questions regarding this report, please
contact me on (202) 512-8979. Other GAO contacts and staff are
acknowledged in appendix X.

Joseph A. Christoff, Director International Affairs and Trade

Appendix I

                      Objectives, Scope, and Methodology 	

The Chairman and Ranking Member of the House Financial Services Committee
and the Chairman and Ranking Member of the Subcommittee on Domestic and
International Monetary Policy, Trade, and Technology of the House
Financial Services Committee asked us to conduct a review of the Heavily
Indebted Poor Countries (HIPC) Initiative. In response, we assessed (1)
the multilateral development banks' projected funding shortfall for the
existing HIPC Initiative and (2) the amount of funding, including
development assistance, needed to help countries achieve economic growth
and debt relief targets. The scope of our work involved three key
multilateral development banks (MDB)-the World Bank/International
Development Association (IDA), African Development Bank (AfDB)/African
Development Fund (AfDF), and the Inter-American Development Bank
(IaDB)/Fund for Special Operations (FSO), as well as the 42 potentially
eligible HIPCs.1 (See app. II for the status of the 42 countries
potentially eligible for HIPC and their membership in the MDBs.)

Methodology for Assessing the Financing Shortfall of the Existing
Initiative

To determine the MDBs' financing shortfall in present value terms, we
analyzed each bank's cost and the total funding each institution has
identified. This analysis covered 34 countries for the World Bank, 32 for
the AfDB, and 4 for the IaDB. To determine the amount of debt relief each
bank has committed to under the initiative, we reviewed documents prepared
by the World Bank, AfDB, IaDB, and the International Monetary Fund (IMF).2
To determine the amount of internal and external resources available for
each bank, we reviewed their implementation status reports and financial
statements. This information included the amount of money that each MDB
has already received or expects to receive from the HIPC Trust Fund. We
also determined the amount of funds each bank currently has and expects to
receive annually to calculate the present value of these commitments. This
analysis also enabled us to determine the magnitude and timing of
financing shortfalls for the three banks. To determine the amount of
financing the U.S. government may be asked to pay for the MDBs' financing
shortfall, we obtained and reviewed information from U.S. Treasury

1Yemen, Angola, Kenya, and Vietnam are not included in our analysis
because they are not expected to qualify for the HIPC Initiative. The
World Bank and IMF expect the countries' debt level to be sustainable
after they receive traditional debt relief.

2Heavily Indebted Poor Countries Initiative - Status of Implementation,
IMF and World Bank, (Washington, D.C.: September 12, 2003); from AfDB-List
of Countries Approved by the African Development Bank Group's Boards Under
the Enhanced HIPC Initiative; from IaDB-Enhanced HIPC Debt Relief Profile
for Bolivia, Honduras, Guyana, and Nicaragua.

                                   Appendix I
                       Objectives, Scope, and Methodology

officials regarding the U.S.'s historical rates of replenishment for each
MDB, as well as the amount of funds the U.S. government has provided and
plans to provide to each bank through the HIPC Trust Fund. We discussed
our analysis with officials from the three banks and the U.S. Treasury.

Methodology for Assessing the Amount of Funding Needed to Achieve Targets

General Approach
We analyzed World Bank and IMF staff projections contained within the debt
sustainability analyses (DSA) to assess the impact of historical export
growth rates3 on countries' debt burdens and the funding needed to achieve
economic growth and debt relief targets for the 27 countries that have
reached their decision or completion points.4 According to our analysis of
the DSAs, the World Bank and IMF project these countries will receive $153
billion in development assistance through 2020. Our analysis builds on
prior work that examined the HIPC Initiative, including the World Bank and
IMF DSAs.5 The DSAs contain 20-year economic projections for each
country's exports, national income, government revenue, debt stock, debt
service, and other economic variables. Most countries' DSAs also provide
projections of expected future loans, grants, and balance of payment gaps.
These projections provided us with the basis for creating a database to
assess the impact of changing key assumptions such as export growth rates,
percentage of multilateral assistance in the form of grants, and debt
service assistance payments on countries' debt targets.

3For most countries, historical export growth rates are lower than the DSA
projections.

4While 42 countries are potentially eligible for assistance under the HIPC
Initiative, only 27 countries thus far have qualified for debt relief.

5See U.S. General Accounting Office, Debt Relief Initiative for Poor
Countries Faces Challenges, GAO/NSIAD-00-161 (Washington, D.C.: June 29,
2000) and Switching Some Multilateral Loans to Grants Lessens Poor Country
Debt Burdens, GAO-02-593 (Washington, D.C.: April 19, 2002).

                                   Appendix I
                       Objectives, Scope, and Methodology

While the countries' DSAs are publicly available, data inconsistencies
among countries, gaps in information, and missing variables presented
challenges in constructing a database for our analyses. Since few DSAs
provided annual data for the entire 20-year projection period, and several
DSAs were missing key economic variables,6 we used a variety of
methodologies and statistical techniques to interpolate these missing data
and compute missing variables. Consistent with the World Bank and IMF
estimates, our analysis used the December 2002 Commercial Interest
Reference Rate (CIRR) for the Special Drawing Rights (SDR).7 We reviewed
the underlying methodology of the DSAs, vetted key assumptions, and
discussed country-specific questions with IMF staff. We supplemented our
analysis with additional information from IMF, World Bank, AfDB, and IaDB
officials.

Assessing the Impact of Lower To illustrate the impact of lower export
growth on the cost to donors and

Export Growth
on countries' debt burdens, we substituted each country's DSA export
growth rate with its historical growth rate. The difference between the
export earnings projected in the DSA and the export earnings projected
using the historical rates is defined as the export earnings shortfall. In
order to keep countries on their projected gross domestic product growth
paths, we assume that donors will need to make up this shortfall. The
present value of this shortfall for these 27 countries is $215 billion. We
also analyzed how the form of financing the shortfall impacts countries'
debt burdens. If the shortfall is made up by grants only, each country's
debt remains the same. However, the countries' debt-to-export ratios will
increase due to lower export earnings. If the shortfall is made up by a
mix of grants and loans,8 countries' debt will increase. To determine the
countries' new debt burden, we calculated the debt service and the net
present value of the debt from these new loans.

6Key economic variables such as IMF purchases, loan disbursements, grants,
or additional finance were not provided or could be deduced only by making
reasonable assumptions. For example, while most countries' DSAs contained
a balance of payments table indicating official grants and loans,
Mauritania had no balance of payments table and Rwanda's did not have
official grant and loan information.

7The SDR is a unit of account of the IMF. It is comprised of a weighted
average of the values of four currencies: the U.S. dollar, yen, euros, and
pound sterling.

8We assume the same loans-to-grants ratio as indicated in each country's
DSA.

                                   Appendix I
                       Objectives, Scope, and Methodology

Assessing 40 Strategies for To determine the amount of funding needed to
achieve debt relief targets

Increasing Debt Relief
under projected and historical growth rates, we analyzed 40 different
strategies for providing debt relief. These strategies included financing
the export earnings shortfalls with grants only or a combination of loans
and grants, switching the minimal percentage of loans to grants for each
country to achieve debt targets, switching a constant percentage of loans
to grants for all countries, and paying debt service in excess of 5
percent of government revenue. For each of these strategies, we calculated
the potential costs to donors to help countries achieve the debt targets.
These costs include foregone MDB loan receipts from switching baseline DSA
loans to grants and the debt service assistance needed to achieve the 5
percent debt service-to-revenue target. Finally, we compared the results
of the various strategies, highlighting those strategies that maximized
the number of countries achieving debt targets while minimizing costs to
donors.

Assessing the Impact of Export To assess how export volatility would
affect the likelihood of achieving

Volatility
debt sustainability we used a Monte Carlo process that randomly drew
18,000 export growth rates (for each of 1,000 runs, 18 simultaneous draws,
one for each year) from a distribution that reflects the historic growth
volatility of each country. The distribution was based on the annual
export growth rates from 1981 to 2000 for each country. In our Monte Carlo
process, the 18 growth intervals of each country were assigned an equal
probability of reoccurrence in the future. Projected export levels were
then extrapolated with the growth rates randomly drawn from the country's
export growth distribution. To ensure that positive and negative growth
rates were treated the same (or with equal weight) we incorporated growth
rates into our model in a multiplicative fashion rather than in an
additive form. The probability of achieving debt sustainability in 2020
was determined by the percentage of outcomes in 2020 with a debt-to-export
ratio below 150 percent.

Methodology for Assessing Data We used three key variables-debt stock,
historical rates of export growth,

Reliability
and MDBs funding sources-to assess both objectives. To assess the
reliability of the debt stock data, we (1) discussed the data with the IMF
and (2) reviewed their accounting process to determine outstanding country
debt. Every alleged debt is vetted by both the country and the creditor
and then independently reviewed by the IMF and the World Bank on behalf of
the Paris Club. As we found this process to be rigorous, we determined
that the debt stock data are sufficiently reliable for the purposes of our
engagement. To assess the reliability of the historical rates of export
growth, we reviewed the IMF and World Bank's published

Appendix I
Objectives, Scope, and Methodology

documentation and records from our prior work that utilized these data.
While these data have a number of limitations due to differences in data
collection procedures in the 27 countries we reviewed, they are (1) used
by the IMF to determine debt relief; (2) widely used by other acknowledged
experts in this area; and (3) the only source of available data.
Therefore, we determined that they are sufficiently reliable to use for
examining the impact of debt relief on countries' debt sustainability. To
assess the reliability of the internal and external funding sources of the
three MDBs, we (1) reviewed their debt relief financing plans; (2)
reviewed the audited financial statements of the HIPC Trust Fund; and (3)
corroborated the funding sources through interviews with knowledgeable MDB
staff in budget, accounting, and finance. We determined the funding
sources were sufficiently reliable for the purposes of this review.

We performed our work from June 2003 to February 2004 in accordance with
generally accepted government auditing standards.

Appendix II 	

Status of HIPCs and Their Membership in Three Multilateral Development
Banks

Forty-two countries are potentially eligible to receive debt relief under
the existing enhanced HIPC Initiative. Since the enhanced initiative was
launched in 1999, 10 countries have reached their completion points,
meaning that the World Bank and IMF have determined that the countries
have completed HIPC and are eligible to receive full debt relief.
Seventeen are currently at their decision points, meaning the World Bank
and IMF have determined they are eligible to receive debt relief under the
initiative (see table 5).

Table 5: Countries' Membership in Key Multilateral Development Banks 

           World Bank/IDA AfDB IaDB Completion point countries (10) 

Benin X X

Bolivia X

Burkina Faso X X

Guyana X

Mali XX

Mauritania X X

Mozambique X X

Nicaragua X

Tanzania X X

Uganda X X

                         Decision point countries (17) 

Cameroon X X

Chad XX

Congo (Dem. Rep.) X X
Ethiopia X X
The Gambia X X
Ghana X X
Guinea X X
Guinea-Bissau X X
Honduras X X
Madagascar X X
Malawi X X
Niger X X
Rwanda X X
Sao Tome and Principe X X

Appendix II
Status of HIPCs and Their Membership in
Three Multilateral Development Banks

(Continued From Previous Page)

                           World Bank/IDA AfDB IaDB 

Senegal X X

Sierra Leone X X

                     Countries still to be considered (11) 

Burundi X X

Central African Republic X X

Comoros X X

Congo (Rep. of) X X

Cote d'Ivoire X X

Lao People's Democratic X
Republic

Liberia X X

Myanmar X

Somalia X X

Sudan X X

Togo XX

                   Potentially debtsustainable countries (4) 

Angola X X

Kenya X X
Vietnam X
Yemen, Republic of X

Total 42 34

Source: IMF and International Development Association.

Appendix III

Alternative Strategies for Providing Debt Relief to Poor Countries

We analyzed 40 strategies for providing debt relief to poor countries. We
highlighted three of these strategies in this report because we found they
were the most cost effective. This appendix discusses some of the other
strategies we analyzed and shows why they are less cost effective. These
strategies included using a combination of multilateral loans and
bilateral grants to fill the export shortfall and switching a constant
percentage of loans to grants for all countries. In each case, donors face
a series of costs, including $153 billion in expected development
assistance, $215 billion to cover lower export earnings, and between $0
and $29.1 billion in debt relief.

Using a Combination of Loans and Grants to Fill the Export Shortfall

If donors choose to fill the $215 billion export shortfall with a
combination of loans and grants, rather than grants alone, we found that
countries will need $15.3 billion to $27.8 billion to achieve debt
sustainability and debtservice goals (see table 6). If donors provide
grants alone, we estimate that 12 of 27 countries would achieve debt
sustainability, while only 6 would achieve sustainability if donors used a
combination of loans and grants. We also found that the optimal percentage
of loans switched to grants necessary for each country to achieve debt
sustainability increases from 33.5 percent when grants fill the shortfall
to 55.6 percent when loans and grants fill the shortfall, thus increasing
the cost to donors. Providing grants alone is more cost effective because
it avoids the build up of debt, improving countries' likelihood of
achieving debt sustainability and reducing the need for more debt relief
in the future. The range in total cost of debt relief reflects the
variation in additional costs, from $8.5 billion to $27.8 billion, in
addition to the $153 billion in expected baseline development assistance
donors provide and the $215 billion needed to cover the shortfall in
countries' export earnings.

                                  Appendix III
                   Alternative Strategies for Providing Debt
                            Relief to Poor Countries

Table 6: Cost and Impact of Three Strategies for Providing Debt Relief to 27 Poor Countries (Grants and Loans Fill the Export Shortfall) 

Strategy 

Cost of debt relief (billions of dollars) 

Number of countries achieving debt sustainability in 2020 Number of countries paying 5 percent or less of revenue in debt service every year 20032020 

       Switch the minimum percentage of loans to grants                
       for each country to achieve debt sustainability        $15.3      25   
          Pay debt service in excess of 5 percent of                   
                      government revenue                      $19.5      6    
       Switch the minimum percentage of loans to grants                
     and then pay debt service in excess of 5 percent of               
                           revenue                            $27.8      25   

Source: GAO analysis of World Bank and IMF data.

Switching a Constant Percentage of Loans to Grants for All Countries

The strategies we examined in this report determined the minimum
percentage of grants necessary for each country to achieve debt
sustainability and resulted in a different percentage of grants for each
country. While the provision of a consistent percentage of grants to each
country may be the most equitable, we found that it would not be as cost
effective as tailoring the percentage of grants to each country since some
countries would not receive enough grants to achieve debt sustainability,
while others would receive more than was required. For example, we
estimate that switching 50 percent of new loans to grants would result in
seven fewer countries achieving debt sustainability than would providing
the minimum percentage of grants. Switching 50 percent of new loans to
grants would cost over $6 billion more (see table 7). These options,
therefore, are not the most cost-effective means of maximizing debt
sustainability.

                                  Appendix III
                   Alternative Strategies for Providing Debt
                            Relief to Poor Countries

Table 7: Cost and Impact of Switching a Constant Percentage of Loans to Grants 

                                      Number of countries      Number of countries paying 5  
                 Cost of debt relief  achieving debt sustain- percent or less of revenue in  
  Strategy     (billions of dollars)         ability in 2020         debt service (20032020) 
Switch 0                                                   
  percent of                     $0.0                      12 
loans to                                                   
    grants                                                    
  Switch 20                                                   
  percent of                     $5.8                      14 
loans to                                                   
    grants                                                    
  Switch 50                                                   
  percent of                    $14.6                      18 
loans to                                                   
    grants                                                    
  Switch 100                                                  
  percent of                    $29.1                      25 
loans to                                                   
    grants                                                    
  Switch the                                                  
minimum                                                    
percentage of                                                 
loans to                                                   
  grants for                                                  
 each country                                                 
  to achieve                                                  
     debt                                                     
sustainability                   $8.5                      25 

Source: GAO analysis of World Bank and IMF data.

In addition to the strategies mentioned in the report, you asked us to
analyze the cost and impact of four specific options for increasing debt
relief to poor countries. These options included switching 20 or 50
percent of loans to grants and reducing each country's debt-service burden
to 5 or 10 percent of revenue. With 20-percent grants, we estimate that 14
countries would achieve debt sustainability, while 18 would do so with
50percent grants (see table 8). In each option, all countries would also
reach the 5-or 10-percent debt service goal, as specified. The cost of
these options ranges from $7.6 billion to $24.5 billion, in addition to
assistance to fund the export shortfall. Consistent with the previous
analysis, these options resulted in higher costs and/or fewer countries
achieving debt sustainability.

Appendix III
Alternative Strategies for Providing Debt
Relief to Poor Countries

Table 8: Cost and Impact of Four Options Requested by Congress for Increasing Debt Relief to 27 Poor Countries 

            Cost of debt relief   Number of countries reaching          Number of countries  
 Options   (billions of dollars)   debt sustainability in 2020  achieving debt service goal  
Switch 20                                                       
percent of                                                      
new loans                                                       
    to                                                          
grants and                                                      
  reduce                                                        
debt                                                         
service to                                                      
5 percent                                                       
    of                      $17.3                            14 
government                                                      
 revenue                                                        

Switch 20 percent of new loans to
grants and reduce debt service to
10 percent of government
revenue $7.6 14

Switch 50 percent of new loans to grants and reduce debt service to 5
percent of government revenue $24.5 18

Switch 50 percent of new loans to
grants and reduce debt service to
10 percent of government
revenue $16.0 18

                Source: GAO analysis of World Bank and IMF data.

Appendix IV

Costs and Impact of Various Strategies for Providing Debt Relief

As described earlier in this report, we focused our analysis on three
specific strategies for providing debt relief. The cost of these three
strategies varies by country, as does their impact. Tables 9 to 11 below
summarize these results.

                                  Appendix IV
                  Costs and Impact of Various Strategies for 
                             Providing Debt Relief

Table 9: Cost and Impact of Strategy 1: Switching the Minimum Percentage of Loans to Grants for Each Country to Achieve Debt Sustainability in 2020 

Country 

                                Future loans switched to grants (percentage) 

Cost of debt relief (millions of dollars) 

Total cost, Average debt including export NPV debttoservicetorevenue, shortfall (millions exports in 2020 20032020 of dollars) (percentage) (percentage) 

                        Page 37 GAO-04-405 Debt Relief 
                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        Source:      
                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          GAO        
                                                                          Burkina                                                                                                                                                                        The                                                                                                                                                                                                                                                                                                                                                                                                                                                                      Sao Tome                                                               Sierra                                                                                                                                                                                                         analysis     
Benin 1.7% $8.8 $3,712.3  150.0% 4.7% Bolivia 32.7 830.3 14,422.0  150.0   Faso   86.9 615.5 5,065.4  150.0  Cameroon 42.7 1,196.4 30,936.4  150.0  Chad 0.0 0.0 8,236.7  137.0  DRC 89.0 1,755.3 23,539.5  150.0  Ethiopia 42.4 436.6 12,133.7  150.0  Gambia 0.0 0.0 0.0  75.9  Ghana 0.0 0.0 46.8  81.1  Guinea 39.5 456.0 9,123.6  150.0  Guinea-Bissau 3.3 6.0 433.8  150.0  Guyana 0.0 0.0 30.6  48.7  Honduras 0.0 0.0 24,241.3  41.3  Madagascar 0.0 0.0 5,889.4  111.0  Malawi 0.0 0.0 444.4  132.5  Mali 0.0 0.0 0.0  119.0  Mauritania 57.3 222.2 4,099.7  150.0  Mozambique 0.0 0.0 21,131.8  79.7 7.5 Nicaragua 0.0 0.0 6,914.7  94.3 7.7 Niger 100.0 544.3 4,314.9  179.1 3.3 Rwanda 100.0 392.0 4,640.2  516.4 2.1   and    95.9 43.9 397.1  150.0 5.6 Senegal 0.0 0.0 11,177.6  98.7 7.9 Leone  93.6 244.1 3,149.1  150.0 6.5 Tanzania 0.0 0.0 5,295.5  149.2 5.2 Uganda 57.1 872.2 10,473.6  150.0 5.5 Zambia 61.3 839.1 13,138.0  150.0 8.2 Average/Total  33.5%  $8,462.7  $222,988.0  141.3%  7.1%  of World     
                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  Principe                                                                                                                                                                                                                                                                              Bank and     
                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          IMF        
                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         data.       

                                  Appendix IV
                  Costs and Impact of Various Strategies for 
                             Providing Debt Relief

Table 10: Cost and Impact of Strategy 2: Paying Debt Service Over 5 Percent of Government Revenue 

                                 Total cost, including Average debt serviceto
    Cost of debt relief export shortfall NPV debttoexports revenue, 20032020 
Country (millions of dollars) (millions of dollars) in 2020 (percentage) (percentage) 

                        Benin $10.5 $3,714.0 150.9% 4.6%

Bolivia 2,507.1 16,098.8 225.7

Burkina Faso 172.2 4,622.1 477.9

Cameroon 818.4 30,558.3 228.5

Chad 182.6 8,419.3 137.0

DRC 1,268.0 23,052.2 625.9

Ethiopia 0.0 11,697.2 199.0

The Gambia 125.8 125.8 75.9

Ghana 1,622.4 1,669.1 81.1

Guinea 337.3 9,004.9 217.2

Guinea-Bissau 55.5 483.3 153.7

Guyana 247.8 278.4 48.7

Honduras 1,735.7 25,977.0 46.0

Madagascar 213.7 6,103.2 111.0

Malawi 11.6 456.0 132.5

Mali 394.7 394.7 119.0

Mauritania 241.2 4,118.7 236.1 5.0 Mozambique 348.1 21,479.9 79.7 5.0
Nicaragua 474.5 7,389.2 94.3 5.0 Niger 52.8 3,823.4 643.2 4.5 Rwanda 0.0
4,248.2 1,403.7 3.6 Sao Tome and Principe 14.5 367.6 946.3 5.0 Senegal
623.9 11,801.5 98.7 5.0 Sierra Leone 117.4 3,022.4 831.8 4.9 Tanzania
164.0 5,459.6 149.2 4.6 Uganda 228.1 9,829.4 263.8 5.0 Zambia 616.4
12,915.3 270.3 5.0 Average/Total $12,584.1 $227,109.4 298.0% 4.8% 

Source: GAO analysis of World Bank and IMF data.

                                  Appendix IV
                  Costs and Impact of Various Strategies for 
                             Providing Debt Relief

Table 11: Cost and Impact of Strategy 3: Switching Loans to Grants to Maximize Debt Sustainability and Paying Debt Service in Excess of 5 Percent of Government Revenue 

                                   Total cost, including Average debt service
       Cost of debt relief export shortfall NPV debttoexports torevenue, 2003
Country (millions of dollars) (millions of dollars) in 2020 (percentage) 2020 (percentage)

                        Page 39 GAO-04-405 Debt Relief 
                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    Source:     
                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      GAO       
                                                                   Burkina                                                                                                                                                  The                                                                                                                                                                                                                                                                                                                                                                                                                                         Sao Tome                                                        Sierra                                                                                                                                                                                      analysis    
Benin $19.0 $3,722.5  150.0% 4.6% Bolivia 3,125.5 16,717.2  150.0   Faso   658.2 5,108.1  150.0  Cameroon 1,905.6 31,645.5  150.0  Chad 182.6 8,419.3  137.0  DRC 2,622.3 24,406.5  150.0  Ethiopia 436.6 12,133.7  150.0  Gambia 125.8 125.8  75.9  Ghana 1,622.4 1,669.1  81.1  Guinea 725.6 9,393.2  150.0  Guinea-Bissau 60.1 487.9  150.0  Guyana 247.8 278.4  48.7  Honduras 1,735.7 25,977.0  41.3  Madagascar 213.7 6,103.2  111.0  Malawi 11.6 456.0  132.5  Mali 394.7 394.7  119.0  Mauritania 393.7 4,271.2  150.0 5.0 Mozambique 348.1 21,479.9  79.7 5.0 Nicaragua 474.5 7,389.2  94.3 5.0 Niger 576.7 4,347.3  179.1 2.6 Rwanda 392.0 4,640.2  516.4 2.1   and    49.7 402.8  150.0 3.7 Senegal 623.9 11,801.5  98.7 5.0 Leone  326.3 3,231.3  150.0 3.6 Tanzania 164.0 5,459.6  149.2 4.6 Uganda 1,031.2 10,632.5  150.0 4.5 Zambia 1,331.8 13,630.7  150.0 4.5 Average/Total  $19,798.9  $234.324.2  141.3%  4.5%  of World    
                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        Principe                                                                                                                                                                                                                                                    Bank and    
                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      IMF       
                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     data.      

Appendix V

How Volatility in Export Earnings Affects the Likelihood that Countries
Will Achieve Debt Sustainability

While the analysis in this report assumed constant export growth rates,
consistent with the projections of the World Bank and IMF, the export
earnings of HIPC countries are, in fact, highly volatile. The export
earnings of these countries experience large year-to-year fluctuations due
to their heavy reliance on primary commodities, weather extremes, natural
disasters, and other factors. We found that higher export volatility,
along with lower average growth rates, lowers a country's likelihood of
achieving debt sustainability. For example, under the World Bank and IMF
export growth assumptions, which are usually higher than historical growth
rates, all 27 HIPC countries are projected to be debt sustainable in 2020.
However, we found that negative shocks tend to have greater impact on debt
sustainability than positive shocks. After factoring in the impact of
export growth volatility, we found that countries will not consistently
achieve debt sustainability, with the average likelihood of achieving
sustainability at 84 percent, despite the assumption of high export
growth.1 We estimate that 10 countries have less than an 80-percent
likelihood of achieving debt sustainability due to export volatility, with
Rwanda having the lowest probability at 57 percent (see table 12).
Countries with low export volatility, such as Honduras, tend to have a
high likelihood of achieving debt sustainability under the high World Bank
and IMF growth rates.

1To build in volatility in export projection, we used software that
randomly drew 18,000 export growth rates (for each 1,000 runs, 18
simultaneous draws, one for each year) from a distribution that reflects
the historic growth volatility of each country. A detailed description of
our methodology is contained in appendix I.

Appendix V How Volatility in Export Earnings Affects the Likelihood that Countries Will Achieve Debt Sustainability 

Table
12: Likelihood of Achieving Debt Sustainability under Different Scenarios in 2020

Probability using Probability using World Bank/IMF
growth historical growth 

                       Country      rates (percentage)     rates (percentage) 
                         Benin                    89.3                   42.3 
                       Bolivia                    75.7                   11.0 
                  Burkina Faso                    76.0 
                      Cameroon                    95.9                   63.2 
                          Chad                    62.3                   51.3 
             Congo (Dem. Rep.)                    84.4 
                      Ethiopia                    93.1                   37.3 
                         Ghana                    89.4                   81.0 
                        Guinea                    97.2                   37.6 
                 Guinea-Bissau                    70.0                   65.1 
                        Guyana                    97.7                   93.2 
                      Honduras                    99.5                   98.7 
                    Madagascar                    99.0                   86.7 
                        Malawi                    72.3                   44.0 
                          Mali                    75.4                   59.9 
                    Mauritania                    98.3                   25.3 

                 Mozambique                          97.8             77.3 
                 Nicaragua                           95.7             72.3 
                   Niger                             65.9              2.7 
                   Rwanda                            57.3             10.0 
           Sao Tome and Principe                     66.5             12.4 
                  Senegal                            98.7             78.9 
                Sierra Leone                         81.3              1.5 
                  Tanzania                           83.2             35.9 
                 The Gambia                          91.7             94.2 
                   Uganda                            67.4             28.3 
                   Zambia                            85.3              5.4 
                  Average                            83.9             45.1 

Source: GAO analysis of World Bank and IMF data.

Note: For this analysis, we assumed that grants alone are used to cover
the balance of payments shortfall.

Appendix V How Volatility in Export Earnings Affects the Likelihood that Countries Will Achieve Debt Sustainability 

Under historical export growth rates, which are usually lower than assumed
in the World Bank and IMF projection, volatility reduces these countries'
likelihood of achieving debt sustainability even further. On average, we
estimate that the likelihood of achieving debt sustainability is only 45
percent for the 27 HIPC countries, under historical export growth rates.
Five countries, all of which had on average negative historic growth, are
estimated to have less than a 10-percent likelihood of achieving debt
sustainability.2 Since volatility in export earnings reduces countries'
likelihood of achieving debt sustainability, it is also likely to further
increase donors' cost, as countries will require an even greater than
expected level of debt relief to achieve debt sustai linabi ty.

2The five countries are Burkina Faso, Democratic Republic of Congo, Niger,
Sierra Leone, and Zambia. Historic growth is calculated using the
geometric mean of the annual growth rates.

Appendix VI

Comments from the Department of the Treasury

Note: GAO comments supplementing those in the report text appear at the
end of this appendix.

See comment 1.

See comment 2.

See comment 3.

Appendix VI
Comments from the Department of the
Treasury

                                 See comment 4.

                                 See comment 5.

                                 See comment 6.

                                 See comment 7.

Appendix VI
Comments from the Department of the
Treasury

                                 See comment 8.

                                 See comment 9.

                                  Appendix VI
                      Comments from the Department of the
                                    Treasury

The following are GAO's comments on the Department of the Treasury letter,
dated April 2, 2004.

GAO Comments 1.

2.

3.

4.

Treasury said the report leaves the impression that very large amounts of
money, substantially above previously projected costs, will be required to
be paid in substantial part by American taxpayers in future years. We
agree that the challenge of achieving high economic growth rates, while
maintaining debt sustainability, will likely require a substantial
commitment of resources from the donors, including the United States,
beyond what is currently projected by the World Bank and IMF.

Treasury said the report should have clearly reported the existence of
international agreements for financing HIPC as they relate to the
multilateral development banks and that contributions have thus far
largely met commitments. We recognized throughout the report the donor
community's commitment to financing HIPC. However, under the agreed upon
pay-as-you-go financing arrangement, funding has not been identified for
large emerging financing shortfalls. We consider it to be fiscally prudent
to estimate the full magnitude of the donor's financial commitment.

Treasury said there has been no indication since October 2002 of any
further financing gap in the HIPC Trust Fund. Our report refers to
financing challenges over the life of the initiative, not specifically to
the HIPC Trust Fund at this point in time, as reflected by the donor's
pay-asyou-go approach. Under the current pay-as-you-go approach, we did
not identify a gap in the HIPC Trust Fund. However, as Treasury recognizes
in its letter, there are several factors that are likely to result in the
need for additional resources in the future. Our report provides estimates
of those and other emerging additional costs.

Treasury said it is not convinced that our cost estimates for the AfDB are
correct. We consider our estimate to be more accurate because it accounts
for the actual amount of resources the AfDB has identified to contribute
to the initiative and converts the estimate into 2003 dollars. For
example, although the AfDB expects to provide $662 million (nominal) as it
share of the HIPC Initiative it has only identified $370 million (nominal)
thus far.

Appendix VI
Comments from the Department of the
Treasury

5.	Treasury disagrees with the assertion that the enhanced HIPC Initiative
was intended to ensure an exit from unsustainable debt burdens. We
disagree. Numerous official World Bank and IMF documents as recent as 2003
affirm that a permanent, lasting, or durable exit from unsustainable debt
remains a central objective of the HIPC Initiative.1 While the Treasury
may have retreated from this objective, the World Bank and IMF have not.

6.	Treasury also said achieving the aspiration of debt sustainability for
poor countries requires a combination of elements. The report states that
our estimates assume that the countries will follow their World Bank and
IMF development programs, including undertaking recommended reforms and
achieving economic growth rates consistent with reducing poverty and
maintaining long-term debt sustainability

7.	The Treasury said the report contains various cost projections largely
unrelated to the current Enhanced HIPC Initiative. We disagree. At least
95 percent of our cost projections directly pertain to achieving the goals
of the initiative-helping countries achieve economic growth and maintain
long-term debt sustainability. The remaining amount is our estimate of the
cost of achieving a second debt target-a debt serviceto-government revenue
of less than 5 percent-requested by the committee.

8.	Treasury said that a recent World Bank/IMF study demonstrates that,
while overall the projections were optimistic, almost half the countries
have exceeded their original export projections. We do not believe that
strong short-term (2 to 3 years) export growth necessarily constitutes a
long-term trend. HIPC countries have historically experienced great
volatility in their export earnings. It is not uncommon to see substantial
increases in their export earnings for a few years followed by substantial
declines. Although some countries have experienced high growth in recent
years, sustaining that growth over 20 years or more is a difficult
challenge.

9.	Treasury said that it remains unconvinced that using an export growth
average for the past 20 years is the best way to project future export

1See for example, Debt Relief for the Poorest: An OED Review of the HIPC
Initiative, World Bank, (Washington, D.C.: February 24, 2003).

Appendix VI
Comments from the Department of the
Treasury

growth. As noted in our previous reports, World Bank/IMF projected export
growth rates have been optimistic-overall, more than double historical
rates. We consider historical export growth rates to be more realistic,
given these countries' reliance on highly volatile commodities and other
vulnerabilities. For example, the increasing prevalence of HIV/AIDS in
many poor countries will likely have substantial negative effects on a
broad range of economic variables, including export growth.

                                  Appendix VII

                          Comments from The World Bank

Note: GAO comments supplementing those in the report text appear at the
end of this appendix.

Appendix VII
Comments from The World Bank

                                 See comment 1.

                         See comment 2. See comment 3.

                                 See comment 4.

                                  Appendix VII
                          Comments from The World Bank

The following are GAO's comments on the World Bank letter, dated March 31,
2004.

GAO Comments 1.

2.

3.

4.

The World Bank disagreed with the assumption that any deviation from a
projected debt profile would be offset only by additional debt relief or
compensatory financing. We disagree with the Bank's characterization of
the report. The report explicitly states that donors have the option of
not financing the export shortfalls; however, this will hamper countries'
economic growth and reduce the funds available for poverty reduction. We
assume, consistent with World Bank and IMF projections, that countries are
following their reform and development programs. Hence we assumed that the
other key elements of an effective development strategy are in place.

The World Bank said that the HIPC Initiative has never committed to debt
relief targets in 2020. While we agree with this technical distinction, we
note that debt sustainability analyses project all HIPC countries to have
net present value debt-to-export ratios at or below 150 percent in 2020.
Therefore, we chose 2020 because it represented the final year in World
Bank and IMF projections.

The World Bank said that our methodology to assess the financing needs of
HIPCs can be improved to recognize the very important efforts made by
these countries themselves. As the report states, our analysis assumes
that government revenue and GDP will grow at the optimistic rates
projected by the World Bank and IMF because countries are expected to be
undertaking recommended structural and policy reforms.

The World Bank said that we make an arbitrary assumption that historical
growth rates are a good guide to future performance. As noted in our
previous reports, World Bank/IMF projected export growth rates have been
optimistic-overall, more than double historical rates. We consider
historical export growth rates to be more realistic, given these
countries' reliance on highly volatile commodities and other
vulnerabilities. While policy reforms may improve export growth, other
factors may hinder growth. For example, the increasing prevalence of
HIV/AIDS in many poor countries will likely have substantial negative
effects on a broad range of economic variables, including export growth. A
2003 World Bank report found that the World Bank/IMF growth assumptions
had been overly optimistic and

Appendix VII
Comments from The World Bank

recommended more realistic economic forecasts when assessing debt
sustainability.

Appendix VIII

Comments from the African Development Bank

Note: GAO comments supplementing those in the report text appear at the
end of this appendix.

Appendix VIII
Comments from the African Development
Bank

                                 See comment 1.

Appendix VIII
Comments from the African Development
Bank

                                 See comment 2.

Appendix VIII
Comments from the African Development
Bank

                                 Appendix VIII
                     Comments from the African Development
                                      Bank

The following are GAO's comments on the African Development Bank letter,
dated April 2, 2004.

GAO Comments 1.

2.

The AfDB said its current shortfall for the 23 African countries that have
qualified to date is $130 million. We consider our estimate of about $400
million to be more accurate because it accounts for the actual amount of
resources the AfDB has identified to contribute to the initiative and
converts the estimate into 2003 dollars. For example, although the AfDB
expects to provide $662 million (nominal) as it share of the HIPC
Initiative, it has only identified $370 million (nominal) thus far.

The AfDB said the use of historical export data would imply limited
progress in the future. As noted in our previous reports, World Bank/IMF
projected export growth rates have been optimistic-overall, more than
double historical rates. We consider historical export growth rates to be
more realistic, given these countries' reliance on highly volatile
commodities and other vulnerabilities. For example, the increasing
prevalence of HIV/AIDS in many poor countries will likely have substantial
negative effects on a broad range of economic variables, including export
growth.

Appendix IX

Comments from the Inter-American Development Bank

Appendix IX
Comments from the Inter-American
Development Bank

Appendix X

                    GAO Contacts and Staff Acknowledgments	

GAO Contacts
Thomas Melito (202) 512-9601 Cheryl Goodman (202) 512-6571

Acknowledgments
In addition to the individuals named above, Bruce Kutnick, Barbara
Shields, R.G. Steinman, Ming Chen, Rob Ball, and Lynn Cothern made key
contributions to this report.

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