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Debt Prob oblem The Debt Problem of LDCs
INTRODUCTION
The problem of external debt of LDCs is a serious one because they depend heavily on inflows of capital from abroad to finance their development needs. LDCs being poor countries, their rates of domestic savings and investment are low. They woefully lack in economic and social overhead capital and basic and key industries. To accelerate the rate of economic development, they borrow to import capital goods, components, raw materials, technical know-how, etc. Besides, they also borrow to finance consumer goods to meet the requirements of the growing population. Their exports being limited to a few primary products, they borrow to supplement and increase their domestic resources. These lead to huge current account balance of payments (BOP) deficits. A current account BOP deficit means that the country is borrowing from abroad. To finance its BOP deficit, the LDC borrows by selling bonds abroad, from commercial banks abroad, from international financial institutions like the IMF, World Bank, IFC, etc., and from private foreign firms. In all such cases, the country accumulates external debt which it has to repay abroad in the future in the form of interest and principal.
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5. Trade Policies. Trade related policies of both LDCs and developed countries also led to the growth of external debt of LDCs. The LDCs followed the inward-oriented import-substitution industrialisation till the 1970s. This policy brought initial gains but ultimately led to inefficiencies in the production of manufactured goods. Agricultural and primary production activities were neglected. The two oil-price hikes which led to recessions in the developed countries and the increase in non-tariff restrictions by the latter led to reduction in exports and export prices of LDCs. During 1981-86, they suffered an annual average loss of $ 8 billion due to reduction in their export earnings. With the fall in the prices of their primary commodities, the terms of trade of LDCs also deteriorated. The cumulative loss suffered due to this by them was $ 95 billion during this period. 6. Immediate Cause. After 1979, many LDCs had accumulated huge external debts which they found it difficult to repay in the form of interest and principal. This led to the international debt crisis of the 1980s. The crisis emerged in August 1982 when the Mexican Central Bank announced that it had run out of foreign exchange reserves and that it could not pay its foreign debt of $ 80 billion. Fearing that Argentina, Brazil and Chile might not follow Mexico, the lender-banks of developed countries started refusing new loans and demanded repayments of earlier loans from these and other Latin American countries. This trend spread to African and some East Asian LDCs. By the end of 1986 more than 40 countries were engulfed by the debt crisis.
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In the beginning of 1983, the rescheduling of debt service was for a short period up to two years. This was called the short-leash approach which required repeated rescheduling of debts. So in 1984 Multi-Year Restructuring Agreements (MYRAs) were introduced which involved rescheduling of debts for longer periods up to 14 years. This strategy of the IMF appeared to be successful throughout 1983 and 1984. But this forced or involuntary lending by the banks led to overdue payments to the outstanding debts of LDCs. These further weakened the balance sheets of the banks. So they started reducing their involuntary lending to LDCs. 3. The Baker Plan. To overcome this problem, the then US Treasury Secretary, James Baker proposed a scheme, known as the Baker Plan in October 1985 based on the Funds twin-track approach. It provided for $ 20 billion of new loans by banks over 3 to 15 years and $ 9 billion of multilateral lending to the fifteen most heavily indebted LDCs. In return, these countries were to undertake growth-oriented structural adjustment programmes. But this Plan failed to meet the debt rescheduling requirements of these countries. Banks were reluctant to lend more to reduce their debts which were bound to increase further. They could judge the inability of these countries to repay even in the long-run. So additional loans fell much below the target of $ 20 billion. The debtor countries on their part found the IMF adjustment programmes difficult and painful in carrying out and abandoned them. So Baker Plan failed to solve their debt probelm. 4. The Brady Plan. In 1989, the new US Treasury Secretary Nicholas Brady proposed measures for debt reduction of LDCs. There were three main elements of the Brady Plan : First, it asked the IMF and World Bank to provide funds to debtor countries for repaying debts to banks. But the debtor countries were to carry out growth oriented adjustment programmes laid down by the Fund and World Bank. Second, it urged banks to accept repayment of less than the full amount of the debt so as to include debt service reductions and debt forgiveness. Third, it called on the governments of developed countries to amend their banking legislations to provide for debt forgiveness in their bank accounting rules. The Brady Plan has been successful to some extent. Such agreements have been negotiated between banks and debtor countries to buy back their debts at a discount rate ranging between 44 and 84 per cent. The largest agreement has been with Mexico involving $ 49 billion of debt which was rescheduled. 5. Debt Swaps. Another solution to the debt probelm of LDCs has been to exchange the debt by what is known as debt swaps. Many banks have entered into agreements with debtor countries to reduce the burden of debt repayments through a number of options such as debtfor-debt swaps, debt-for-equity swaps, debt-for-cash swaps, debt-for-nature swaps, debtfor-development swaps, debt-for-export swaps and debt-to-local-debt swaps (i.e. external debt converted into local currency). Between 1985-92, debt swaps of various types amounting to $ 90 billion were agreed upon between banks and debt countries. 6. Rescheduling of Official Loans. The developed lender countries, which give loans to LDCs are called the Paris Club. The Paris Club decides about the reschedul-ing of official loans, lays down their dates and time of repayment in consultation with the IMF. The LDC debtor countries approached the Paris Club for rescheduling the loans provided by its members many times between 1982 and 1987. In 1982, emergency financing was made available through the Bank for International Settlements (BIS). In January 1982, the IMF established an emergency fund under the General Agreement to Borrow (GAB) amounting to SDR $ 17 billion. 7. Toronto Terms. At the 1988 Toronto Economic Summit of the Paris Club, it was decided to
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give debt relief to the poorest debtor countries with GNP per capita income of less than $ 600. Under the Toronto Terms, the concessional debt (with low interest rate) could be repaid over 25 years with 14 years grace. For non-concessional debt, there were three options : (1) Repayment in 25 years with 14 years grace at market interest rates; (2) repayment in 14 years with 8 years grace at concessional interest rates; and (3) repayment in 14 years with 8 years grace at market interest rates and simultaneously cancelling 1/3rd of debt. 8. The Houston Terms. The Paris Club introduced the Houston Terms in 1990 for the lowermiddle-income debtor countries. Their repayment of debts was spread over 20 years with 10 years grace at market interest rates. 9. Enhanced Toranto Terms. In 1991, the Paris Club amended the Toronto Terms for the severely indebted low-income countries. It offered the alternative of cancelling 50 per cent of a countrys debt and rescheduling the remaining over 23 years with 6 years grace or rescheduling it at concessional interest rates where the debt-service ratio exceeded 25 per cent. Eighteen countries of Africa and two of Latin America had taken advantage of the Toronto Terms in rescheduling their debts by the 1991. In addition to the Toronto and Houston Terms, a number of creditor countries have been concelling debts of their own. Conclusion. The various proposals for debt rescheduling discussed above have not been very successful because they are dependent upon the private international banks to carry them out. The majority of them are unwilling to take such measures which may adversely affect their balance sheets. These proposals do not solve the debt problem of LDCs permanently but for a short period with the result that it will again reappear. LONG-TERM SUGGESTIONS To solve the debt problem of LDCs over the long-run, there is need for concerted efforts on triple fronts. On the part of : (a) the IMF, (b) the developed countries, and (c) the LDCs. We discuss them as under : (a) IMF Solutions. The IMF insists on the debtor LDCs to adopt market-oriented adjustment programmes for availing financial help from it. These include: (1) Tight monetary and fiscal policies so as to reduce budget deficits, through cut in government spending, reduction in interest rates and in inflation; (2) encouraging foreign investment by abolishing controls both internal and external and giving greater incentives to foreigners; and (3) devaluing the currency to encourage more exports and greater competition through a more open trade policy. But the adoption of such policies by LDCs has brought about the Asian Crisis. It has led to more unemployment and poverty and reduced their growth rates. There has been capital flight and worsening of their BOP problem. Instead of reduction in their debts, they have increased them. These measures have led to public riots and even to the fall of governments in many Asian and Latin American countries. (b) Measures by Developed Countries. Since the developed countries are the creditors of LDCs, First, they should provide development assistance to the poor LDCs as grants rather than loans. Second, they should wave a major portion of their debts to LDCs. Third, they should establish a fund which should provide guarantee to private loans by corporations and banks of developed countries in case of default. Fourth, a large portion of the debt of LDCs is due to fall in their export prices and hence in their terms of trade. The developed countries should adopted appropriate measures to overcome price fluctuations in their primary products through the
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creation of international buffer stocks, commodity agreements, compensatory financing, etc. The above noted measures will go a long way in solving the debt problem of LDCs. (c) Measures by the Debtor LDCs. LDCs, on their part, should adopt the following measures which may help in reducing their debts; (1) to strengthen and develop infrastructural facilities so as to encourage foreign investment; (2) to reduce imports through trade restrictions within the provisions of the WTO; (3) to produce more quality products for domestic consumption as well as for exports of all kinds. Greater diversification in quality products for domestic use and exports is essential to face foreign competition both in domestic and global markets; and (4) Monetary and fiscal policies should be in keeping with the overall objective of growth with stability so that the country becomes self-sufficient and there is little need for external debt.