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Thursday, April 03, 2003

Odious Debts revisited

William Sjostrom points to an Alan Krueger column in the New York Times which discusses the Iraqi debt situation:

To gain some perspective on the crushing financial burden facing the Iraqi people, note that with a population of 24 million, pending obligations work out to $16,000 for every man, woman and child. The Central Intelligence Agency estimates, probably optimistically, that Iraq's per capita gross domestic product is $2,500. So, for the average person, financial obligations exceed income by a ratio of more than six to one.

If 50 percent of Iraq's future export income is diverted to paying down the debt — more than three times the percentage extracted for German World War I reparations — it would take more than 35 years to pay off current obligations fully, even after allowing for reasonable growth in oil exports.

In the comments, Patrick Sullivan points out a Lynne Kiesling post on the same subject, and last Monday I noted James Suroweicki's column in the New Yorker about Iraqi debt.

Krueger supports a proposal for by two Harvard economists for an international authority to declare bad regimes (like Saddam Hussein's) "odious", nullifying their debts. A few years ago, after the Asian crisis, there was a proposal for the IMF to look at a country's situation and cerify tha the fundamental were okay. It was not adopted, but a facility providing Contingent Credit Lines (CCL) was set up where countries with "sound" economic policies would be pre-approved for IMF credit in the event that a crisis struck.

To date no country has applied for such funding. In both cases, there was a fear was that they would exaerbate crises rather than solve them--an IMF pronouncment of "soundness" would make anyone wonder why such an announcement was necessary, potenially worsening any imbalance hat may exist; applying for a CCL, on the other hand, would send a signal to international markets that you were likely to be heading for trouble.

The doctrine of Odious Debts carries the same risks, especially if the "authority" exercises restraint in its decisions. Just the knowledge that it was deliberating on the legitimacy of a particular country's regime would create volatility, and some form of resructuring would become necessary. It would also create a peverse incentive to be illiegitimate, just as Easterly's book The Elusive Quest for Growth shows that debt relief creates an incentive for poor countries' governments to be fiscally profligate. As Surowiecki writes, "no one wants countries to renege every time a general stages a coup."

Iraqi debt needs a solution, and it is probable that the US will cajole creditors into an ad hoc write-off similar to the one aranged for Poland over 10 years ago. A better solution to debt imbalances needs to be found, and Anne Krueger's proposal for a Soverign Debt Restructuring Mechanism is a good start. The US Treasury, though, along with many on Wall Street, is against the idea. It increasingly looks as if an institutional means of dealing wih soverign debt problems will have to wait.