*{Debt relief and poverty reduction: strengthening the linkage Background and summary - 1998} The Heavily Indebted Poor Countries (HIPC) initiative marked an important advance in international debt relief strategies, providing for the first time a framework for reducing to sustainable levels all categories of debt. However, despite the efforts of the World Bank and several major creditors, results to date have been disappointing. The Secretary General of the UN, the United Nations Children’s’ Fund (UNICEF), the Organisation for African Unity, religious leaders and non-government organisations have all expressed concern that too little debt relief is being delivered too late. A related concern is that the HIPC framework has not been integrated into a wider strategy for poverty reduction, with potential losses for human development. Several creditors have advocated linking implementation of the HIPC initiative to a more poverty-focused strategy. To date, however, no consensus has been reached with regard to the design of such a strategy. This note, intended as a contribution of the HIPC initiative review process, sets out a proposal for developing a more poverty-focused approach to debt relief. It proposes a system of incentives in the form of earlier and deeper debt relief for countries willing to make commitments on poverty reduction. Such commitments could be linked to internationally agreed targets developed during UN-sponsored conferences during the 1990s and adopted by the Development Assistance Committee (DAC) of the OECD in its report Shaping the 21st Century. The DAC goals for 2015 include a reduction in the number of people living in absolute poverty by one-half, the achievement of universal primary education, and a two-thirds reduction in child mortality. Well targeted debt relief could make a real difference to the achievement of these goals by releasing new resources for human development. At the same time it would help to reduce dependence on aid. This is central to the vision of development set out in Shaping the 21st Century, where OECD governments call for measures “that fosters self-reliance in which countries and people are less in need of aid.” Conversely, continuing down the current path will lead to lost opportunities for poverty reduction, as unsustainable debt diverts resources from desperately needed social investment, slows growth and reinforces dependence on aid. This submission is intended to contribute to the wider debate on debt relief and poverty reduction. It calls for: •The HIPC initiative to be integrated into the evolving global strategy for poverty reduction set out by the Development Assistance Committee of the OECD •The creation of a debt-for-human development window, under which governments willing to allocate 85-100 per cent of the savings from debt to poverty reduction initiatives will be given improved incentives in the form of earlier and deeper debt relief •Co-operation between debtor governments, donors and civil society in developing Poverty Action Frameworks through which resources released through debt relief can be channelled •The development of a transparent and accountable structure for administering the debt-for-human development window, modelled on the precedent set by the Ugandan Government *partie=titre Need for a new approach *partie=nil This note sets out a strategy for addressing the twin problem of providing earlier and deeper debt relief, while at the same time strengthening the linkages between debt relief and human development. It calls for the development of an incentive structure, within the HIPC framework, which rewards governments with a commitment to poverty reduction - and which promotes the conversion of debt into poverty reduction initiatives. The aim is to provide, through a set of debt relief incentives, a mechanism for converting debt liabilities into human development opportunities. Such an approach would generate tangible benefits for human welfare. It would also enable creditors to link their actions in the sphere of debt relief to their global commitments on poverty reduction. These commitments include obligations under the Convention on the Rights of the Child to maximise resource mobilisation for human development. The new mechanism which we are recommending would take the form of a ‘debt for human development window’, through which debtors willing to make commitments in the area of poverty reduction could enter the HIPC process on more advantageous terms. The facility, which would be included as a new dimension in the HIPC framework, would address the concerns of creditor governments who want to see debt relief contributing to wider development goals. We stress at the outset that the aim is not to renegotiate the HIPC initiative - and we reject the argument that this would be necessary to accommodate the changes suggested. The adoption of the ‘fiscal window’ in the HIPC framework shows that reform and innovation is possible without re-negotiation of the entire initiative. Nor do we see a ‘poverty window’ in HIPC as another layer of conditionality which will delay implementation. Rather, the aim is to create an incentive structure through which governments willing to utilise debt relief in the interests of the poor will be given incentives to do so. At present conditionality is geared towards penalising poor performance in relation to narrowly-defined macro-economic targets, often set with insufficient regard for their impact on the poor. But leaving aside the wider debate over appropriate forms of conditionality, it is difficult to see why any government should oppose a new approach geared towards the promotion of good performance in meeting shared human development goals. Oxfam’s primary concern is to identify practical ways of linking implementation of the HIPC initiative to international development targets. These have been consolidated by the OECD in Shaping the 21st Century. Unfortunately, however, political commitments have not been matched by political will, or by commitments to resource mobilisation. The HIPC framework could, if reformed in the direction outlined below, provide a focus the development of genuine partnerships for meeting these targets, building on existing co-operation and facilitating additional resource mobilisation. It is sometimes argued on the creditor side, that debtor governments are unwilling in principle to accept the case for reinforced linkages between debt and poverty reduction; and that any attempt to go down this path would pose insuperable operational problems. We reject this assessment. The Government of Uganda’s Poverty Action Fund has been developed as part of a wider strategy for channelling savings from debt into poverty reduction, with a high level of participation from civil society, and with rigorous monitoring. This approach provides a model for what could be achieved under a reformed HIPC - and we strongly urge creditors and other debtors to study the Ugandan case in this light. *partie=titre The HIPC framework: a narrow approach to debt sustainability *partie=nil The adverse implications for poverty of unsustainable debt levels have been extensively documented. Many low income countries continue to spend more on debt servicing than on health or education, despite appalling levels of deprivation. Recent research by Oxfam in Tanzania has shown that one in six children die before their fifth birthday, mainly from easily preventable illnesses, yet debt servicing is nine times what the Government spends on Primary Health Care. Unfortunately, the case is not untypical. The HIPC initiative is based on the principle that debt sustainability should be defined in terms of what can be paid to external creditors. This is an important dimension - but it is increasingly widely recognised that it is not the only dimension. From a human development perspective, the ability of governments to finance the provision of basic services such as health, education, and water and sanitation is of critical importance. Where debt servicing absorbs a large share of public revenues and public expenditure, the capacity of governments to maintain and extend such services is inevitably compromised. For the HIPC-eligible countries as a group, debt servicing absorbs an average of 40 per cent of revenues, implying significant opportunity costs for human development. While it is true that programme aid or social sector aid can fill the financing gaps which result, there are often problems relating either to compliance with IMF programmes, or to uncertainties surrounding the availability of development assistance at a time of declining aid budgets. One of the benefits of debt relief, over and above the mobilisation of additional resources, is that it enables recurrent spending to be financed from recurrent revenues, thereby reducing aid dependence. Governments should, in the interests of local ownership, responsibility and accountability, fund their basic health and education services from their own revenues as soon as possible. Although the HIPC framework now includes a fiscal sustainability dimension, this only comes into operation for debtor countries in which the export sector is highly developed in relation to the domestic economy. Eligibility for debt relief on fiscal grounds includes a provision requiring that exports of goods and services represent 40 per cent of GDP. This rule, which excludes all but a handful of debtors, reflects the priority attached to external financial indicators of sustainability. The parallel requirement that government revenues represent 20 per cent of GDP, also excludes most heavily indebted countries. A related difficulty is that the fiscal threshold has been set at the exceptionally high level of 280 per cent (net present value) debt/revenue. Two wider problems associated with the HIPC framework are well known. First, the requirement that countries undergo two consecutive IMF programmes over a six year period has delayed implementation. Insufficient flexibility has been shown in relaxing this rule on the grounds of previous track record, even though the rules do provide for this. Second, the debt sustainability thresholds have been set too high. The 20-25 per cent range for debt servicing is higher than most countries have been able to meet in the past; and the 200-250 per cent range for (NPV) debt stock to exports is incompatible with the requirements for sustained economic recovery and increased investment. *partie=titre Towards a new approach: linking HIPC to the 2015 targets *partie=nil Oxfam has previously set out the case for providing earlier and deeper debt relief than is allowed for in the HIPC initiative. More specifically, we have called for: •a reduction to 15-20 per cent for the debt service thresholds •a reduction to 150-200 per cent for the NPV debt/export thresholds •a reduction to at least 200 per cent for the NPV debt/government revenue threshold, with a lowering of the eligibility barrier •a reduction from six years to three years in the time-frame for implementation •a new fiscal threshold under which debt servicing is restricted to 10 per cent of government revenue (provided that revenue accounts for a minimum of 15 per cent of GDP) •the special needs of post-conflict countries to be taken into account These changes remain, in our view, minimal conditions for the development of a credible debt relief framework, capable of addressing the problems facing debtor countries. But they are minimal conditions. What we are now proposing is a more ambitious element in the reform agenda - an element aimed at integrating the HIPC initiative into the global strategy for poverty reduction. The case for linking the HIPC initiative to UN-OECD development targets is relatively straightforward. Simply stated, in the absence of additional resource mobilisation for social investment and reduced debt to stimulate growth, the vast majority of heavily indebted low income countries will not meet the 2015 targets. For instance, the number of children out of school in Africa is increasing, and the gender gap in school enrolments is not narrowing. Similarly, recent estimates on child mortality trends suggest that mortality rates will remain twice as high as the OECD target level in 2015. Of course, additional resources alone will not provide all of the answers. But it can be confidently predicted that, in the absence of effective debt relief and additional resource mobilisation, the 2015 targets will be missed. *partie=titre A ‘human development window’: modalities for implementation *partie=nil One of the most effective ways of channelling additional resources into effective public spending would be through debt relief incentives. Such incentives would operate by rewarding governments willing to enter into genuine poverty reduction partnerships with earlier and deeper reductions in debt stock and debt servicing demands. This would be done through a new Debt for Human Development Window in which the debt sustainability thresholds are lowered to: •10-15 per cent for debt servicing •100-150 per cent for NPV debt stock/exports •150-170 per cent for NPV debt stock/revenue The window would be open only to Governments willing to commit 85-100 per cent of savings on debt into identified poverty reduction initiatives. Such initiatives could include small scale infrastructural projects - such as rural feeder road construction - as well as basic social sector initiatives. Although governments could still enter HIPC through the conventional route, they would not be eligible for the additional debt relief provided through the Debt for Human Development Window without making commitments on poverty reduction. Recognising the exceptional nature of debt relief being proposed, strict eligibility requirements would have to be enforced. These would be linked to commitments on poverty reduction, rather than to the more narrowly defined economic conditionalities in IMF programmes. In order to qualify for the Human development Window, debtor governments would be required to develop a Poverty Action Framework (PAF). This would be submitted at, or in advance of, the Decision Point in the HIPC framework, for converting savings on debt into poverty reduction initiatives. Drawn up in partnership with major donors and civil society, the PAF would serve as a contract between creditor and debtor government. The PAF would: -consolidate existing sectoral planning strategies and other poverty reduction initiatives, identifying the financing gaps which would emerge were these to be geared towards attainment of the 2015 targets. - indicate how savings from debt will be allocated as additional resources (i.e. over and above existing and projected allocation) between different sectors - make clear commitments to transparency and accountability, including the independent auditing of expenditures, quarterly reporting on all releases to PAF-supported activities, publication of operational details, and reporting to legislative bodies and donors - provide for regular consultation with civil society and donors to evaluate performance in reducing poverty and identify policy problems It should be stressed that entry to HIPC through the Debt for Human Development Window would provide additional benefits. In other words, governments would remain eligible for debt relief if they chose not to make additional commitments on poverty reduction, but they would lose the incremental savings offered by the new facility. One potential problem which might arise in implementation is that of non-performance, or the failure of governments to deliver on the financing pledges made under their Poverty Action Frameworks after having received debt relief through the Debt for Human Development Window. Where such failures were a consequence of unavoidable fiscal problems related to adverse circumstances - such as drought, floods or a collapse in export prices - the arrangement could be rolled-over by mutual consent. However, where policy failure on the part of government is the cause of non-performance, penalties would be required to avert problems of moral hazard. These should be transparent and agreed in advance as part of the contractual arrangement between creditors and debtors. In Oxfam’s view, the most effective approach would be to establish a linkage between aid and debt relief, with any shortfalls in public spending under the Poverty Action Framework matched by reductions, on a dollar-for-dollar basis, in aid disbursements during the next financial year. These reductions could be applied up to a ceiling equivalent to the amount of additional debt relief provided under the debt for Human Development Window. *{Conclusion} We recognise that the approach outlined above will pose new challenges to the creditor community, both of a political and financial character. At the same time, it offers the prospect of linking debt relief to tangible advances in human development. For creditors, the framework proposed would provide an opportunity to deliver on the commitments which have be made to mobilise resources for human development. For debtor government, it would offer the prospect of an early resolution of the debt crisis, while providing a reward and incentive structure geared towards the interests of the poor. Implemented with vision and a sense of purpose, the new approach could provide a foundation for a partnership on poverty reduction rooted in practical action, rather than empty rhetoric.