Reviewing the Debt Sustainability Framework (and some reflections on trends in

sovereign debt amid the financial crisis)

Carlos A. Primo BragaDirector, Economic Policy and Debt Department

November 2009

Outline

A tale of two crises

Trends in sovereign debt Defaults: the usual suspects The Case of the HIPCs

The Debt Sustainability Framework

2

A tale of two crisesSource: Eichengreen, B. & O’Rourke, K. – “A tale of two depressions”, VoxEu, (updated)

06/04/09

93

The current crisis will not be a rerun of the Great Depression…

(Source: Brahmbhatt and Pereira da Silva, 2009)

Larger weight of developing countries in the world economy (24% in 2008 vs. 13% in 1929) plus “decoupling” of underlying trend rates of growth (growth gap = growth in Developing Countries – growth in ICs = 0.8 % in the 1990s/3.5% in 2000-08);

Larger share of services in global activity (employment in services less volatile);

Changes in the structure of world trade (greater elasticity of trade with respect to GDP);

Different policy responses: monetary, financial sector, trade and fiscal policies.

4

Policy reactions to the crisis

At country level:Monetary easingRecapitalization of financial systemsBailout of household and corporate

sectorsFiscal stimulus packages Financial systems regulatory overhaul

And IFIs are intermediating more funds than ever

5

6

G20 countries – fiscal stimulus & financial sector support

1/ In percent of 2009 GDP. Excludes below-the-line operations that involve acquisition of assets.

2/ As of Apr. 15, 2009, in percent of 2008 GDP. Consists of capital injection, purchase of assets and lending by Treasury, and central bank support provided with Treasury backing.Source: IMF

Advanced economies: Average discretionary fiscal expansion in 2009: 1.5% of GDPAverage financial sector support: 5.4% of 2008 GDP

Emerging economies:Average discretionary fiscal expansion in 2009: 2.0% of GDP

Central Bank balance sheets in advanced economies have been rapidly expanding

Central Banks’ Total Assets (Index, 12/29/06 = 100)

7

12/2

9/0

61/2

9/0

73/1

/07

4/1

/07

5/1

/07

6/1

/07

7/1

/07

8/1

/07

9/1

/07

10/1

/07

11/1

/07

12/1

/07

1/1

/08

2/1

/08

3/1

/08

4/1

/08

5/1

/08

6/1

/08

7/1

/08

8/1

/08

9/1

/08

10/1

/08

11/1

/08

12/1

/08

1/1

/09

2/1

/09

3/1

/09

4/1

/09

50

100

150

200

250

300

350

Collapse of Lehman Brothers

UK

US

Euro Area

Japan

Source: IMF WEO (2009)

Government Debt: Medium Term Prospects (Source: Horton et al., 2009) Significant expansion of public debt in advanced economies

8

Debt/GDP 2007 2009 2014

Advanced G20 77.6 100.6 119.7

Emerging G20 37.8 38.8 36.4

USA 63.1 88.8 112.0

Japan 187.7 217.4 239.2

UK 44.1 68.6 99.7

Italy 103.5 117.3 132.2

Korea 33.0 35.8 39.4

Brazil 67.7 70.1 62.2

China 20.2 20.9 21.3

India 80.4 83.7 73.4

Indonesia 35.1 31.1 28.4

A recovery is underway, but is relatively weak, uneven, and subject to considerable risks (Source: DEC)

Real GDP growth rates (%)

9

Historical experiences: the case of the USA

31

Recessions

46 10

3

18

9

4

1

Credit Crunches

HousePrice Busts

EquityPrice Busts

31

Source: Claessens, Kose, Terrones (2008)

Recessions, Crunches, and Busts Output Trajectory During U.S. Recessions

• Current crisis is one of four of the past 122 recessions to include a credit crunch, housing price bust, and equity price bust

• Average of past US recessions has shown that it has taken 5-6 quarters before pre-recession output levels were regained; current recovery will take longer

10

Source: JP Morgan

-2 -1 0 1 2 3 4 5 6 70.96

0.98

1.00

1.02

1.04

Output Trajectory During US Recessions (Pre-recession Output Peak = 1, at time = 0)

1973 Recession

1981 Recession

Average of 7 previous recessions2008:2

J.P Morgan fore-cast through 2010:1

Quarters before and after the peak ( 0 )

Sovereign Debt Defaults: The Usual Suspects

Walter Wriston, Citibank chairman, 1967-1984: “[a] country does not go bankrupt,” New York Times, 14 September 1982

Bad output shocks (defaults are countercyclical)

Tighter international financial conditions

Overborrowing

11

Debt Defaults: The Usual Suspects

Bad output shocks External shocks

Domestic macro crises (banking crises; currency crashes…)

12

Sovereign defaults and world GDP growth 1970-2012

13

1970

1972

1974

1976

1978

1980

1982

1984

1986

1988

1990

1992

1994

1996

1998

2000

2002

2004

2006

2008

2010

2012

-4

-2

0

2

4

6

8

10

12

-4

-2

0

2

4

6

8

10

12Number of Defaults

World GDP Growth

In P

erc

ent

Num

ber

Subprime CrisisGlobal Financial

and Economic Crises

US Recession LatAm Debt Crisis

Cluster 1

Asian CrisisLTCM CollapseTech Bubble Collapse

Cluster 2

Source: World Bank, Sturzenegger and Zettelmeyer (2006)

Debt Defaults: The Usual Suspects

Tighter international financial conditions

14

Private capital flows to developing countries as a percent of GDP 1970-

2009 (projected)

15

19701972

19741976

19781980

19821984

19861988

19901992

19941996

19982000

20022004

20062008

0.0

1.0

2.0

3.0

4.0

5.0

6.0

7.0

8.0

9.0

10.0 Private Debt Flows

Portfolio equity flows

Foreign direct investment

Perc

en

t o

f G

DP

Source: World Bank GDF

Relative to past downturns the decline of capital flows has been even more dramatic

Percent

Net private capital flows / GDP in developing countries

Source: DECPG/GDF 2009

1980-83 1997-02

Projection2007-10

16

Percent of GDP (right axis)

Private capital flows are unlikely to recover to pre-crisis levels for some time

Net Private Capital Flows to Developing CountriespercentUS$ billion

199199

199199

199200

200200

200200

200200

200200

0

400

800

1200

1600

0

1

2

3

4

5

6

7

8

9

10

17

Yields on 10-year US T-Bond and number of sovereign defaults 1970-2008

T-Bond yields lower than at any point in nearly 50 years

1970

1972

1974

1976

1978

1980

1982

1984

1986

1988

1990

1992

1994

1996

1998

2000

2002

2004

2006

2008

0

2

4

6

8

10

12

14

16

0

2

4

6

8

10

12# of Defaults

10 year US T-Bond Yield

In P

erc

ent

Num

ber

Source: Federal Reserve, Sturzenegger and Zettelmeyer (2006)

18

Yields on 10-year US T-Bond and defaulting issuer spreads

19

19941995

19961997

19981999

20002001

20022003

20042005

20062007

2008

0

10

20

30

40

50

60

70

0

2

4

6

8

10

12# of Defaults10 year US T-Bond YieldEMBI Spread ARGEMBI Spread ECUEMBI Spread RUS

In P

erc

en

t

Nu

mb

er

Ecuador

Argentina

Source: Federal Reserve, World Bank, Sturzenegger and Zettelmeyer (2006)

Russia

Short-term debt as percent of total external debt in low and middle income

countries

20

1970

1972

1974

1976

1978

1980

1982

1984

1986

1988

1990

1992

1994

1996

1998

2000

2002

2004

2006

2008

0

5

10

15

20

25

30

0

2

4

6

8

10

12Number of Defaults Low income Middle incomeIn

Perc

ent

Num

ber

Source: World Bank, Sturzenegger and Zettelmeyer (2006)

Sovereign and corporate external debt refinancing needs ($b)

21

0

100

200

300

400

500

600

700

800

900

1000

20

00

20

01

20

02

20

03

20

04

20

05

20

06

20

07

20

08

20

09

20

10

20

11

20

12

20

00

20

01

20

02

20

03

20

04

20

05

20

06

20

07

20

08

20

09

20

10

20

11

20

12

20

00

20

01

20

02

20

03

20

04

20

05

20

06

20

07

20

08

20

09

20

10

20

11

20

12 0%

5%

10%

15%

20%

25%

Sovereign and

Corporate

Corporate

Sovereign

As a percentof U.S. dollar GDP

(right scale)

Asia Emerging Europe Latin AmericaSource: IMF

22

Bank non-performing loans relative to total loans

Note: Median across 59 countries = 2.7% in 2007 and 4.4% in 2009Source: IMF Global Stability Report (Oct. 09), World Bank

UkrainePakistan

GhanaSerbia

MoldovaTurkey

MontenegroIreland EstoniaRussia

HungaryArmenia

South AfricaUnited States

LithuaniaSpain

GeorgiaLatvia

0 5 10 15 20 25 30 35

2007

2009 (most recent observation)

In Percent (of Total Loans)

Debt Defaults: The Usual Suspects

OverborrowingWillingness to pay vs. ability to pay

23

“Cluster 1” defaults and other developing countries: lessons from the

1980s

24

Note: Other Developing Countries include LICs and MICs for whom data was available; year for measurement of developing country ratios was 1980, which represented the lowest level of annual GDP growth during the ‘76-’89 crisis period.Source: World Bank

0% 50% 100% 150% 200% 250% 300%0

200

400

600

800

1,000

1,200

1,400

1,600

1,800

2,000 '76-'89 Other Developing

PV of Debt to Exports

GN

I p

er

Cap

ita (

US

$)

“Cluster 1” defaults and other developing countries: lessons from the

1980s

25

0 10 20 30 40 50 60 70 80 900

500

1,000

1,500

2,000

2,500

3,000

3,500

4,000

4,500'76-'89 Other Developing

Total Debt Service as % of Exports

GN

I per

Cap

ita (U

S$)

Note: Other Developing Countries include LICs and MICs for whom data was available; year for measurement of developing country ratios was 1980, which represented the lowest level of annual GDP growth during the ‘76-’89 crisis period.Source: World Bank

“Cluster 2” defaults and select emerging market countries: Asian crisis

26

Notes: Select Emerging Market Countries includes countries known to have experienced stress during the ‘97-’03 period; y-axis represents the most severe negative annual growth rate for each country during the crisis period.Source: World Bank

0% 50% 100% 150% 200% 250% 300%

-2

0

2

4

6

8

10

12

14

Brazil

Indonesia

Malaysia

MexicoPhilippines

Thailand

Venezuela

Argentina

Dominica

EcuadorMoldova

Russia

Ukraine

Uruguay

'98-'03 Select Countries

PV of Debt to Exports

Max

. Neg

ative

% C

hang

e in

Ann

ual G

DP: '

97-'0

3

“Cluster 2” defaults and select emerging market countries: Asian crisis

27

0 10 20 30 40 50 60 70 80 90

-2

0

2

4

6

8

10

12

14

Brazil

Indonesia

Malaysia

MexicoPhilippines

Thailand

Venezuela

Argentina

Dominica

EcuadorMoldova

Russia

Ukraine

Uruguay

'98-'03 Select Countries

Total Debt Service as % of Exports

Max

. Neg

ative

% C

hang

e in

ann

ual G

DP: '

97-'0

3

Notes: Select Emerging Market Countries includes countries known to have experienced stress during the ‘97-’03 period; y-axis represents the most severe negative annual growth rate for each country during the crisis period.Source: World Bank

The Case of the HIPCsPrimo Braga and Doemeland (2009)

28

29

Combined HIPC and MDRI Debt Relief

1/ Assumptions include timing of HIPC decision and completion points, and where applicable, of arrears clearance Source: HIPC Initiative country documents; IDA and IMF staff estimates

1/ Data are simple averages; subject to data availabilitySource: HIPC Initiative country documents; IDA and IMF staff estimates

HIPC Initiative and MDRI: Estimates of Debt Relief 1/

(End-2008 NPV terms, in billions of U.S. dollars)

World Bank Group Debt Relief

Total Debt Relief

HIPC MDRIHIPC and

MDRIHIPC MDRI

HIPC and MDRI

All HIPCs 14.7 18.2 32.9 73.9 28.5 102.4

26 Post-Completion-Point HIPCs

10.6 15.3 26.0 38.8 24.4 63.2

9 Interim HIPCs 2.6 2.6 5.2 18.5 3.7 22.2

5 Pre-Decision-Point HIPCs

1.5 0.3 1.7 16.6 0.4 17.0

Debt indicators of HIPCs have substantially declined since 1999

35 Post-Decision Point HIPCs 1/

1999 2008

NPV of debt-to-exports 457% 121%

NPV of debt-to-GDP 114% 36%

Debt service-to-exports 18% 5%

NPV of debt-to-revenue 552% 151%

Debt service-to-revenue 22% 3%

HIPC 2008 countries

30

Note: Burundi, Haiti and CAR, due to their recent attainment of Completion Point status, have not yet fully benefitted from debt stock reduction; figures used here are pro-forma for debt stock reduction in 2009. 3 Decision Point countries—DRC, Guinea-Bissau, and Liberia—have PV Debt/Export ratios >200% and are not shown on this graph. Source: World Bank, CIA World Factbook

0% 20% 40% 60% 80% 100% 120% 140% 160% 180% 200%0

500

1,000

1,500

2,000

2,500

Afghanistan

Chad

Congo, Rep.

Cote d'Ivoire

Guinea

Togo

Honduras

BoliviaGuyana

CameroonNicaragua

Mauritania

SenegalZambia

BeninGhanaMali

Burkina FasoTanzaniaUganda RwandaMadagascar Gambia

Mozambique

Niger

Sierra LeoneMalawiEthiopia

Sao Tome

Burundi*

Haiti*

CAR*

Completion Point Decision Point

PV of Debt to Exports

GN

I per

Capit

a (

US$)

HIPC 2008 countries

31

Note: Burundi, Haiti and CAR, due to their recent attainment of Completion Point status, have not yet fully benefitted from debt stock reduction; figures used here are pro-forma for debt stock reduction in 2009. 2 Decision Point countries—DRC and Guinea-Bissau—have Total Debt Service/Export ratios >10% and are not shown on this graph. Source: World Bank, CIA World Factbook

0 1 2 3 4 5 6 7 8 9 100

500

1,000

1,500

2,000

2,500

Afghanistan

Chad

Congo, Rep.

Cote d'Ivoire

Guinea

LiberiaTogo

Honduras

Bolivia Guyana

CameroonNicaragua

MauritaniaSenegalZambia

BeninGhanaMali

Burkina FasoTanzaniaUgandaRwanda

Madag.Gambia

MozambiqueNiger

Sierra LeoneMalawi Ethiopia

Sao Tome

Burundi*

Haiti*CAR*

Completion Point Decision Point

Total Debt Service as % of Exports

GNI p

er C

apita

(US$

)

Cluster 1 countries now in the HIPC Initiative: past versus 2008

32

Note: Liberia—currently a HIPC Decision Point country—had a PV Debt/Export ratio >200% at end-2008 and is not shown here.Source: World Bank

0% 25% 50% 75% 100% 125% 150% 175% 200%0

200

400

600

800

1,000

1,200

1,400

1,600

Bolivia

CameroonNicaragua

Cote d'IvoireZambia

MadagascarTogo

GambiaMozambiqueMalawiSierra Leone

Niger

Cluster 1 at Default: '76-'89

Cluster 1 at HIPC Completion Point 2008

Cluster 1 at HIPC Decision Point 2008

PV of Debt to Exports

GNI p

er C

apita

($US

)

Cluster 1 countries now in the HIPC Initiative: past versus 2008

33

0 10 20 30 40 50 600

200

400

600

800

1,000

1,200

1,400

1,600

1,800

2,000 Congo

Bolivia

Cameroon

Cote d'IvoireZambia

UgandaMadagascar

Togo GambiaMozambiqueNiger

Sierra LeoneMalawi

Uganda

CongoCameroon

BoliviaCote d'IvoireZambia

Madagascar NigerGambia TogoMozambique

Sierra Leone Malawi

Cluster 1 at Default: '76-'89

Cluster 1 at HIPC Completion Point 2008

Cluster 1 at HIPC Decision Point 2008

Total Debt Service as % of Exports

GNI p

er C

apita

($US

)

Source: World Bank

External debt to GDP ratios, top 25 countries: 1995, 2000, 2007

(Red = Small State)

34

0%

200%

400%

600%

800%

1000%

1200%

1400%

1600%

1800%

Buru

ndi

Mali

Nig

eri

aV

ietn

am

Hondura

sLa

o P

DR

Cam

ero

on

Sudan

Eth

iopia

Madagasc

ar

Sie

rra L

eone

Tanza

nia

Yem

en, R

ep.

Mala

wi

Mauri

tania

Cote

d'Iv

oir

eZ

am

bia

Angola

Congo, D

em

. R

ep.

Congo, R

ep.

Nic

ara

gua

Moza

mbiq

ue

Guyana

Guin

ea-

Bis

sau

Liberi

a1995

0%

50%

100%

150%

200%

250%

300%

350%

400%

Gui

nea

Gam

bia,

The

Cote

d'Iv

oire

Com

oros

Tajik

ista

nM

adag

asca

rG

hana

Mal

iSe

rbia

Suda

nM

oldo

vaKy

rgyz

Rep

ub-

licLa

o PD

RCo

ngo,

Rep

.M

alaw

iBu

rund

iN

icar

agua

Moz

ambi

que

Zam

bia

Sier

ra L

eone

Guy

ana

Mau

rita

nia

Cong

o, D

em.

Rep. Li

beri

aG

uine

a-Bi

ssau

2000

Source: World Bank0%

50%

100%

150%

200%

250%

300%

350%

400%

Cong

o, R

ep.

Guya

na

Cote

d'Iv

oire

Guin

ea

Mol

dova

Bhut

an

Jam

aica

Lao

PDR

Togo

Beliz

e

Croa

tia

Bulg

aria

Dom

inica

Gren

ada

Kaza

khst

an

Leba

non

Gam

bia,

The

Sao

Tom

e an

d Pr

inci

peCo

ngo,

Dem

. Re

p.La

tvia

Seyc

helle

s

Buru

ndi

Guin

ea-B

issau

Sam

oa

Liber

ia

2007 HIPC Completion Point = Underline

HIPC Decision Point = Box

Volatility of export growth: small states and regional groupings, 2007

35

0% 20% 40% 60% 80% 100% 120% 140% 160% 180% 200%0

0.05

0.1

0.15

0.2

0.25

0.3

0.35

0.4

0.45

0.5Small States EAP ECA LAC MNA SA SSA

External Debt / GDP

Stan

dard

Dev

iatio

n of

Exp

ort G

row

th

Note: Developing countries for which data was available; 1 SSA country—Chad—had a standard deviation of growth greater than .5, and 1 SSA country—Liberia—had an Ext. Debt/GDP ratio in excess of 200%. Neither country is shown here. Y-axis values were calculated for each country using the standard deviation of annual export growth of goods and services from 1998-2007.Source: World Bank

IDA-only countries

36

Risk of debt distress

HIPCs

In the case of IDA, the graph reflects only countries for which a DSA is available. The graph for HIPCs includes: Bolivia and Honduras (both Blend countries) and Somalia (for which a DSA is not available)

1618

14

6

0

5

10

15

20

Low Moderate High In debt distress

11 129

8

1110

5

00

5

10

15

Low Moderate High In debt distress

All 40 HIPCs 26 Post-CP HIPCs

What is the DSF?

• The DSF was introduced in 2005 and reviewed in 2006.

• It is a tool (thermometer) aimed at informing Bank-Fund analyses on countries’ debt vulnerabilities (diagnostic), and allow better informed decision making by donors, lenders and borrowers (treatments).

37

Why reviewing the DSF?

• The DSF has been criticized on two grounds:– It restricts financing needed to meet

countries’ development goals (MDG)– It is too pro-cyclical

• The G20 and the IMFC called on the Bank and the Fund to review the DSF with a view to increasing its flexibility.

38

Staff’s approach to responding to the request

• The DSF is an analytical tool used to assess a country’s debt burden (thermometer).

• Increased flexibility should respect its integrity and reliability.

• Reforms to how the Bank and the Fund better meet members’ financing needs should be directed to its concessional lending and their policies on non-concessional borrowing (treatments).

39

How the DSF works: three pillars

• 20 year projections of debt burden indicators in baseline, alternative and stress test scenarios.

• For external debt such indicators are compared against country specific (policy dependent) thresholds:

• Risk ratings of low, moderate, high, or in debt distress are assigned to countries.

40

Table: Debt Sustainability Framework Thresholds

PV of debt in percent of Debt service in percent ofExports GDP Revenue Exports Revenue

Weak Policy (CPIA≤3.25) 100 30 200 15 25Medium Policy (3.25 < CPIA < 3.75) 150 40 250 20 30Strong Policy (CPIA≥3.75) 200 50 300 25 35

Flexibility already inherent in the DSF

• Multi-year framework addresses criticism of pro-cyclicality;

• Staffs are required to exercise judgment in applying risk ratings (not a mechanistic approach) by looking at other aspects;

• The paper details many instances where flexibility has been applied.

41

Adding flexibility to the DSF

Four areas were considered:• Investment-growth nexus• Treatment of remittances• Threshold effects• Treatment of state-owned enterprise

debtIn addition the paper proposes changes to some operational aspects

42

The investment-growth nexus

• Boards agreed that the country specific approach proposed in 2006, based on studying a number of indicators (structural/macro constraints, historical rates of return, etc.), remains largely valid.

• If a scaling-up of public investment is ongoing or imminent, or if high policy capacity increases the likelihood of such scaling-up, more formal model-based approaches should be considered (ex., country specific GE; growth diagnostics; etc.)

• Full DSAs should document staffs’ analysis of the investment-growth nexus

43

Figure 2: Workers' remittances as a percentage of exports and GDP (average 2002-2007) for PRGF-eligible and IDA-only countries 1/

as a percentage of exports

0% 25% 50% 75% 100% 125% 150% 175% 200%

Côte d'IvoireBurundi

Congo, Republic ofVanuatuMalawi

TanzaniaMadagascar

DjiboutiMozambique

LesothoZambia

CameroonGhana

MyanmarSolomon Islands

CambodiaRwandaGuinea

NigerKenya

EthiopiaNigeria

São Tomé & PríncipeMali

MongoliaBenin

SierraLeoneTogo

GuyanaKyrgyz Republic

Sri LankaMoldovaSenegal

HondurasGuinea-Bissau

NicaraguaGambia, The

SudanCape Verde

UgandaTajikistan

BangladeshNepalTonga

Haiti

Source: World Bank, World Development Indicators (2009)1/ Average over 2002-2007 of available data.

as a percentage of GDP

0% 5% 10% 15% 20% 25% 30% 35%

Côte d'Ivoire Burundi Malawi

TanzaniaVanuatu

MadagascarCongo, Republic ofPapua New Guinea

MozambiqueDjibouti

CameroonRwandaZambiaGhana

Lesotho Armenia

Niger Solomon Islands

EthiopiaGuinea

São Tomé & PríncipeKenya

Georgia Benin

CambodiaSierra Leone

MaliSt. Lucia

Bolivia Nigeria

St. Vincent & Grens.Sudan

UgandaDominicaGrenada Senegal

BangladeshTogo

MongoliaSri Lanka

Guinea-Bissau Kyrgyz Republic

Nicaragua Moldova

Cape VerdeGambia, The

AlbaniaNepal

HondurasGuyana

TajikistanHaiti

Tonga

45

Remittances: Treatment in DSF

• Boards agreed that insufficient data prevented remittances from being formally included in the empirical model underlying the DSF

• Remittances are important for DSAs—size, counter-cyclicality

• Greater flexibility in taking account of remittances is justified on a case-by-case basis and more in depth analysis is granted

46

Threshold effects: What is the problem?

• For countries close to the cut off points of CPIA ranges (≈ 3.25 and 3.75), small changes in a country’s CPIA may imply “large” changes in applicable debt thresholds (i.e., a CPIA drop from 3.26 to 3.24 threshold falls by 10% of GDP)

• This could result in changes to debt distress ratings

• Such changes are hard to relate to a country’s underlying capacity to service its foreign debt

47

Threshold effects: How do we address the problem?

Board favored (in line with staffs’ recommendation)• Add inertia to the CPIA score applicable for

determining countries’ debt thresholds• At present a 3-year moving average CPIA score is

used to determine the policy performance category• In the future, when the CPIA crosses its boundary

– The new threshold will apply at once if the new 3 yr average CPIA lies outside a range of 0.05 from the boundary

– Otherwise, the CPIA will have to remain above/below the new boundary for 2 consecutive years

48

State-owned enterprise debt

• The current rule is that generally all SOEs external debt is included in the DSA.

• The Boards agreed that when SOEs can borrow without government guarantee and their operations pose a limited fiscal risk to public balance sheets, they could be excluded from consideration in DSAs.

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In addition: Discount rate

• The current rule requires that the discount rate (used to calculate PV of Debt) needs to be lowered by 100 basis points to 4 percent (in September ‘09).

• Simulations showed that a change in the discount rate to 4 percent generally resulted in relatively small increases in PV of debt.

• And a small number of countries were to experience small and temporary breaches of their respective thresholds (for some others, the size of existing breaches were to increase).

• These effects needed to be weighed against the cost of having a more sticky rule which would increase the lag of interest rate adjustments vis-à-vis market movements.

• The suggestion was not to change the existing rule

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Other issues: Streamlining DSAs and reflecting authorities views• Full DSAs will be required to be produced once

every three years, with lighter annual updates in the interim:– Essentially, this will entail not having to do the full write-

up each year (but a risk rating needs to be provided)– If there is a significant change in circumstances

(macroeconomic, debt outlook, or program requirements) a full DSA may be required in interim years

– This will be introduced only after the present crisis has passed

• And more effort/space than in the past is needed to reflect the authorities’ views in the DSAs.

• Staff Guidance Note: Coming soon—before end 2009.

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Debt management and the crisis

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While a debt sustainability analysis focuses on the long-term sustainability of debt, which is influenced by both its level and composition, a debt management framework focuses on how the composition of debt is managed.

The crisis creates particular challenges for debt managers:

How to close an increasing financing gap and finance a country’s development needs at low cost with a prudent degree of risk, especially at a time when conditions in financial markets are severely constrained?

Given limited external financing options, how can potential benefits from developing domestic markets be exploited at an acceptable cost and prudent degree of risk?

Given the efforts by many governments to strengthen their balance sheets over the past decade, how can these sounder public debt structures be protected?

Since the crisis implies substantial macroeconomic adjustments, how should debt management strategy reflect the new reality?

The Debt Management Facility (www.worldbank.org/debt) a World Bank-led initiative funded by a multi-donor trust fund that supports technical assistance and capacity building efforts in this area.

Slower world economic growth and higher cost of capital will mean a more difficult environment for developing countries seeking to accelerate growth and progress toward the MDGs.

In this environment, countries’ efforts to enhance efficiency of resource use and improve productivity will be even more important.

Financial crisis: scale of policy responses is country specific, but, given the procyclicality of the financial system, it is important to coordinate financial sector reform and to synchronize macroeconomic responses;

The severity of the downturn highlights the need for an increase in high-impact fiscal expenditures. But embedding stimulus packages in a credible medium-term strategy, that safeguards fiscal sustainability, is key;

Expansion of public debt will be massive. Countries need to design exit strategies to the ongoing fiscal interventions and to introduce growth-enhancing reforms to reassure markets of the public sector’s solvency;

Debt sustainability implications for LICs: a function of the crisis duration. Implications of non-concessional borrowing need to be carefully evaluated;

Debt management: the crisis further underscores the importance of debt management practices and makes the Debt Management Facility even more relevant.

Concluding remarks

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DSF Flexibility -- the review focused on: Investment-growth nexusTreatment of remittancesThreshold effectsTreatment of state-owned enterprise debt

In addition, the WB/IMF (2009) paper proposes changes to some operational aspects of the DSF. The Staff Guidance Note is being updated. Adjustments are also being made with respect to the IMF’s debt limits policy and IDA’s Non-Concessional Borrowing Policy with a view to increase flexibility, in particular, for high-capacity LICs.

Concluding remarks (cont.)

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References Brahmbhatt, M. and L. Pereira da Silva (2009) “The Global Financial Crisis:

Comparisons with the Great Depression and Scenarios for Recovery” PREM Note 141;

Claessens, S., M.A. Kose, and M.E. Terrones, (2008) “What Happens During Recessions, Crunches and Busts?” SSRN Working Paper Series, December;

Eichengreen, B. & K. O’Rourke (2009) “A tale of two depressions”, VoxEu, (updated) 06/04/09;

Horton, M., M. Kumar, and P. Mauro (2009) “The State of Public Finances: A Cross-Country Fiscal Monitor,” IMF Staff Position Note, SPN/09/21;

Primo Braga, C.A. and D. Doemeland (eds.), (2009) Debt Relief and Beyond, The World Bank;

Sturtzenegger, F. and J. Zettelmeyer (2006) Debt Defaults and Lessons from a Decade of Crises, MIT Press;

World Bank (2009) Global Development Finance: Charting a Global Recovery;

World Bank and IMF (2009), “A Review of Some Aspects of the LIC Debt Sustainability Framework.”

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