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A Factsheet - October 2008

Debt Relief Under the Heavily Indebted Poor Countries (HIPC) Initiative

What is the Heavily Indebted Poor Countries (HIPC) Initiative?

The HIPC Initiative was first launched in 1996 by the IMF and World Bank, with the aim of ensuring that no poor country faces a debt burden it cannot manage. The Initiative entails coordinated action by the international financial community, including multilateral organizations and governments, to reduce to sustainable levels the external debt burdens of the most heavily indebted poor countries. Following a comprehensive review in 1999, a number of modifications were approved to provide faster, deeper, and broader debt relief and to strengthen the links between debt relief, poverty reduction, and social policies. In 2005, to help accelerate progress toward the United Nations Millennium Development Goals (MDGs), the HIPC Initiative was supplemented by the Multilateral Debt Relief Initiative (MDRI). The MDRI allows for 100 percent relief on eligible debts by three multilateral institutions—the IMF, the International Development Association (IDA) of the World Bank, and the African Development Fund (AfDF—for countries completing the HIPC Initiative process. In 2007, the Inter-American Development Bank (IaDB) also decided to provide additional ("beyond HIPC") debt relief to the five HIPCs in the Western Hemisphere.

How the HIPC Initiative works

To be considered for HIPC Initiative assistance, a country must: (1) be IDA-only and PRGF-eligible; (2) face an unsustainable debt burden, beyond traditionally available debt-relief mechanisms; (3) establish a track record of reform and sound policies through IMF- and IDA-supported programs; and (4) have developed a Poverty Reduction Strategy Paper (PRSP) through a broad-based participatory process. Once a country has met or made sufficient progress in meeting these criteria, the Executive Boards of the IMF and IDA formally decide on its eligibility for debt relief, and the international community commits to reducing debt to the agreed sustainability threshold. This is called the decision point. Once a country reaches its decision point, it may immediately begin receiving interim relief on its debt service falling due. In order to receive the full and irrevocable reduction in debt available under the HIPC Initiative, however, the country must: (i) establish a further track record of good performance under IMF- and IDA-supported programs; (ii) implement satisfactorily key reforms agreed at the decision point, and (iii) adopt and implement the PRSP for at least one year. Once a country has met these criteria, it can reach its completion point, at which time lenders are expected to provide the full debt relief committed at decision point.

Who receives HIPC Initiative assistance

Forty-one countries have been found to be eligible or potentially eligible for HIPC Initiative assistance. Twenty-three countries have already reached their completion points and have received or are receiving irrevocable debt relief from the IMF and other creditors. Ten countries have reached their decision points and some of them are receiving interim HIPC Initiative debt relief. Eight countries, which have been identified as potentially eligible for HIPC Initiative assistance, have not yet reached their decision points.

How the HIPC Initiative is financed

The total cost of providing assistance to the 41 countries that have been found eligible or potentially eligible for debt relief under the enhanced HIPC Initiative is estimated to be about US$71 billion in end-2007 net present value terms.¹ About half of this will be provided by bilateral creditors, and the rest will come from multilateral lenders. The IMF's share of the cost is financed primarily by the investment income on the net proceeds from off-market gold sales in 1999 that were deposited to the IMF's PRGF-HIPC Trust. Additional contributions to this trust have been provided by member countries. Resources available in the trust are currently insufficient to finance the cost of debt relief to all pre-decision point HIPCs (to whom such resources are available on a first-come, first-served basis). This is because the cost of debt relief to Sudan and Somalia, as well as to other countries that entered the Initiative after 2006, were not included in the original financing framework. Should these countries progress to the decision point, there would be an urgent need to mobilize resources.

How countries have benefited from the HIPC Initiative

For the 33 countries for which packages have already been approved, debt service paid, on average, has declined by about 2½ percent of GDP between 1999 and 2007. Their debt burden is expected to be reduced by about 90 percent after the full delivery of debt relief (including under the MDRI). Yet for debt reduction to have a tangible impact on poverty, the additional resources need to be targeted at the poor. Before the HIPC Initiative, eligible countries were, on average, spending slightly more on debt service than on health and education combined. Now, they have increased markedly their expenditures on health, education and other social services and, on average, such spending is about six times the amount of debt-service payments.

Debt relief, while welcome, addresses only a relatively small part of HIPCs' financing needs and cannot ensure debt sustainability permanently. Debt relief savings accrue through time and generally constitute only a fraction of net aid inflows to HIPCs. Addressing HIPCs', and more generally LICs', development needs therefore requires higher new aid flows in addition to debt relief. These new flows need to be on appropriate terms to make sure that debt sustainability is maintained in the future.

Debt relief has markedly improved the debt position of post-completion-point countries, bringing their debt indicators down below those of other HIPCs or non-HIPCs. However, their medium-term debt sustainability is still not assured. They remain vulnerable to shocks, particularly those affecting exports, and their payment capacity is highly sensitive to the terms of new financing. To reduce their debt vulnerabilities decisively, these countries need to pursue cautious borrowing policies and strengthen their public debt management capacities.

Remaining challenges

Many of the 18 pre-completion-point HIPCs face common challenges, including preserving peace and stability, and improving governance and the delivery of basic services. Addressing these challenges will require continued efforts from these countries to strengthen their policies and institutions and support from the international community.

Another challenge is to ensure that HIPCs get full debt relief from all their creditors. Although the largest creditors (the World Bank, the African Development Bank, the IMF, the Inter-American Development Bank, and all Paris Club creditors) provide debt relief in line with their commitments under the HIPC Initiative, and even beyond, other are lagging behind. Smaller multilateral institutions, non-Paris Club official bilateral creditors, and commercial creditors, which together account for about 25 percent of total HIPC Initiative costs, have only delivered a small share of their expected relief so far. Non-Paris Club bilateral creditors as a whole have delivered about 40 percent of their share of HIPC Initiative debt relief, but close to half of these creditors have not delivered any relief at all. The delivery of HIPC Initiative relief by commercial creditors, although still low at an estimated 33 percent, has increased markedly in recent years through a few large operations. A number of commercial creditors have initiated litigations against HIPCs, raising significant legal challenges to burden sharing in the context of the Initiative.

Given the voluntary nature of creditor participation in the HIPC Initiative, the IMF and the World Bank will continue to use moral suasion to encourage creditors to participate in the Initiative and to deliver fully their share of HIPC Initiative debt relief. The IMF and World Bank will also continue to gather more information to assess and monitor better the delivery of HIPC Initiative debt relief. The IMF will continue to address issues related to the participation in the HIPC Initiative during its regular consultations and other missions to creditor countries.

List of Countries That Have Qualified for, are Eligible or Potentially Eligible and May Wish to Receive HIPC Initiative Assistance (as end-September 2008)