RI needs debt reduction from Paris Club<\/p>\n
Francis Lemoine, European Network for Debt and Development (EURODAD),
\nBrussels<\/p>\n
Indonesia is certainly the country that bore the greatest
\ncosts from the financial crisis. Public debt, which had until
\nthen been kept at sustainable levels, more than doubled to reach
\nover 100 percent of gross domestic product. Due to an equally
\nsharp increase in private debt, total foreign debt also stands at
\nmore than 100 percent of GDP.<\/p>\n
Where did it all come from?<\/p>\n
The roots of the debt problem lie in the corruption and
\nnepotism that characterized the New Order. When the crisis
\nfinally hit in 1997, the devaluation and subsequent outflows of
\ncapital turned the boom into a bust from which the country still
\nhas to recover. The crisis primarily hit through its already weak
\nfinancial sector when it became clear that companies and private
\nbanks were no longer in a position to repay their debts
\ncontracted in foreign currencies.<\/p>\n
These very high stocks of debt exert a strong pressure in the
\nshort term on the budget, which devotes half of its fiscal
\nrevenues to debt service, while commitments for social
\nexpenditures such as education or health have steadily decreased
\nsince the onset of the crisis.<\/p>\n
Before the crisis, Indonesia's public debt was considered
\nsustainable with a ratio of debt-to-GDP of about 25 percent and
\nconcessional interest rates. It is now worth more than US$130
\nbillion, slightly over 100 percent of GDP.<\/p>\n
Current debt stock levels exert an enormous pressure on the
\ngovernment's budget. Debt service now accounts for about half of
\nthe state's revenues and is scheduled to take up to 30 percent to
\n40 percent of revenues for several years.<\/p>\n
The magnitude of the debt burden and the need for external
\nfinance to fund the budget and ease the constraints on the
\nbalance of payments, has also weakened the bargaining power of
\nlocal authorities with the IMF and other creditors -- as
\nwitnessed by the weak agreements held with the Consultative Group
\non Indonesia (CGI) or the Paris Club.<\/p>\n
The creditors' community has not been prepared to grant more
\nthan modest rescheduling terms to Indonesia, ruling out any
\nreduction in the value of their claims. Worse, Indonesia also a
\nfaces a private debt overhang. Total private debt is now about
\n$100 billion of which, $80 billion is denominated in dollars.<\/p>\n
These debts exert extra pressure on Indonesia's balance of
\npayments and further restrain investors' willingness to commit
\nnew resources, given the high rate of default that still
\ncharacterizes Indonesian companies.<\/p>\n
This assessment is corroborated by International Financial
\nInstitution (IFI) analyses that define current debt levels as
\n\"technically sustainable\". Yet the projections rely on overly
\noptimistic assumptions that are unlikely to be met throughout the
\nprojection period. This projection also fails to take into
\naccount the costs incurred by sustaining such high levels of
\nindebtedness over an extended period.<\/p>\n
Since the crisis, Indonesia has been to the Paris Club twice,
\nin 1998 and 2000. Principal repayments falling due up to two
\nyears after the agreement were rescheduled over 20 years at
\nmarket interest rates. These agreements, however, did not lead to
\nany sizable reduction in the present value of debt.<\/p>\n
Also, creditors fear that granting a sizable debt reduction to
\nIndonesia would loosen the pressure on the government to
\nimplement the reforms set by the IMF and the CGI.<\/p>\n
The World Bank and the International Monetary Fund (IMF)
\nprojections for future debt sustainability are still
\noveroptimistic. Their degree of optimism however declined
\nrepeatedly as the recovery to pre-crisis growth and income levels
\nproved ever more remote and problematic.<\/p>\n
More surprisingly, the IMF and the World Bank also fail to
\ngive any guidance on the level at which debt is or might become
\nunsustainable. Past evidence on debt sustainability suggests that
\nthis point was reached in 1999, and that Indonesian debt has been
\nunsustainable since then.<\/p>\n
Indonesia fails every test for sustainability. Debt burdens
\nare not only unsustainable relative to government's fiscal
\nrevenues but also in the constraints on the balance of payment.
\nMore worryingly, it also seems likely that debt will remain
\nunsustainable for most of the decade, if foreign and domestic
\ninvestment fails to materialize in the coming years.<\/p>\n
This human development approach to debt sustainability shows
\nthat only half of the total debt should be repaid if the country
\nit is to devote sufficient resources to poverty reduction and
\nhuman development.<\/p>\n
We propose the use of a poverty-focused debt sustainability
\ncriterion. It starts with an assessment of the resources that a
\ngiven country will need to achieve poverty reduction and human
\ndevelopment.<\/p>\n
Given the importance of these other expenditures, particularly
\nin promoting higher growth rates, no more than a third of
\nremaining resources should be allocated to debt servicing.<\/p>\n
Indeed, the Indonesian government can only afford to pay less
\nthan half of its current debt service if it is to devote
\nsufficient resources to poverty reduction and social development.<\/p>\n
This estimation of the maximum affordable debt service level
\nshould thus be taken as an upper bound of what government can
\nafford to pay to external creditors. Thus, we believe that a
\nreduction by half of current debt service would provide the
\nfinancial cushion necessary to sustain these development
\nexpenditures in case of unpredicted shocks.<\/p>\n
Following the implementation of the Heavily Indebted Poor
\nCountries Initiative (HIPC), the international community has
\nincorporated the importance of the human development criterion in
\nassessing the severity of the financial constraints faced by
\ndeveloping countries. It has also been acknowledged that the
\ntreatment of unsustainable debts should not only result in a
\ntrade-off between minimizing moral hazard and maximizing economic
\ngrowth, but also take into considerations the standards of living
\nof the population whose sovereign debt problems are being
\nassessed.<\/p>\n
Providing such debt relief implies for Paris Club creditors to
\ncancel up to 79 percent of their current claims.<\/p>\n
Reaching the debt service reductions spelled out above can be
\ndone in two ways:<\/p>\n
Firstly by rescheduling debt repayments over an extended
\nperiod at reduced interest rates and with an appropriate grace
\nperiod to cushion the government's liquidity constraints.<\/p>\n
This was the solution retained when Indonesia came to the
\nParis Club in 1966-1968. After an original rescheduling agreement
\nwith the Paris Club, over eight years and with three years grace,
\na second agreement was reached, resulting in a 30 year repayment
\nperiod with three years grace, and no amortization of interest.<\/p>\n
Secondly by reducing the net value of the stock of external
\ndebt to a level consistent with the levels of \"affordable\" debt
\nservice computed above. Assuming that the reduction in debt
\nservice needed over the next 10 years is achieved by reducing the
\npresent value stock of debt by the same amount, this would result
\nin a 50 percent write-off of Indonesia's external debt.<\/p>\n
Given Paris Club's institutional setting, only part of
\nIndonesia's external public debt is eligible for debt treatment.
\nIn fact, only debts owed to official bilateral creditors -- 48
\npercent of total external public debt will be treated at the
\nupcoming negotiations.<\/p>\n
Paris Club agreements, however, are also to be binding
\n(although not legally) on other unofficial bilateral and private
\ncreditors. If the involvement of these creditors in the
\nimplementation of the agreement is indeed insured, the proportion
\nof eligible debt jumps to 63 percent.<\/p>\n
Hence the reduction needed by the Paris Club to halve
\nIndonesia's external public debt would reach 79 percent. Under
\nwhich rescheduling terms could this reduction be implemented?<\/p>\n
A more credible solution would be for bilateral creditors to
\ngrant a debt reduction to Indonesia along the lines of Naples
\nterms, the additional reductions needed to reach the 50 percent
\nreduction being supported by multilateral creditors. So in
\naddition to bilateral debt reduction of nearly 67 percent,
\nmultilateral creditors would need to cancel 32 percent of their
\ndebts.<\/p>\n
This ad hoc framework would enable a more realistic burden
\nsharing between bilateral and multilateral creditors.<\/p>\n
Whereas Indonesia would not be eligible to the HIPC
\ninitiative after receiving Naples terms, the burden of debt
\nreduction should be shared between bilateral and multilateral
\ncreditors. One credible solution to implement such workout would
\nbe for Paris Club creditors to cancel debt up to 67 percent under
\nNaples terms and for multilateral creditors to cancel the
\nremaining stocks necessary to reach the 79 percent threshold.<\/p>\n
The above is condensed from the writer's presentation at the
\nInternational Conference on Alternative Solutions for Indonesia's
\nExternal Debt in Paris on Monday. It was held by the Jakarta-
\nbased International NGO Forum on Indonesian Development (INFID)
\nin conjunction with the Paris Club talks focusing on Indonesia's
\ndebts.<\/p>",
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