Debt Swaps and Debt Conversion Development Bonds for Educationunesdoc.unesco.org/images/0021/002111/211162e.pdf · by El Salvador and Spain. ... Lead Education Economist, World Bank,

ED-11/EFA/ME/5 REV. Original : English

Debt Swaps and Debt Conversion Development Bonds for Education

Final Report for UNESCO Advisory Panel of Experts on Debt Swaps and Innovative Approaches to Education Financing

August 2011


Preface This study was commissioned by UNESCO for the Advisory Panel of Experts on Debt Swaps and Innovative Approaches to Education Funding and funded by the Open Society Institute. The purpose of the study is to explore ways in which debt swaps can be combined with other financial instruments to leverage more funds for education and other development purposes. Background information was gathered by means of case studies of two recent debt swaps used to help fund investments in education, one carried out by Cameroon and France and the other by El Salvador and Spain. This was supplemented by interviews with a range of experts in the fields of education and finance, as well as a survey of relevant literature (see Appendix E for a list of the interviewees). The primary conclusion of the study is that using debt swaps to allow governments in developing countries to issue domestic bonds could help mobilize a significant and sustainable source of funding for education and other development purposes. This report was prepared by two teams. David Stevens, Daniel Bond, Marianne Pellegrini, Garrett Wright and Casey Gheen of Affinity MacroFinance (AMF) were responsible for preparing Chapters 1, 3, 5 and 6, plus Appendices B through E. Chapter 2 and 4 and Appendix A were prepared by Danny Cassimon and Dennis Essers of the Institute of Development Policy and Management (IOB), University of Antwerp. The Panel guided the preparation of the report during meetings, audio conferences, and electronic communication. The teams received initial feedback and comments on the first draft of the report during the second meeting (19 & 20 May 2011) of the Advisory Panel of Experts on Debt Swaps and Innovative Approaches to Education Funding which was held at UNESCO in Paris. Olav Seim and Lina Benete from the UNESCO’s Education for All Global Partnerships team provided overall coordination of the study.


Members of UNESCO Advisory Panel of Experts on Debt Swaps and Innovative Approaches to Education Financing

Ms Reem N. Bsaiso, Senior Educational Consultant (Ex-CEO of World Links Arab Region), Amman, Jordan

Mr Danny Cassimon, Professor, Institute of Development Policy and Management, University of Antwerp, Belgium

Mr Robert Filipp, Head of Innovative Financing, External Relations and Partnerships, Global Fund to Fight AIDS, Tuberculosis and Malaria, Geneva, Switzerland

Mr Daniel Filmus, National Senator, Buenos Aires, Argentina

Mr Michael Klingberg, Desk Officer, Federal Ministry for Economic Cooperation and Development (BMZ), Germany

Ms Akanksha A. Marphatia, ActionAid International, Acting Head of International Education, London, UK

Mr Hugh McLean, Education Director, Open Society Initiative, London, UK

Mr Mzobz Mboya, Advisor for Education, The New Partnership for Africa’s Development, South Africa

Mr Julien Meimon, Secretariat, Leading Group on Innovative Financing for Development, Ministry of Foreign and European Affairs, France

Mr Harry Patrinos, Lead Education Economist, World Bank, Washington, DC, USA

Ms Maria Vidales Picazo, Advisor, General Directorate for International Finance, Ministry of Economy and Finance, Spain

Ms Liesbet Steer, Research Fellow, Overseas Development Institute, London, United Kingdom

Mr David C. Stevens, CEO, Affinity MacroFinance, New York, USA

Ms Rong Wang, Director, China Institute for Educational Finance Research, Peking University

Table of Contents

Executive Summary ............................................................................................................................... 1

1. Introduction ........................................................................................................................................ 9

Part 1 – Debt Swaps for Education ................................................................................................. 12

2. Overview of Debt Relief Policies, Debt Size and Lessons from debt swaps for education ................................................................................................................................................ 13

2.1 Overview of debt relief policy and practice ................................................................................... 13 2.2 An analysis of debt available/eligible for swaps ......................................................................... 21 2.3 Lessons from swap experiences so far ............................................................................................ 24

3. Country Case Studies ..................................................................................................................... 31 3.1 Cameroon and France............................................................................................................................. 31

3.1.1 The Cameroon Context ................................................................................................................................... 32 3.1.2 The Contract Teacher Program .................................................................................................................. 34

3.2 El Salvador and Spain ............................................................................................................................. 39 3.2.1 The El Salvador Context ................................................................................................................................. 40 3.2.2 The Rural School Construction Program ................................................................................................ 42

3.3 Lessons Learned ....................................................................................................................................... 45

4. Conclusions and Recommendations ........................................................................................ 47

Part 2 – Debt Conversion for Development Bonds .................................................................. 49

5. Establishing Synergies Between Debt Swaps and Other Innovative Financial Instruments ........................................................................................................................................... 50

5.1 Where is the Money? ............................................................................................................................... 50 5.2 How can these domestic savings be mobilized for development? ......................................... 51 5.3 Could substantial funding be mobilized? ........................................................................................ 54 5.4 What is sustainable about this effort? .............................................................................................. 54 5.5 DCDB Program Basics ............................................................................................................................. 55 5.6 A Special Potential Use for DCDBs: Funding Equity and Quality of Education ................... 61 5.7 Other Sources of Support for Domestic Bonds .............................................................................. 62 5.8 Delivering Debt Conversion Development Bonds Effectively .................................................. 64

6. Conclusions and Recommendations ....................................................................................... 66

Appendix A: An historical account of debt relief ...................................................................... 69

Appendix B: External debt structure by country...................................................................... 75

Appendix C – Summary of AMF Pension Fund Survey ............................................................ 78

Appendix D – An Example ................................................................................................................. 79

Appendix E – Interviewee List ......................................................................................................... 83


Abbreviation List AECID Spanish Agency for International Development Cooperation

AFD French Development Agency

AfDB African Development Bank

AfDF African Development Fund

ALSF African Legal Support Facility

AMC Advanced Market Commitment

BCR Central Reserve Bank of El Salvador

BEAC Bank of Central Africa

BMZ German Ministry of Economic Cooperation and Development

C2D Debt Reduction and Development Contract

CCS Consultative Committee for Allocation and Tracking of HIPC Resources

CEMAC Economic Community of Central African States

CSO Civil Society Organization

DAF Spanish Development Assistance Fund

DCA Debt Conversion Account

DCDB Debt Conversion Development Bond

DMF Debt Management Facility

DSF Development Sustainability Index

EAI Enterprise for the Americas Initiative

ECA Export Credit Agency

EDPC Education Data and Policy Center

EFA Education for All

EM Emerging Markets

ESS Education Sector Strategy

FTI Fast Track Initiative

GAVI Global Alliance for Vaccines and Immunization

GDP Gross Domestic Product

GER Gross Enrollment Ratio

GNI Gross National Income

HIPC Heavily Indebted Poor Countries

ICO Spanish Official Credit Institute

IDA International Development Association (World Bank)

IFF International Financing Facility

IFFim International Financing Facility for Immunization

LIC Low Income Countries

LMIC Lower Middle Income Country


MDG Millennium Development Goals

MDRI Multilateral Debt Relief Initiative

MINE Ministry of Education

NAA New Aid Approach

NGO Non-Governmental Organization

ODA Overseas Development Assistance

PTR Pupil-Teacher Ratio

PV Present Value

TFCA Tropical Forest Conservation Act

XAF CFA Franc


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Executive Summary

Introduction The World community continues to make progress toward achieving Education for All (EFA) goals, encapsulated by the second and third Millennium Development Goals (MDGs). Despite this progress, many countries are not on track to meet the MDGs for education. One of the key impediments for these countries is that there is insufficient funding for education. In an effort to address this problem UNESCO and other international organizations have been working to develop new sources of funding for education. This study, commissioned by UNESCO for the Advisory Panel of Experts on Debt Swaps and Innovative Approaches to Education Funding, explores two topics: (1) how debt swaps have been used and can be used more effectively to provide funding for education and other development purposes and (2) ways in which debt swaps can be combined with other financial instruments to leverage more funds for education and other development purposes.

Part I - Debt Swaps for Education Past Experience with Debt Swaps The first focus of this study is a critical examination of the use of debt swaps. Debt relief has a long and at times turbulent history. It goes back at least to the 1950s and has involved 85-plus developing countries (low and middle income) and their bilateral, multilateral and commercial creditors. Over time, debt relief policy and practice have undergone significant changes, as have the broader aid and development finance landscape of which debt relief is part. Moreover, different debt relief operations coexist today, with forms depending to a large extent on the nature of the debtor, the creditor and the specific types of debt involved. One increasingly popular instrument of debt relief has been debt swaps, also referred to as “debt conversions.” In such transactions the creditor forgives debt on the condition that the debtor makes available some specified amount of local currency funding to be used for specific developmental purposes. The swap of debt in exchange for various debtor commitments has been actively practiced since the late 1980s. It is important to note that debt swaps have been seen not only as a means for reducing the indebtedness of developing countries, but also as a way to provide additional funding for developmental programs in these countries. It is primarily the latter that has led to a recent surge in debt swap initiatives in a wide range of sectors, including education. Assessing how much debt is still available and eligible for swaps is a difficult task, mainly because of the lack of high-quality, detailed data on debt figures as well as variations in legal


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rules on debt relief among creditor and debtor countries. However, some rough estimates can be made. The initiation of the Heavily Indebted Poor Countries (HIPC) Initiative in 1996 and its later enhancements resulted (or will result) in much of the debt of the 40 countries that qualified being forgiven. As a result, for these countries the debts that may still be available for swaps are to be found with non-Paris Club bilateral creditors and commercial banks who have not yet contributed to the HIPC Initiative. A rough estimate (based on end-2009 figures) is that there may be US$3.8 billion of non-Paris Club bilateral debt and an additional US$9.5 billion of debt within the commercial bank sphere available for swaps. With respect to the small group of other, non-HIPC low income countries and the larger group of lower middle income countries, it is likely that only official bilateral debt would be available for swaps, as most countries would probably not accept relief on commercial debt for fear of losing financial market creditworthiness. Such strong assumptions leads to estimates that there may be US$15.4 billion for non-HIPC LICs and US$207.3 billion for lower middle income countries. The foregoing generalizations allow a very rough estimate of total debt that may be available for swaps. For the 96 countries classified by the World Bank as low income or lower middle income there may be as much as US$236 billion in debt available for swaps. It is important to add that critical development needs remain unmet in upper middle income countries. Debt swaps could also be used to help these countries accelerate their progress towards the Millennium Development Goals. Debt Swap Best Practices It is perhaps enticing to see debt-for-development swaps as straightforward win-win constructions: debtors see their debt reduced and development spending increased, while creditors benefit from an increase in the value of remaining debt claims and increase their development credentials. The reality is however far more complex, as is now acknowledged by most stakeholders involved. For example, for debt swaps to be most beneficial to the recipient country they should create additional “fiscal space” for its government.1 This means that the local currency expenditures required of the recipient government by the swap should not be greater that the amount that would have been required to meet the original debt service payments on the debt. Even if debt swaps adhere to the best practices, their impact on education financing will be limited if they continue to be executed on what is a piecemeal and strictly bilateral basis. ‘Upscaling’ is a necessary but difficult-to-achieve condition for significant improvement in debt swap results. The debts available for swap are being targeted by advocates of swaps from

1 For excellent discussions of “fiscal space” and the issues surrounding the use of debt reduction to provide fiscal

space to allow increased government spending for social programs see Heller & Shiller, “Issues in the Use of Debt Relief Savings in the Social Sectors,” (1999) and Heller, “The prospects of creating ‘fiscal space’ for the health sector,” (2006).


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various sectors—education, health, conservation, climate change and others. It would likely be more effective for debt-for-education supporters to work with these other interests in a common debt-for-development funding effort, with the sectoral allocation of the funds being dealt with at a second stage. Conclusion Experience has shown that when properly designed debt swaps can create “fiscal space” that allows recipient countries to provide additional funding for education and other development purposes. However, even if debt swaps adhere to the checklist and lessons learned, their impact on education financing (and a fortiori the debt situation of recipient countries) will be limited if one sticks to the typical piecemeal and strictly bilateral approach now observed. Upscaling is a necessary but difficult-to-achieve condition for debt swap performance improvement. The ‘available/eligible’ debt titles identified in this study are part of a ‘common pool’ in which advocates of swaps from various sectors are fishing -- among other, the health and conservation/climate change lobby. It is not very likely that debt-for-education supporters will have the longest fishing rod, nor is such competition among sectoral agencies desirable. A cooperative approach, whereby debt-for-education supporters team up with other interests in a common debt-for-development funding effort, would be more constructive. The sectoral allocation of funds, which should be worked out to conform to the development plans of debtor countries, can then be dealt with at a second stage. One promising avenue for upscaling would be for individual bilateral creditors to unite in larger multi-creditor swap initiatives. It is certain that the heterogeneity of creditor policies on debt swaps remains a significant impediment to larger multi-creditor debt-for-development swaps. However, it should be possible to find at least some common ground from which a process of donor coordination could be initiated. With many non-Paris Club and commercial creditors already involved in debt relief operations and South-South cooperation becoming ever more important in today’s interconnected world, there may be untapped potential for involving them in large-scale debt swap initiatives.2 This would of course require greater transparency over their respective debt relief policies and attitudes towards debt-for-development swaps. Role of UNESCO UNESCO could become a focal organization on debt swaps, a facilitator assisting interested debtor countries in finding a group of creditors that are favorable towards debt-for-development swaps (debt-for-education swaps in particular) and willing to pool the resources generated by the relief given on their claims into one single fund. Such a fund would then be managed by (or at least in close cooperation with) the debtor country itself, with resources spent on its own development priorities. As such, debt swaps would take on a HIPC/MDRI-type

2 Non-Paris Club and commercial creditors have accounted for 13% and 6% of debt relief respectively. (See UN,

Global Economic Situation & Outlook 2011, p. 82.)


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of setup, avoiding many of the pitfalls of earlier first-generation swaps while at the same time creating enough critical mass to make a noticeable impact.

Part II - Debt Conversion Development Bonds A New Source of Funding for Development The second focus of this study was on identifying how other sources of new funding might be introduced through debt swaps. Various public and private sector sources of funds were examined, but it became clear that the domestic savings of developing countries themselves are potentially the most substantial and sustainable sources of additional funding for development. Perhaps most important are the assets held by pension fund and insurance companies, because these funds need to be invested on a long-term basis. There is more than US$3 trillion in assets being held by such institutional investors in the developing countries. And these assets are growing rapidly. Such formalized domestic savings can be mobilized for social and economic development needs through the issuance of long-term local currency bonds. Most developing country governments are already issuing bonds within limits determined by their capacity to repay the debt. When carried out in accordance with best practices, debt swaps can increase the recipient government’s sustainable domestic borrowing capacity. This would not add to the fiscal burden of debtor governments since the funds for the future debt service payments would come from not having to make future payments on the converted foreign debt. Debt Conversion Development Bonds For this report the domestic bonds issued on the basis of savings achieved through debt conversions are called Debt Conversion Development Bonds (DCDBs). These bonds could be structured in the following way: one or more creditors agree to forgive specific debts in exchange for a commitment from the debtor country’s government to periodically place into a special account at their central bank or treasury the local currency saved from not having to make principal and interest payment on the debt. For this report the account is called the Debt Conversion Account (DCA). The payments by the government into the DCA (the “counterpart funds”) would be in local currency (which would save the country from having to utilize its foreign exchange reserves) and would be made over time in accordance with the original debt service schedules of the converted debts.3

3 The exchange rate used for the calculation of the local currency payments would be fixed—most likely to

correspond to the exchange rate at the time of the debt conversion agreement with each creditor. (This is necessary to provide certainty as the amount of local currency going into the special account over time.)


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The government could then issue local currency bonds (DCDBs) which would be repaid from the stream of future payments going into the DCA. Depending on the amounts of debt swaps in each county, the time profile of the future stream of counterpart funds, and debt markets conditions, one or more DCDBs could be issued in each country, varying in size, tenor, interest rate and issuance date as appropriate. Proceeds from the issuance of each DCDB would be deposited into the DCA. As development projects are approved and implemented, they would be funded by disbursements from the DCA. Such spending should be primarily for capital expenditures (such as infrastructure) and not operating expenditures. The developing country governments would have full ownership of the DCA and they would be fully responsible for all payments on the DCDBs. These bonds would carry the “full faith and credit” commitment of the government, making them equivalent in priority of payment to other general obligation bonds of the government. While the counterpart payments and proceeds from the sale of DCDBs would pass through the DCA, this would be done primarily for monitoring purposes. The primary purchasers of the DCDBs would likely be local institutional investors, banks and wealthy individuals. However, these bonds may also be attractive to foreign investors who are willing to invest in local currency securities. For example, they would be an attractive form of “Diaspora bond” or “social investment bond” given that they are used to finance specific social projects and the funds are monitored by donors and civil society organizations (CSOs). Other Sources of Support for Domestic Bonds Debt swaps are uniquely well suited as a means for backing domestic bonds, given the fact that once a debt is forgiven it creates a long term stream of savings for the recipient government. However, domestic bonds could be made possible by other means. Just as with DCDBs, domestic bonds could be supported by donors who—instead of making a large one-time contribution—are prepared to commit to providing funding over a period of time. This might be particularly attractive to private sector donors who see the need for immediate and significant capital projects but who need to budget their support over a period of time.4 Domestic bonds can also be issued based upon the securitization of future streams of revenue such as college tuition payments, student loan payments, and student housing expenditures. Such bonds are usually based on the expectation that graduates will soon have the ability to pay for part of their advanced education (or that their parents can pay). Governments can use such

4 This presents risks for the recipient government who would pledge their full faith and credit behind the

repayment of the bonds based on the expectation that the future donor funding for debt service payments would be received.


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structured bonds as a way to fund capital expenditures for tertiary education, allowing them to increase budgetary spending for primary and secondary education. While the government is likely to have to provide their full faith and credit backing for the bonds, the fiscal space is created by the government capturing some of the student’s (or their parent’s) future earnings. There are a number of ways that domestic bonds can be made more attractive to investors. For example bonds based on the securitization of tuition payments can benefit from a partial credit guarantee provided by a development finance institution or a full financial guarantee offered by a monoline bond insurance company. Conclusion In some countries the “fiscal space” created from properly designed debt swaps can be used by the government to issue domestic bonds, thus mobilizing the country’s own formalized savings to fund development. Such domestic bond issuance based on debt swaps is warranted in those instances where spending a large amount today has potentially greater benefits that spending small amounts over a long period of time. This is most often true when the funds are used to fund essential infrastructure projects. This paper has presented the idea of using debt swaps to support the issuance of domestic bonds. The proposed Debt Conversion Development Bonds could help fill the gap in funding needed to achieve the Millennium Development Goals for education. While DCDBs are not appropriate for all countries, there may be enough potential applications of this approach to warrant initiating a major campaign to promote their use. However, before launching such a campaign there is a need for additional research to:

Identify bilateral official, multilateral and commercial debts held by developed countries that could be used for debt swaps.5

Determine which creditors are likely to be willing and able to participate in a multilateral debt conversion effort to meet the MDGs.

Determine the specific debts of each developing country that could be converted and the repayment terms for these debts.

Calculate the potential amount of DCDBs that could be issued by each country.

Evaluate the potential impediments to this proposal on the part of both creditor and debtor countries—and multilaterals and commercial banks.

Evaluate the political and financial resources needed to successfully carry out this effort.

5 Official bi-lateral debts held by members of the Paris Club may be the most easily mobilized for debt swaps.

However, official bilateral debts held by creditor countries that are not members of the Paris Club, as well as debt held by commercial banks may, for some countries, be of significant amounts. In such cases an effort should be made to contact such creditors and explore the potential for using this debt for swaps. Mobilization of multilateral debt for debt swaps would, except in special situations, likely be very difficult.


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Identify the best sponsors for this effort.

Identify an organization to manage this effort.

Before launching a major campaign it would also be useful to test the concept with a pilot project. This would involve selecting an appropriate and willing country with clearly defined needs, finding one or more creditor countries willing to write off a portion of the country’s debt, and working with the recipient country to establish the framework for donor and civil society monitoring and to issue the bonds in the domestic capital market.6 This could be done rather quickly, as it does not require any major new multilateral agreements or administrative framework. Role of UNESCO UNESCO could play a lead role in promoting the Debt Conversion for Development Bonds as a way to dramatically increase funding to help meet the MDG goals for education by 2015. There could be several steps to this process. First, it would be useful for UNESCO to lead an effort to present this new concept to two communities which currently have little direct overlap in their development work: those which are seeking to mobilize innovative sources of funding for development and those which are seeking to develop the domestic capital markets of developing countries.7 Both groups should be asked to critically examine the concept. If they agree that it has merit, both should be involved in refining it. UNESCO could carry out this effort by first disseminating a report (similar to the current report) to experts in both communities and seeking their comments. This evaluation process could be carried further by bringing together a group of these experts to discuss the concept and make recommendations on how it might best be implemented. Second, UNESCO should seek funding and involve other partners to help to test the concept of DCDBs by arranging for a pilot study as described above. The initial phase of the pilot, which would involve the identification of an appropriate and willing country to issue DCDBs and exploring whether one or more countries would be willing to provide the necessary debt swaps, could be carried out at a small cost and relatively quickly. (While a pilot study could be carried out with just one participating creditor, it would be much more useful to engage multiple creditors. This would not only allow for greater funding, it would also help to test the process of creditor coordination and to see how the donor group functions at the country level.) Actual

6 The Education for All – Fast Track Initiative could play an important role in this by helping to identify the unmet

funding needs of countries relative to meeting education specific Millennium Development Goals. They could also assist in evaluating countries’ abilities to effectively use additional funding. 7 Communication with the former group might be organized via the Leading Group for Innovative Financing

(www.leadingroup.org). Included in the latter group would be the International Monetary Fund, the World Bank, the International Finance Corporation, regional multilateral development banks, and several development finance institutions and think tanks. Affinity MacroFinance, which is principally devoted to local currency bond financing in developing nations, would also be a logical participant in the latter group.

http://www.leadingroup.org


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implementation of a DCDB effort would be largely the responsibility and at the expense of the creditors and recipient country. Once DCDBs have been tested in a pilot project, UNESCO could arrange for an outside expert analysis of the effort which would be of great value in deciding whether to attempt to launch a major multi-country initiative. If there is sufficient support for the concept of DCDBs as a new way to fund development programs, then UNESCO could proceed to mobilize a multi-creditor, multi-country effort to use DCDBs as a means to obtain a substantial increase in funding for development, and specifically for funding investments in education needed to meet the MDGs by the year 2015. To assist in this more ambitious effort UNESCO should seek support from other multilateral organizations, interested donor governments, developing country governments, civil society organizations and the private sector. UNESCO should also explore how “non-traditional” (emerging) donors, commercial creditors and South-South Cooperation partners could be involved.


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1. Introduction

The World community continues to make progress on achieving Education for All goals, encapsulated by the second and third Millennium Development Goals. According to the latest EFA Global Monitoring report, an additional 52 million children are enrolled in primary school. The number of children out of school in South and West Asia was cut in half, and in sub-Saharan Africa, enrollment ratios rose by one-third. Gender parity in primary enrollment has also improved. Despite this progress, the world is not on track to meet the MDGs for education. While there are a number of diverse reasons for this, insufficient funding is a key constraint for many countries.8 With this in mind, UNESCO as well as other international organizations have been working to develop new sources of funding for education. In 2006, in line with the Resolution of the 33rd General Conference of UNESCO, the Director-General established the Working Group on Debt Swaps for Education which stimulated a debate and put the issue of debt swaps for education on the political agenda by exchanging information and experiences. In early 2010, the Leading Group on Innovative Financing for Development, an important platform for sharing information and promoting innovative financing mechanisms, established a Task Force on Innovative Financing for Education. The report of the Task Force was presented at the 2010 MDG Summit, proposing nine innovative financing mechanisms, including debt swaps for education, with a potential to raise funds for and the profile of, education. In order to explore further the potential of debt swaps for education, UNESCO established the Advisory Panel of Experts on Debt Swaps and Innovative Approaches to Education Financing in 2010.9 The Panel’s goal has been to examine how to advance knowledge on debt swaps and innovative financing for education for the benefit of EFA partners. A key deliverable of the Panel was this report focused, in particular, on the utilization of debt swaps and how they could be used in concert with other mechanisms to leverage more funding. During the 1980s and 1990s, a period when many developing countries were facing severe problems due to being over-indebted to foreign creditors, debt swaps were viewed a means of making debt relief efforts more palatable to creditors. Rather than just writing off or extending the maturity of debt, creditors could get something in return for providing debt relief.10 Today one of the key motivations for arranging a debt swap is the desire on the part of one of the parties involved to provide domestic currency financing for a specific project or program that they view as a public good. This has led to a number of initiatives to use swaps to provide funding for education, health, environmental protection and similar purposes.11

8 See UNESCO, Education for All Global Monitoring Report 2010, Chapter 2.

9 The Advisory Panel consists of 14 experts with a balanced representation in the area of debt swaps and/or

innovative financing for development or education (see Preface for the list of Panel’s members). 10

For donor governments another attractive feature of debt swaps is that they are treated as a form of official development assistance (ODA), if they convey a grant element of at least 25% (calculated at a discount rate of 10%). See OECD Development Assistance Committee directives at http://www.oecd.org/dataoecd/36/32/31723929.htm#32,33 11

See references at the end of this report for descriptions of a number of these efforts.

http://www.oecd.org/dataoecd/36/32/31723929.htm#32,33


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In 2007, The Global Fund to Fight AIDS, Tuberculosis & Malaria initiated a debt swap program of this type called Debt2Health that has drawn considerable attention. By the end of 2010, the Debt2Health program had concluded four swap agreements for approximately US$236 million12 in debt reduction, with the equivalent of half this amount in local currency to be spent on national health programs. The governments of Germany and Australia have participated from the creditor side, with Indonesia, Pakistan and Côte d’Ivoire being the recipient countries. While it is difficult to claim debt swaps as an innovative form of financing at this point, Debt2Health and similar efforts have sparked interest in doing something similar to promote education. Over the past two decades a significant amount of the debt of developing countries has already been written off in efforts to help these countries achieve a more sustainable financial position and to allow them spend more of their on fiscal resources on development rather than on servicing their external debts. Thus the question often arises in discussions about the future of debt swaps—is there sufficient debt remaining that could be used for swaps? While an exact number is difficult to obtain, Professor Danny Cassimon and Dennis Essers of the University of Antwerp address this question in chapter 2. They estimate that there is a substantial amount of debt still available that could potentially be used for debt swaps. They caution, however, that the availability of this debt for swaps is constrained in various ways, most importantly by the established policies of creditor countries concerning their participation is swaps. In this chapter they also present lessons drawn from the swap experience so far and propose a checklist for designing debt swaps in ways that will maximize the developmental impacts for the recipient country. In order to learn more about how debt swaps for education have been carried out in practice, two case studies of recent examples of such efforts were undertaken. The debt swaps that were examined were carried out by Spain and El Salvador (signed in 2005) and France and Cameroon in 2007-2011. These debt swaps for education programs are described in Chapter 3. Lessons drawn from the case studies are summarized at the end of this chapter. Chapter 4 concludes the first section focused on debt swaps for education by outlining the potential of and limits to upscaling debt swap operations. The second section of this paper starts with chapter 5. The focus of which is on ways to establish synergies between debt swaps and other innovative financial instruments. Most of the chapter is devoted to a proposal for combining debt swaps with the issuance of domestic bonds in ways that can mobilize the domestic savings of developing countries for education and other developmental purposes. The Debt Conversion Development Bond proposal is a form of “innovative financing” in the sense proposed by the Leading Group for Innovative Financing for

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Debt2Health Transactions have been done in Euros. This figure uses the exchange rate US$1 = €0.6954.


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Development:13

It is linked to global public goods.

It is complementary and additional to traditional official development assistance (ODA).

It is more stable and predictable than traditional ODA. The specific public goods are first, the achievement of the Millennium Development Goals and second, continuing financial support for economic and social development in developing countries. The proposed DCDBs are complementary and additional to traditional ODA in that in most cases it will be the forgiveness of external debt by official donors that will make it possible for recipient countries to issue additional domestic bonds to finance their own development. Finally, the funding made possible by DCDBs can provide more stable and predictable financing for development than traditional ODA in two respects. First, DCDBs use debt swaps to secure a pre-commitment of future financing extending over many years, thus providing a stable and predictable source of funding. Second, DCDBs can speed the development of domestic capital markets. Access via the domestic capital markets to the significant and rapidly growing pool of domestic savings that are being formalized by banks, pension funds, insurance companies and other institutional investors in developing should someday be one of the most important and stable sources of financing for their development. The report concludes in Chapter 6 with suggestions on how these proposals on debt swaps for education and other development purposes might be put into practice.

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See Leading Group on Innovative Financing for Development website at www.leadinggroup.org and the discussion in Burnett & Bermingham, “Innovative Financing for Education,” 2010.

http://www.leadinggroup.org


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Part 1 – Debt Swaps for Education


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2. Overview of Debt Relief Policies, Debt Size and Lessons from debt swaps for education The current chapter consists of three main blocks. Section 2.1 provides a shorthand overview of international debt relief policy and practice throughout the years, with a focus on recent times. Next to a more general historical account it offers some insights into the debt swap policies of individual Paris Club and non-Paris Club bilateral creditors. Section 2.2 attempts to make a first, rough estimate of the amount of debt that could be available/eligible for swaps. In conclusion a review of the most important lessons learned from debt swaps conducted so far, in the education sector and elsewhere, is presented in Section 2.3, together with a preliminary ‘checklist’ to further improve upon debt swap performance.

2.1 Overview of debt relief policy and practice

Debt relief has a long and at times turbulent history. It goes back at least to the 1950s and has involved 85-plus developing countries (low- and middle-income) and their bilateral, multilateral and commercial creditors. Over time, of course, debt relief policy and practice have undergone significant changes, just as have the broader aid and development finance landscape of which debt relief is part. Debt relief could therefore be said to be a ‘chameleon’, changing colors in accordance with its environment. Moreover, different debt relief operations coexist today, with forms depending to a large extent on the nature of the debtor, the creditor and the specific types of debt involved. A useful way of looking at international debt relief’s many guises is offered by Table 1 (see next page). As shown by this table and will be explained further on, the initiation of the Heavily Indebted Poor Countries (HIPC) Initiative in 1996 can be seen as constituting a pivotal moment in debt relief policy and practice. Accordingly, in the following subsections debt relief history will be treated as existing of three phases or ‘generations’ (which do partly overlap): the pre-HIPC era, the HIPC initiative (and its enhancement) in itself, and a variety of initiatives that go beyond HIPC. In view of the purpose of the current report we will focus on the third generation of debt relief, which includes recent debt swap initiatives, and restrict ourselves to the essentials as regards the former two phases. A fuller historical account of debt relief can be found in appendix (A) to this report.

Final Report for UNESCO Advisory Panel of Experts on Debt Swaps and Innovative Approaches to Education Financing 14

Table 1: A ‘generational’ overview of international debt relief initiatives (by type of creditor)

Bilateral (Paris Club) Bilateral (non-Paris Club) Multilateral Commercial

Be

fore

HIP

C

Init

iati

ve

(19

50

s-1

99

6)

- common terms for LICs (Toronto, London, Naples), LMICs (Houston) and other countries (classic) - debt swaps - parallel ODA relief

- ad hoc debt relief - exceptional debt relief

- London Club treatments - debt swaps - Brady deals - IDA-DRF buy-backs

HIP

C In

itia

tive

(19

96

-...

)

HIPCs non-HIPCs HIPCs non-HIPCs HIPCs non-HIPCs HIPCs non-HIPCs

- bringing debt down to debt sustainability thresholds through debt relief under Lyon (80%) and later Cologne (90%) terms - common terms

- debt swaps - tailored debt relief through Evian approach

- participation in bringing debt of HIPCs down to debt sustainability thresholds (varies per creditor)

- ad hoc debt relief (including debt swaps)

- bringing debt of HIPCs down to debt sustainability thresholds

- exceptional debt relief

- participation in bringing debt of HIPCs down to debt sustainability thresholds through London Club treatment, debt swaps, IDA-DRF buy-backs

- London Club treatments - debt swaps - IDA-DRF buy-backs

Be

yon

d H

IPC

Init

iati

ve

(20

06

-...

)

- providing 100% debt relief to post-completion point HIPCs

- ad hoc debt relief (including debt swaps)

- MDRI: providing 100% debt relief to post-completion point HIPCs (IDA/IMF/AfDF/ IADB)

Source: Authors’ own elaboration; Acronyms: LIC = low-income country, LMIC = lower middle-income country, ODA = Official Development Assistance, IDA-DRF = International Development Association Debt Reduction Facility, HIPC = Heavily Indebted Poor Country, MDRI = Multilateral Debt Relief Initiative, AfDF = African Development Fund, IADB= Inter-American Development Bank.


15

Pre-HIPC debt relief: bilaterals leading the way In the 50 years between the end of World War II and the introduction of the HIPC initiative, debt relief was very much dominated by traditional bilateral creditors. Through the Paris Club, an informal, voluntary forum set up in 1956, these creditors worked out debt problem solutions with their debtors. At first, debt restructurings were short-term and at market interest rates, aimed at recuperating as much as possible of outstanding claims. Only when debt burdens in most developing countries showed no sign of abating and in some even led to full-fledged debt crises, Paris Club creditors moved to a menu of options that would lower the present value of their non-concessional claims, either by means of debt stock reduction, debt service reduction or extensive debt service prolonging. Different debt treatment ‘terms’ followed each other in rapid succession, gradually increasing the concessionality embedded.14 From 1991, a debt swap clause also allowed Paris Club creditors to exchange ODA and part of non-ODA debt into debtor country commitments toward social, commercial or environmental investment, emulating earlier commercial creditor debt-for-equity and debt-for-nature swaps.15 Other pre-HIPC efforts are found mainly with commercial creditors. Most notably were the Brady deals that involved commercial creditors reducing their exposure to non-performing debt titles by swapping them for new, more concessional bonds.16 HIPC debt relief: a concerted effort By the mid-1990s it was clear that the existing (Paris Club) mechanisms for debt relief would not suffice for a group of primarily low-income countries that continued to stagger under enormous burdens of external debt, a large part of which was owed to multilateral creditors. In an attempt to bring back to sustainable levels the debt of these countries, the World Bank and IMF launched the HIPC initiative in 1996. At completion point, HIPC-eligible countries would receive irrevocable debt relief from their bilateral (Paris Club and non-Paris Club), multilateral and commercial creditors in order to bring debt down to predetermined sustainability thresholds. Such a comprehensive approach marked a watershed in debt relief practice and policy. From 1996 onwards, debt relief would get on two distinct tracks: one for HIPCs, which would be broadened and deepened in the subsequent years, and one for non-HIPCs, which would largely be a continuation of pre-1996 practices (see Table 1). In 1999 the original HIPC initiative was modified to incorporate some of the critiques voiced by civil society. Besides increased flexibility and broadened eligibility, the enhanced initiative introduced Poverty Reduction Strategy Paper (PRSP) conditionality, making the preparation and implementation of such a national development plan by debtor countries a necessary requirement for reaching HIPC completion point. This amendment made the link between debt relief and poverty alleviation more visible and explicit.

14

See appendix A and http://www.clubdeparis.org/sections/types-traitement/reechelonnement. 15

See Cassimon et al. (2009) ‘What potential for debt-for-education swaps in financing Education for All?’ and references therein. 16

See Vásquez. (1996) ‘The Brady plan and market-based solutions to debt crises’ for details.

http://www.clubdeparis.org/sections/types-traitement/reechelonnement


16

Beyond-HIPC debt relief: ‘going the extra mile’ and the return of debt swaps Almost all Paris Club creditors have chosen to ‘top up’ their commitments and deliver full 100% debt relief to their HIPC debtors. In 2006, the IMF, the International Development Association (IDA) and the African Development Fund (AfDF)17 followed suit by supplementing the HIPC initiative with the Multilateral Debt Relief Initiative (MDRI), which promised to forgive all remaining eligible debt owed to these three multilaterals for post-completion point HIPCs. From the outset the MDRI has been framed in terms of channeling additional resources to HIPCs in support of their progress towards the Millennium Development Goals (MDGs), more than as a debt sustainability mechanism (such as the HIPC initiative itself). Importantly, the MDRI does not prescribe the participation in debt relief by bilateral creditors, commercial creditors and multilaterals other than the three mentioned, unlike the HIPC initiative where comprehensiveness was key.18 In 2007, the Inter-American Development Bank (IADB) launched a parallel initiative to cancel all debt owed to it by five Western Hemisphere post-completion point HIPCs. Meanwhile, debt relief to non-HIPCs has been granted only on an ad-hoc, case-by-case basis (much like before 1996) and, with the notable exception of (Paris Club) debt treatments of Iraq and Nigeria, through piecemeal operations. One increasingly popular instrument to relieve the debt of (mostly) non-HIPCs and non-eligible debt titles of HIPCs 19 has been the debt swap or debt conversion. To be sure, the conversion of debt in exchange for various debtor commitments has been actively practiced throughout the long history of debt relief, even during the heydays of the HIPC initiative (when creditors had their hands full with HIPCs).20 However, it seems fair to say that recent years have seen a new surge in swap initiatives, and that in a wide range of sectors. The latest conversions include debt-for-nature swaps enacted under the US Tropical Forest Conservation Act (see further) with Indonesia (2009), Brazil (2010) and Costa Rica (2010); debt-for-health swaps under the Debt2Health Scheme21 of the Global Fund to Fight AIDS, Tuberculosis and Malaria between Germany and Pakistan (2008), Germany and Cote d’Ivoire (2010) and between Australia and Indonesia (2010); and broader debt-for-human development swaps such as that between Spain

17

The latter two organizations are the concessional lending arms of the World Bank and the African Development Bank, respectively. 18

This is, however, not to say that bilateral creditors do not contribute financially to the MDRI. Indeed, bilateral creditors compensate the IDA and AfDF for the costs these latter organizations incur in granting MDRI debt relief on their claims. This compensation takes place proportionally with the agreed bilateral burden shares in previous IDA and AfDF replenishing rounds. Bilaterals have also committed to mobilize additional resources to cover part of the costs of MDRI to the IMF, although most has been financed with funds generated by a revaluation of the IMF’s own gold reserves. 19

Ineligible debt titles are, for example, those credit arrangements that were concluded after the cut-off date for debt rescheduling (so-called ‘post-cut-off date debt’). 20

Filmus and Serrani (2009) identify 128 debt swap for social investment agreements signed between 1998 and early-2008. 21

See http://www.theglobalfund.org/en/innovativefinancing/debt2health.

http://www.theglobalfund.org/en/innovativefinancing/debt2health


17

and Ghana (2009). Proposals for even more debt swaps are seeing the light of day. One suggestion, for example, has been that of linking debt relief to climate change.22 In the remainder of this section we attempt to situate debt swaps in the broader (current) debt relief policy of a number of traditional Paris Club creditors and non-Paris Club bilaterals. Traditional Paris Club creditors23 Spain has in recent years presented itself among Paris Club donors as the most outspoken debt-for-development champion in general, and in the education sector more particularly. During the 2004 UN Summit for Action against Hunger and Poverty, Spanish Prime Minister José Luis Rodrígez Zapatero stated that Spain, beyond its HIPC commitments, envisaged being ‘actively involved in debt-for-social-development swap operations, especially in the area of primary education’.24 These policy goals were further consolidated end-2006 with the coming into force of Spanish Law No. 38 on External Debt Management.25 This legal text aims at linking external debt management with Spanish development policy and promotes principles of debtor ownership and sovereignty and (Spanish and local) civil society participation in the process of converting debt. Special mention is made of the need to target the poorest developing countries with the highest levels of external debt, preferably partner countries of Spain’s development policy. In practice, it can be seen that in the years prior to the new law, debt swaps were primarily conducted with Latin American countries, both HIPCs (topping up the 90% debt relief agreed upon in the Paris Club’s Cologne terms) and non-HIPCs (including middle-income countries).26 Spain adopted a differentiated debt swap policy, granting a discount of 60% on the counterpart payments due by debtor countries classified as HIPCs, on the one hand, and requesting full payments from non-HIPCs, on the other. Since the adoption of Law No. 38, however, Spain has redirected its policy stance on swapping debt towards topping up relief to low-income HIPCs only, many of them from Sub-Saharan Africa.27

22

See Development Finance International. (2009) ‘Debt relief to combat climate change’. 23

One notable effort to synthesize the debt swap policy of Paris Club creditors is a recent book by Buckley (2011). This book contains separate chapters on US, Italian, German, French and Australian policy (and swap practice) as well as shorter sections on Switzerland, Spain and Norway. Some additional information on specific debt relief legislation in creditor countries can be found in Ruiz (2007) who critically examines and compares the relevant national laws/resolutions/declarations of Italy, Spain, Belgium, France and Norway. 24

For a transcript of the full speech, see http://www.segib.org/upload/discursodelpresidentedelgobierno.pdf. 25

See http://www.boe.es/boe/dias/2006/12/08/pdfs/A43049-43053.pdf. A translated, English version of Article 5 of this law (which deals with swaps) can be found in Filmus and Serrani (2009: 48). 26

Navarro (2006) and Vera (2007) provide extensive overviews of these pre-2007 Spanish-Latin American swaps (with application in the education sector). 27

A full list of recently conducted and announced Spanish debt swap operations, together with specific program information can be found at http://www.meh.es/es-ES/Areas%20Tematicas/Internacional/Financiacion%20internacional/Gestion%20Deuda%20Externa/Paginas/Programas%20de%20conversion.aspx.

http://www.segib.org/upload/discursodelpresidentedelgobierno.pdf

http://www.boe.es/boe/dias/2006/12/08/pdfs/A43049-43053.pdf

http://www.meh.es/es-ES/Areas%20Tematicas/Internacional/Financiacion%20internacional/Gestion%20Deuda%20Externa/Paginas/Progr

http://www.meh.es/es-ES/Areas%20Tematicas/Internacional/Financiacion%20internacional/Gestion%20Deuda%20Externa/Paginas/Progr


18

Italy was the first European creditor to establish its own legal framework linking debt relief explicitly to development and poverty reduction.28 Most instrumental has been its Law No. 209: Measure to Reduce External Debt of Lower Income and Heavily Indebted Countries, a piece of legislation adopted in 2000 (with some amendments made since).29 This external debt law foresees, among other things, the possibility of debt conversions with non-HIPC IDA-only countries, other countries within the framework of a Paris Club decision and countries confronted with natural disasters or grave humanitarian crises, all conditional on debtor countries pursuing human development (and poverty reduction), respecting human rights and refraining from using war as a means of resolving disputes. In terms of targeting sectors with freed-up funds, priority is given to agriculture, health, education and infrastructure. Under Law No. 209, Italy signed a 10-year debt-for-development agreement with Kenya, a non-HIPC IDA-only country, with resources to be spent in the area of water and irrigation, health, education and vocational training and the upgrading of urban slums.30 As Ruiz (2007) points out however, the Italian government has in practice often chosen to target (non-IDA) middle-income countries with debt conversions. Recent exchanges with countries such as Pakistan, Peru, Macedonia, and, most notably, Egypt are testimony to this strategy.31 Germany’s debt swap policy is based on a federal budget act which authorizes the German Ministry for Economic Cooperation and Development (BMZ) to exchange bilateral debt up to a certain maximum amount (which now stands at US$150 million annually).32 Considering criteria of indebtedness, political conditions, debtor countries’ track record in cooperation on debt management and their poverty reduction resource needs, the BMZ (together with the Ministry of Finance) proposes debt swaps to eligible countries on an ad-hoc basis.33 Funds released are to finance education, health, environmental protection, infrastructure or general poverty reduction. In contrast to most other bilateral creditors, Germany usually offers substantial discounts on the required counterpart payments (from 50 up to 80%). Whereas swaps were originally restricted to debt titles included in a Paris Club agreement, a legislative change in 2008 has made it possible to also swap debt that has not yet been rescheduled by the Paris Club, opening up the instrument to other debt titles and other, often middle-income, countries.34 Overall, recent years show a strong focus on non-HIPC lower-middle income countries, with swaps concluded with, among others, Jordan, Peru, Indonesia and Pakistan. Germany has been actively involved in the Global Fund’s tripartite Debt2Health initiative since its launch in 2007 and continues to support its workings.

28

See Filmus and Serrani. (2009) Development, education and financing: Analysis of debt swaps of social investment as an extra-budgetary education financing instrument. 29

The amended version of the law can be consulted at: http://www.esteri.it/MAE/IT/Politica_Estera/Economia/Cooperaz_Econom/Debito_Estero/Legge_25_luglio_n_209.htm. 30

See Buckley. (2011) Debt-for-development exchanges: History and new applications, Chapter 5. 31

See Ginestro and Bottone. (2008) ‘Italian-Egyptian debt for development swap program’ 32

For a short summary of current German debt relief policy, see http://www.bmz.de/en/what_we_do/issues/DebtRelief/instrumente/dept_swaps.html. 33

Berensmann. (2007) ‘Debt swaps: An appropriate instrument for development policy? An example of German debt swaps’ 34

See Buckley. (2011) Debt-for-development exchanges: History and new applications, Chapter 6.

http://www.esteri.it/MAE/IT/Politica_Estera/Economia/Cooperaz_Econom/Debito_Estero/Legge_25_luglio_n_209

http://www.bmz.de/en/what_we_do/issues/DebtRelief/instrumente/dept_swaps.html


19

Among European bilateral creditors, France is, in some ways, the odd one out.35 It has developed its own mechanism for debt conversion, the so-called Debt Reduction and Development Contracts (C2D), a ‘donation-based refinancing system’ which was initiated in 2001 through memoranda issued by the French Ministries of Foreign Affairs and Economy.36 France uses the C2D scheme exclusively to fulfill its additional commitment of providing full 100% debt relief on the ODA debt of its HIPC debtors. Rather than cancelling ODA claims directly without further conditions once debtor countries reach their HIPC completion point (as, for example, Germany does), France demands that these countries continue to pay off these claims on each due date, but then transfers (i.e. refinances) the equivalent amount in euro into a counterpart fund held at the debtor’s central bank. From there resources are channeled to interventions in sectors that are considered priority in debtor countries’ PRSPs and MDG plans, with focus on areas of education, water and sanitation, health and the fight against AIDS, agriculture and food safety, infrastructure development, environmental protection and manufacturing sector development. Where possible, C2D support is (multi-)sector-based rather than project-based (as in most other debt swaps). Countries that have recently signed C2D debt swaps with France are, among other, Cameroon, Mauritania and Congo-Brazzaville. The United States’ congressional initiatives on bilateral debt swaps have limited their application solely to environmental conservation37: first, the 1990 Enterprise for the Americas Initiative (EAI) Act and later, from 1998 onwards, the Tropical Forest Conservation Act (TFCA).38 To be eligible for debt conversion under the TFCA, a debtor country must, logically, have sizeable tropical forests, have operational IMF and World Bank programs, show progress in the establishment of an open investment regime and, if applicable, have a satisfactory financing program with commercial creditors. Additional political criteria are that any TFCA beneficiary should have a democratically elected government, cooperate with US drug control policy, respect human rights and refrain from supporting terrorism. Only concessional loans extended under the Foreign Assistance Act or credits extended under the Agricultural Trade Development Assistance Act (also known as Food-for-Peace) can be converted. There is a strong but not exclusive focus on middle-income Latin American debtors under the TFCA. Swaps are often partially subsidized by international NGOs such as Conservation International or The Nature Conservancy. Besides these five Paris Club creditors that are currently very active in swapping debt, there are a number of other Paris Club members that previously had debt swap programs of their own but now take a more passive stance. Switzerland, for example, was the first donor country to use debt-for-development swaps as an integral part of its development cooperation policy.39 The Swiss Debt Reduction Facility’s endowment fund of CHF500 million, set up in 1991, was

35

See Buckley. (2011) Debt-for-development exchanges: History and new applications, Chapter 7. 36

See http://www.diplomatie.gouv.fr/en/france-priorities_1/governance_6058/financial-governance_6397/the-c2ds-funding-instrument-under-the-apsfs_11332.html. 37

See Buckley. (2011) Debt-for-development exchanges: History and new applications, Chapter 4 38

See http://www.usaid.gov/our_work/environment/compliance/faa_v.html. 39

See Buckley. (2011) Debt-for-development exchanges: History and new applications, Chapter 8

http://www.diplomatie.gouv.fr/en/france-priorities_1/governance_6058/financial-governance_6397/the-c2ds-Final



http://www.usaid.gov/our_work/environment/compliance/faa_v.html


20

eventually depleted in 2001. From then onwards, Switzerland decided to channel all remaining debt relief through the regular HIPC framework. In Belgium several debt-for-development swaps were conducted with buy-backs from Delcredere, the country’s leading export credit agency (ECA), during the 1990s.40 These (and other) smaller Paris Club creditors may be willing to reconsider debt swaps in the future, especially when presented as a concerted effort at the international creditor community level. Non-Paris Club creditors Reliable information on the debt relief policy of non-Paris Club creditors, some of them important debtor countries themselves (currently or in the past), is noticeably lacking. One reason is that there exist no multi-creditor fora for restructuring debt outside the Paris Club, which makes non-Paris Club debt relief more ad hoc and even more diffuse than Paris Club relief, even within the HIPC framework (in which all non-Paris Club creditors are in principle required to participate).41 Gueye et al. (2007) find that non-Paris Club creditors generally set far fewer conditions for executing debt restructuring agreements. Debt swaps, which typically involve targeted spending of freed-up resources and the creation of jointly managed counterpart funds may therefore not be the preferred option of many of these non-traditional creditors. China, for example, has only very recently issued its first white paper on foreign aid activities.42 From this paper it appears that China has been extensively involved in debt relief, especially in Africa, with overall debt cancelled for 50 countries amounting to CNY25.6 billion (or about US$4 billion at current exchange rates) as of end-2009. Figures are however aggregated over years and individual countries. There is also no indication of whether and, if so, how much of these cancelled debts have been subject to swap-like deals. All this should not detract from the fact that some non-Paris Club creditors have indeed executed debt conversions.43 The Czech Republic has conducted swaps for social investment in combination with buy-backs in order to fulfill its obligations under HIPC. Hungary has established clearing arrangements whereby debt is swapped for local debtor country goods (‘debt-for-exports’). Libya has engaged in debt-for-equity swaps, cancelling debt claims in exchange for equity stakes in local companies in the debtor country. In 2001 Guatemala even transferred a share of its debt claims on Nicaragua to Spain as a partial down payment of its own obligations toward Spain. One particular, oft-cited swap initiative is that between Argentina and Senegal. In 1993, UNICEF’s Dutch Committee (with financial assistance from the

40

See Moye. (2001) ‘Overview of debt conversion’ 41

Importantly, the Paris Club includes in all its agreements a clause that requires debtor countries to seek ‘comparable’ debt relief from all their non-Paris Club creditors. In practice, however, non-Paris Club bilateral participation in HIPC is very uneven, with some creditors delivering the full amount of the required relief and others nothing at all (see IDA and IMF, 2010). 42

See http://www.scio.gov.cn/zxbd/wz/201104/t896900.htm. 43

See Gueye et al. (2007) ‘Negotiating debt reduction in the HIPC initiative and beyond’; Moye. (2001) ‘Overview of debt conversion’

http://www.scio.gov.cn/zxbd/wz/201104/t896900.htm


21

ING bank) acquired US$24 million worth of bilateral and commercial debt owed by Senegal to Argentina from the latter’s government for US$6 million (a 75% discount). UNICEF cancelled these claims in return for Senegal’s promise to contribute the local currency (CFA franc) equivalent of US$11 million to UNICEF-administered projects for women and children in Senegal. While being far from complete and exhaustive, the foregoing paragraphs demonstrate that the debt swap policy (and practice) of various bilateral creditors differs greatly, in terms of debtor countries and debt titles targeted as well as the specific purposes for which proceeds can be used. This heterogeneity can be observed even among the most prominent debt swap proponents within the Paris Club.

2.2 An analysis of debt available/eligible for swaps

Assessing how much debt is still available/eligible for swap purposes is a difficult if not impossible task, mainly because of the lack of high-quality, detailed data on debt figures as well as creditor and debtor countries’ legal rules on debt relief. As an entry point, we follow the report prepared by Development Finance International (2009) in looking at the latest available data on the external public and publicly guaranteed (PPG) debt structure of 96 countries: 40 HIPCs (post-, interim- as well as pre-; see Table A1 in appendix for a classification), 10 non-HIPC low-income countries (LICs), and 46 lower-middle income countries (LMICs).44 Detailed information by country is presented in appendix B. Figures indicate that, overall, as of end-2009 these 96 low-income and lower-middle income had a combined outstanding PPG debt of around US$687.3 billion, of which US$415.6 billion (60%) was concessional and US$271.7 billion (40%) non-concessional. Total multilateral debt amounted to US$289 billion (or 42% of the total), of which US$173 billion was concessional. Total bilateral debt was US$266.5 billion (39% of all outstanding debt) with most of it, US$243 billion, concessional. Commercial debt stood at US$132 billion (19% of the total) for these 96 countries. Most commercial debt was bond and bank debt, namely US$72 billion and US$38.5 billion respectively. As is clear in appendix B, however, these aggregate figures mask huge disparities between country groupings (HIPCs, other LICs and LMICs) as well as within these groupings. Commercial debt titles constituted a much larger share of total outstanding PPG debt for LMICs (22.6%) that it did for HIPCs (9.2%) or other LICs (3.7%). The opposite is true for concessional multilateral debt, which is the most important category in relative terms for HIPCs (44.3%) and other LICs (61.2%) but certainly not so for LMICs (18.1%). Figure 1 represents these differences in debt structure graphically.

44

These 96 countries together represent all countries classified by the World Bank as low-income (LIC) or lower-middle income (LMIC) at the time of writing.


22

Figure 1: structure of outstanding external debt per country grouping

Source: Authors’ calculations based on the World Bank Global Development Finance online database (2011); Note: for country classification and individual country data, see appendix B.

How do we now approximate total debt available for conversion? For HIPCs, one should note that the majority share of the debt listed in appendix A2 is due to be cancelled (or has already been cancelled) upon these countries reaching completion point. Within the framework of the MDRI, all pre-cut off dated debt owed to the IDA, IMF, African Development Bank and the Inter-American Development Bank will be forgiven. This is the lion share of concessional multilateral debt. Similarly, most Paris Club bilateral creditors are also expected to go beyond their HIPC commitments and deliver 100% debt relief on ODA and non-ODA debt. Consequently, we believe that HIPC debt titles that remain available for swaps are primarily to be found with commercial creditors and non-Paris Club bilateral creditors that are not contributing to the HIPC Initiative and/or not willing to go beyond their HIPC commitments. To our knowledge no exact figures exist on how much of bilateral debt of HIPCs is owed to non-Paris Club creditors. The latest HIPC Status of Implementation report by the IDA and IMF (2010), however, indicates that non-Paris Club bilaterals account for 13% of total PV costs of the HIPC Initiative (for 40 HIPCs). If we simply extend this percentage to the nominal bilateral debt figures listed in appendix A2, we find that HIPCs owe roughly US$5.7 billion to non-Paris Club bilateral creditors. The IDA and IMF (2010) report further estimates that, at least with respect to the 30 current post-decision point HIPCs, Non-Paris Club creditors only deliver around 34-39% of their required assistance to the initiative. Using this percentage as a proxy for the contribution to all 40 HIPCs results in an estimated US$3.8 billion of non-Paris Club debt that will not be forgiven under the HIPC initiative and will thus, in principle, be available for swaps. Evaluating how much of commercial debt will be forgiven under HIPC is even harder, as information is very patchy. For reasons of simplicity we assume here that none of the commercial debt outstanding at end-2009 would be directly forgiven under the initiative, leaving us with approximately US$9.5 billion of commercial debt to swap.


23

With respect to the small group of other, non-HIPC LICs and the larger group of LMICs we are inclined to only count bilateral debt as eligible for swaps, as most countries would probably not accept relief on commercial debt for fear of losing financial market creditworthiness. Such strong assumptions lead to estimates of US$15.4 billion and US$207.3 billion respectively. The forgoing generalizations allow us to come up with a first, very rough estimate of total debt that could be available for conversion. Table 2 summarizes our reasoning and indicates that roughly US$236 billion would be available as of end-2009, 88% of which would reside with LMICs. Table 2: Rough estimate of debt ‘available’ for conversion as of end-2009 (in current US$ billions)

Country category Debt category Estimated debt eligible

HIPCs (40) Non-Paris club bilateral debt 3.8

Commercial debt 9.5

Other LICs (10) Bilateral debt 15.4

Other LMICs (46) Bilateral debt 207.3

Total - 236

Source: Authors’ calculations based on the World Bank Global Development Finance online database (2011).

However, as always is the case with these kinds of back-of-the-envelope calculations, caution is warranted. The roughly estimated US$236 billion of ‘available’ debt may still not be a good proxy for the amount of debt that is realistically eligible for debt swaps. Three main reasons stand out here. First, some debtor countries may not be willing to accept relief on their (bilateral) debt titles in order to maintain better relations with their respective creditors (who could be inclined to revise their concessional lending policies) and not to undermine their future prospects of accessing financial markets. These are often cited as important reasons why countries such as Lao PDR, Bhutan and Sri Lanka have opted out of the HIPC initiative (while meeting the technical HIPC eligibility criteria at that time).45 Second, on the aggregated level of the creditor community, the Paris Club in particular, there exist certain rules and upper limits (caps) with respect to the share of non-concessional debt that can be swapped. These limits, aimed at preserving comparability of treatment and solidarity among creditors, depend on the income classification of the debtor country involved and have become increasingly generous over time.46 Third, the possibility of debt conversion depends on the relevant policy frameworks of each individual creditor. Debt conversion policies differ greatly across bilateral creditors, in terms of both eligible debtor countries and debt titles (as section 2.1 has made clear). This, of course, makes a move beyond singular bilateral swaps anything but self-evident.

45

See e.g. Pant and Subedi. (2006) ‘The HIPC Initiative and debt relief: An examination of issues relevant to Nepal’ 46

See Moye, (2001) ‘Overview of debt conversion’


24

Taking all the foregoing together, we are left with a total amount of debt eligible for swap purposes that is significantly smaller than the earlier-reported US$236 billion. Due to data constraints, a realistic amount of swappable debt is almost impossible to compute, at least at the aggregated level. Further calculations would have to be done at the debtor country level, by hearing the debtor country in question about its stance towards debt relief (and swaps in particular); by examining the Paris Club rules that apply to the debtor country’s bilateral debt; and by identifying the main creditors of the debtor country as well as what the debt swap policy employed by each of these creditors is.

2.3 Lessons from swap experiences so far

As pointed out before, debt-for-development swaps are again gaining popularity in the education sector and elsewhere. It is perhaps enticing to see these debt swaps as straightforward win-win constructions: debtors see their debt reduced and development (education) spending increased, while creditors benefit from an increase in the value of remaining debt claims and increase their development credentials. The reality is however far more complex, as is now acknowledged by most stakeholders involved. Harsh critiques on first-generation swaps were part of the reason why attention moved to large, more comprehensive initiatives such as the HIPC Initiative and MDRI. In what follows we offer some insights on the economic workings of debt swaps and how they fit within the now dominant HIPC/MDRI framework and broader aid architecture. Focusing on potential problems as well as best practices allows us to come up with a number of propositions for improving upon debt swap performance, i.e. to better engineer these instruments. Such a ‘checklist’ should not at all be seen as exhaustive, neither as a one-size-fits-all blueprint. Ideally, debt-for-education swaps should be the outcome of a bargaining process between debtor countries and their creditors, where stakeholders engage in a dialogue on equal footing. Increase in available resources at the debtor country level and in the government budget? Debt-for-education swaps should increase net financial transfers to recipient countries. Through a swap operation a debtor government is able to divert public resources, otherwise leaving the country via debt service payments in foreign currency, to domestic spending. In other words, debt swaps, as any other form of aid intervention, transfer international purchasing power from the donor to the recipient country. However, there are at least three important qualifications that apply. First, debt relief savings are realized only step-by-step, typically over many years or even decades, depending on the contractual repayment terms and schedule of the underlying debt. The reported nominal value of the cancelled debt in a swap is therefore not necessarily a good measure of the increase in available resources at the level of the debtor country. The present value (PV) of future debt service payments that are forgiven (discounted at the interest rate at which the debtor country can raise this amount of money on international markets) is arguably


25

a better proxy. In particular when debt is highly concessional, with long maturity and repayment periods and below-market interest rates, as is the case with claims accounted for as ODA, PV gains in international purchasing power for the debt relief recipient will be appreciably lower than what nominal figures would suggest. Second, only that share of debt service that would have been paid up to the creditor in the absence of any debt relief will generate genuinely new resources for the debtor country. To take for granted that all debt would have been fully serviced without the swap arrangement (in other words, assuming the probability of default to be zero) could be far too optimistic, especially so when a country is experiencing debt service problems. In case the debtor country would have failed to meet its debt obligations, the resource effect of debt reduction through swaps is partly fictitious, representing no more than an accounting cleansing of an historical and future arrears build-up.47 Third, debt swaps risk to be automatically assumed additional to other forms of donor support (particularly when swaps concern countries and debt titles outside the HIPC/MDRI framework). However, debt-for-education swaps may well crowd out other, possibly more appropriate, forms of aid since current accounting rules allow donors to treat debt relief operations as substitutes for new aid. The Development Assistance Committee (DAC) of the OECD, the most important body for measuring and publishing donor aid efforts, allows the full nominal value of debt relief to be counted for as ODA.48 Donors could hence see debt-for-education swaps as an attractive option to boost their ODA figures, leading to reduced expenditures on other categories of ODA. Moreover, since the nominal value of debt-for-education operations is typically an overestimation of both the debtor’s benefit and the creditor’s cost (as outlined before), a swap may provide fewer resources than other aid interventions, say, direct budget support. Empirical studies indicate, if anything, that past debt swaps have not been additional to other sources of donor support.49 Similar provisos are of concern at the level of the government budget. Debt-for-education swaps are often thought of as generating additional ‘fiscal space’50 in the recipient country’s budget, which that country can spend without endangering the stability of its fiscal position. Again, one can think of two reasons why this does not necessarily take place, even if the transfer of international purchasing power at the country level is sizeable. First, only when there is a positive difference between the debt service payments forgiven under the debt swap and the substituting counterpart payments one can speak of fiscal space in sensu strictu. Without any sort of discount, no additional budgetary room will be freed up to

47

See Cassimon and Vaessen. (2007) ‘Theory, practice and potential of debt for development swaps in the Asian and Pacific region’ 48

Of course, to avoid double counting, for loans that already previously qualified as ODA and are later subject to debt swaps only the redirection of the interest component (and not the principal) is recorded as new ODA. 49

For example, see Ndikumana. (2004) ‘Additionality of debt relief and debt forgiveness, and implications for future volumes of official assistance’ 50

See Heller. (2005) ‘Fiscal space: What it is and how to get it’


26

the benefit of the recipient government. This is of course not to say that replacing debt service in hard currency with local currency counterpart payments is irrelevant. To be sure, even today many debtor countries suffer from foreign exchange shortages (which they might need for vital imports). Second, there may be a conflict between the timing of annual debt savings and that of domestic counterpart obligations. In contrast to the typically slowly maturing debt service payments, domestic counterpart payments are often frontloaded, becoming due within a much shorter period of time. A poorly structured debt-for-education swap where annual domestic counterpart payments occur prior to the realization of debt relief savings may therefore increase fiscal pressures for the government rather than relaxing them. All depends on how the PVs of debt service payments and domestic counterpart payments compare. On the other hand, from the perspective of the counterpart fund management, who typically wants to make a noticeable impact by spending sizeable amounts at once, the issue becomes to bring forward as much of the available resources as possible. One way of resolving this inherent tension is for the government to issue bonds whose repayment is backed by the stream of future counterpart payments.51 The question that remains is then whether frontloading resources is indeed the optimal strategy to finance the MDGs in general and education goals in particular.52 Increase in resources spent on education? Besides whether swaps create additional financial resources at the level of the debtor country and/or in its government budget, one should also consider the related but somewhat more specific question of whether debt-for-education swaps lead to more resources spend on education. Such issue is particularly important in view of the considerable Education for All ‘financing gap’ identified by EDPC and UNESCO (2009) in their background paper to the 2010 Global Monitoring Report (estimated at US$16 billion a year). Clearly, the embedded ‘earmarking’ (see further) of debt savings towards education would suggest debt-for-education swaps do raise spending in the sector. It depends, as we will show. First of all, and related to our previous argument about ODA accounting rules, at the donor level, debt-for-education swaps could well substitute for other interventions aimed at the education sector, and may as such not be additional.

51

This underpins the Debt Conversion Development Bond (DCDB) proposal elaborated by the Affinity MacroFinance team in Chapter 5 of this report. 52

We feel that the desirability of frontloading depends on the actual use of funds. Whereas the case for frontloading is strongest for efforts related to the prevention and eradication of diseases (cfr. the International Finance Facility for Immunisation (IFFIm) by the GAVI Alliance) or infrastructure investment, it is perhaps less so in the education sector, where many of the costs involved are recurrent (e.g. teacher salaries). One should also consider limitations to the ‘absorptive capacity’ of the education sector in some developing countries (see Rose, 2009 for a discussion).


27

Second, and in a similar fashion, debt-for-education swaps do not automatically result in extra resources spent on education purposes within recipient countries. The debtor government, confronted with an externally imposed schedule of counterpart payments, can decide to reduce its own efforts accordingly and downsize projected budget allocations for education spending. As such, there is a chance of swaps merely substituting for what the government had already planned in its education sector. This leaves the door open for the government to employ the resulting savings elsewhere (not necessarily to the benefit of the sector). A certain degree of so-called ‘fungibility’ is innate to almost all aid interventions, but nonetheless deemed more problematic in the case of specifically targeted support such as debt swaps.53 The extent of ‘double additionality’, with freed-up recourses coming on top of other donor support for the education sector and budget lines already reserved for that purpose by the debtor country can be difficult to assess. Perhaps holding expenditures against historical baselines or predicted trends could be of help. Indirect benefits? Compared to other aid interventions debt swaps may possess extra trumps that go beyond direct increases (or not) in resources at the country or government budget level. According to the so-called ‘debt overhang’ theory54, an excessive debt burden, demanding high debt service payments, may induce the government to impose punitive taxes on those sectors in the economy that are most productive. Such suboptimal behavior could reduce investment, depress economic growth and lower government revenues, in turn making debt service all the more painful. Debt relief, and debt-for-education swaps for that matter, could break this vicious cycle and turn it into a virtuous one. The resulting process should lead to greater domestic resource mobilization, benefiting the education and other sectors. Some cautionary remarks are however in order. First, not all macro-economic experts fully subscribe to the simple negative relation between debt size and investment/growth depicted here. The theory of debt overhang is said to be more relevant for middle- than for low-income countries and not valid at very high or low levels of debt burden. Other critics argue that an excessive debt burden and low growth are in itself manifestations of some deeper, systemic problems, whether of economic, institutional or political nature. Even if one takes the debt overhang hypothesis at face value, debt relief needs to reach a critical mass and be delivered in a harmonized manner to make a dent in freeing a country from a high debt-low growth trap. Larger-scale initiatives such as the Brady deals and HIPC saw the light exactly because the need for a ‘discrete shock’ of debt relief was acknowledged.55 Piecemeal operations, as debt-for-education swaps typically are, cannot possibly be expected

53

See Feyzioglu et al. (1998) ‘A panel data analysis of the fungibility of foreign aid’ 54

See Krugman. (1988) ‘Financing versus forgiving a debt overhang’ 55

See Bulow and Rogoff. (1991) ‘Sovereign repurchases: No cure for overhang’


28

to reshuffle a country’s economic situation. Of course, to the extent that debt swaps are framed in terms of providing additional resources rather than improving the overall debt situation of a country (as they today typically are), the above argument is of less importance. Until now we have only dealt with the more detailed, economic-technical workings of the debt-for-education swaps mechanisms, looking at issues of resource transfer and the effect on a country’s overall debt situation. Of course, debt swaps are not implemented in a vacuum. We think it is important to also examine how swaps relate to the dominant HIPC/MDRI logic and the ‘new aid architecture’.

Fit within the current HIPC/MDRI framework and broader aid architecture? Granting debt relief is intuitively very similar to budget support provision, to the extent that both modalities free up additional budgetary resources for the recipient country (or at least are meant to do so). As donors want to ensure that these extra funds are put to good (development) use, such as education, they have constrained recipient countries’ choice by controlling in various ways how and on what resources will be spent. Just as conditions on ‘new’ concessional lending have shifted from imposing policies (such as stipulating specific reforms in public sector management) towards supporting processes (such as the completion of a Poverty Reduction Strategy Paper or PRSP with broad support from local civil society), conditionality sets attached to debt relief have evolved over time. The previous approach has been to give clear and binding instructions on the allocation of funds, a practice referred to as ‘earmarking’ in donor jargon. Different types of earmarking exist and donor preference has changed through time. For example, many donors now seek to (more indirectly) influence recipient government behavior through policy dialogue on issues as different as fiscal prudence, good governance and respect for human rights. In accordance with the then dominant project approach to development aid, debt swaps implemented during the 1980s and 1990s often practiced ‘micro-earmarking’, with donors attempting to minutely keep track of the use of freed-up resources. To this goal, counterpart payments were established outside recipient countries’ regular budgets. These counterpart funds were jointly managed by donor, debtor and, in some cases, NGO brokers. Donors also externally imposed mechanisms for planning, implementation, and monitoring and evaluation, which circumvented the recipient’s established system. Whilst micro-earmarking allowed donors to keep an eye on how savings from debt relief were utilized (and thus enhanced accountability towards their constituencies and tax base at home), such close surveillance made them myopic, increasing chances that domestic resources were displaced to other budget priorities (in other words ‘fungibility’; see before). The creation of parallel systems moreover suffers from high transaction costs, prevents long-term capacity building, and reduces the sense of national ownership.


29

Donors now assert that they to leave the allocation of funds, planning, budgeting, implementation of projects and programs, and monitoring and evaluation processes more in the hands of debtor governments, who should be seen more as active partners than as passive recipients of aid. At the same time donors try to use their influence (i.e. ‘soft skills’) to gradually better public sector functioning and, along with other stakeholders, engage government in dialogue on key national development issues. To say even more, debt relief practice has been at the very forefront of this progression in donor/government relations, as evidenced by the use of Poverty Reduction Strategies in the enhanced HIPC Initiative. Most debt relief practice, taking place within the HIPC/MDRI framework has evolved to what one could call ‘debt-to-PRSP swaps’56, swapping debt obligations for the debtor country’s commitment to implement and finance with the realized savings national development strategies as described in its PRSP (or similar national development policy documents). In recent years, the Paris Declaration on Aid Effectiveness (2005) and Accra Agenda for Action (2008) have deepened what could be termed the ‘new aid approach’ (NAA). In Paris and Accra, bilateral and multilateral donors pledged to take into account, inter alia, the concepts of ‘policy alignment’ and ‘system alignment’.57 The former refers to focusing donor support on partner countries’ national development strategies, whereas the latter means the use of countries’ own institutions and public systems for financial management, implementation, monitoring and evaluation where these are deemed effective, accountable and transparent. The question that poses itself now is to what extent recent debt-for-education swaps avoid the pitfalls of their micro-earmarking predecessors and adhere to these principles of policy and system alignment. Previous case studies suggest that this differs greatly across swaps.58 Taking all of the foregoing together, it appears that there is a great deal of economic-technical practicalities and design issues that need to be taken into account if debt-for-education swaps are to become effective and efficient instruments of education financing. Nevertheless, it is possible to ‘engineer’ a new style of debt-for-education swaps that overcomes many of the problems we identified. Table 3 provides a non-exhaustive checklist.

56

See Cassimon and Vaessen. (2007) ‘Theory, practice and potential of debt for development swaps in the Asian and Pacific region’ p. 24 57

More information and full-text versions of the Paris Declaration and Accra Agenda for Action can be found at http://www.oecd.org/document/19/0,3746,en_2649_3236398_43554003_1_1_1_1,00.html. 58

For example, see Cassimon et al. 2008; 2011a; 2011b

http://www.oecd.org/document/19/0,3746


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Table 3: A checklist for debt swaps

Better-engineered debt swaps would... Why?

...target (non-concessional) debt titles that are due in a relatively short period of time, carry (near-)market interest rates and would have been likely to be serviced without the swap intervention.

to ensure a greater transfer of international purchasing power

...be negotiated between debtor and creditor countries on the basis of PV rather than nominal figures.

to increase overall transparency

...respect original debt service schedules

to generate true fiscal space ...entail larger discount rates to account for the possibility of non-repayment of the original debt, if applicable.

...be gauged against previous and predicted trends of donor support for education as well as debtor country budget lines reserved for the sector.

to ensure additionality in a double sense

...be policy-aligned with the debtor country’s own national and education sector development plans.

to ensure country ownership

...be system-aligned, using existing debtor country systems in the education sector to the maximum extent possible

to reduce transaction costs and build long-term capacity


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3. Country Case Studies

In consultation with various donor governments and UNESCO, two recent debt-for-education swaps were chosen to be highlighted as case studies—one between Cameroon and France and the other between El Salvador and Spain. While considerably different in scale and use of funds, both programs have been widely viewed as successes. The findings from these case studies are summarized below. In each case, the local context for the program is described. Then the program and the debt swap mechanism are evaluated against their stated goals and the checklist for debt swaps laid out in Chapter 2. Finally, lessons learned from the cases studies are discussed. To conduct each study, extensive in-country interviews were carried out with relevant stakeholders in each donor and recipient country during the spring of 2011. These interviews were supplemented with research and program evaluations conducted by the World Bank and others.59

3.1 Cameroon and France60 In the late 1990s France along with other Paris Club members agreed to participate in debt forgiveness for highly indebted developing countries as part of the HIPC initiative. By 2000, most Paris Club members including France had agreed to take debt reduction further by writing off the remaining non-concessional loans eligible for Paris Club treatment as well as all ODA claims. While many countries like Germany proceeded to write-off the remaining HIPC debt with little or no additional conditions, France decided to create Contrat de Désendettement et Développement (C2D) as a way to help ensure that the additional debt relief was converted into investments that would help achieve the MDGs. C2D’s first agreement was signed with Mozambique in November of 2001. Since that time, France has signed agreements with thirteen additional countries, converting €895 million61 of external debt into investment in a broad range of sectors including education, infrastructure, rural development, health and environment. Twenty-two countries are eligible for C2Ds, with 59

Unless otherwise noted, all economic (external debt, GNI, etc) and education figures (enrollment, expenditures, etc) for both case studies were sourced from the World Bank’s World Development Indicators and Global Development Finance Database accessed at databank.worldbank.org in June 2011 60

Daniel Bond and Garrett Wright visited France and Cameroon in May 2011 and held interviews with several stakeholders. These individuals included representatives of the following offices: Cameroon: Ministry of Basic Education, Ministry of Higher Education, Ministry of Finance, BEAC (Regional Central Bank), UNESCO, Afriland First Bank, Allianz, Financial Markets Commission, CNPS (National Pension Fund), AFD, GIZ, Societe Generale, Catholic Relief Services France: Ministry of Foreign Affairs, AFD 61

It should be noted that the figures for the C2D program are presented on a nominal rather than present value basis.


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the total debt eligible for refinancing estimated at $4.6 billion. The largest agreement to date was signed with Cameroon in June 2006. The agreement made available €1.17 billion of debt to be used in three five-year tranches. The first tranche was worth €537 million of which €90 was dedicated to Cameroon’s Education Sector Strategy (ESS)—€45 million to support the increase of contract teachers from 2006 to 2011 and €45 million to build schools starting late 2011. The focus of this case study is on the C2D-supported Contract Teacher Program.

3.1.1 The Cameroon Context

The modern state of Cameroon was created with the unification of two former colonies, one French and one British, in 1961. Endowed with significant natural resources, Cameroon prospered for a number of decades after its independence. However, in the mid-1980s a deep reduction in commodities prices combined with an over-valued currency and economic mismanagement exposed the country to a nearly decade long recession. From 1987 to 1995, GDP in current US dollars fell from US$12.3 billion to US$8.7 billion. During that period, external debt as a percent of GNI rose from 38% to 133%. In response the government with the help of the IMF and World Bank embarked on a number of painful economic reform programs that slashed civil servant pay and reduced the value of the CFA Franc (XAF).62 By the late 1990’s the economy began to turn around. The nation’s GDP has nearly tripled since 1995 and GNI per capita (atlas method) is US$1190, placing it into the World Bank’s lower-middle income group. While recent growth has been impressive, Cameroon lags behind the rest of the region in many areas of development. Poor infrastructure, an unfavorable business environment and weak governance continue to hamper growth and poverty reduction. Poverty levels have remained around 40% for much of the decade. External Debt Since peaking at 133% in 1995, Cameroon’s external debt to GNI ratio has fallen precipitously to 14% in 2009. This is in large part due to its participation in the HIPC and MDRI program. In October 2000, Cameroon reached the HIPC decision point, qualifying it to immediately start receiving debt relief. To manage the savings from HIPC, Cameroon set up a special framework that included:

A special Treasury account located at the CEMAC regional central bank, BEAC

Special codification for HIPC funds in the budget

An autonomous institution for HIPC allocation and tracking, the Comité Consultatif et de Suivi de la Gestion des Ressources PPTE (CCS)

Specific tracking and monitoring of projects financed through HIPC funds

62

The CFA Frank is pegged to the Euro. As of June 13, 2011 the exchange rates were €1=655.96XAF and $1=447.59XAF, according to www.oanda.com

http://www.oanda.com


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After showing a successful track record, Cameroon reached its completion point in April 2006, making it eligible for additional relief from MDRI. HIPC assistance amounted to US$4.9 billion. MDRI added US$1.3 billion to this total. In 2007, this relief amounted to additional annual resources for government programs of US$290 million. The government of Cameroon has since dismantled much of the special framework that allowed visibility into how the additional HIPC assistance is used. The rationale for the dismantling of the special framework was that it operated outside of existing budgeting mechanisms and created delays in disbursing the HIPC savings.63 While this may be valid, donors and civil society organizations (CSOs) working in Cameroon expressed frustration that they lost their ability to tract and influence the use of the funds. As of the end of 2009, Cameroon had US$2.1 billion of long-term external debt outstanding. Bilateral debt makes up the majority with US$1.4 billion outstanding. Multilaterals hold an additional US$682 million while commercial lenders hold just US$20 million. Nearly 95% of this debt is held on concessional terms and it is likely that much of the US$1.2 billion held by Paris Club members has already been earmarked for future relief as part of HIPC. Education Sector Background The structure of the education sector varies throughout Cameroon with the two Anglophone regions in the south working under a slightly different system than the eight Francophone regions. Primary education for both regions lasts six years and has a unified curriculum and education objectives. After primary school, all students choose between general and technical secondary school.64 After completion of secondary school, students can choose to attend university or post-secondary technical school. Four different ministries regulate the system respectively responsible for primary, secondary, tertiary and technical education. In addition to public schools, a number of private and religiously affiliated schools operate in Cameroon. About one-quarter of all students attend such schools. Private schools can be accredited by the respective ministries, but, with the exception of secondary schools, they are not subsidized in any manner.65 As with the economy, the performance of the education system has been uneven. Before the economic collapse in the late 1980s, equitable access to primary education was amongst the highest in sub-Saharan Africa. With the drastic budget cuts in the 1990s, the Gross Enrollment

63

See IMF & IDA (2002), ‘Actions to Strengthen the Tracking of Poverty-Reducing Public Spending in Heavily Indebted Poor Countries (HIPCs)’ 64

In Francophone regions, the first cycle of general secondary education is five years with a subsequent two year cycle. For Anglophone regions, the first cycle last four years with subsequent three year cycle. While legislation has been passed to make the two systems equal, it has not been fully enacted 65

There is an excellence grant for the top secondary schools. While the Ministry of Higher Education would like a similar program, there is nothing planned


34

Ratio (GER) fell almost 20 percentage points from 1987 to 1995.66 During this time teacher salaries were drastically cut and recruitment was limited. As a consequence, Pupil Teacher Ratios (PTRs) rose throughout the country to over 60 students per teacher on average. In some rural regions it was even worse, with PTRs exceeding 100. Faced with a severe lack of teachers, parents and communities resorted to their own strategies that led to the creation of three corps of teachers: civil servant teachers, temporary teachers and community teachers.67 With the HIPC relief and economic recovery in the late 1990s, these ratios have improved. GER reached 100% by the end of 2000. The number of teachers also increased; however, the PTR remained just under 60 into the early 2000s because of an increase in students.68 In addition, completion rates remained low at 52% in 2006.

3.1.2 The Contract Teacher Program

In 2006, Cameroon completed its Education Sector Strategy (ESS) that mapped out the future direction of the education system, specifically focusing on meeting the MDGs of universal primary enrollment, gender equity, and completion rates of 100% by 2015. To achieve these goals, the government prioritized the recruitment of contract teachers who follow a different career path and are paid according to a different salary scale than civil servant teachers. The growth of the contract teacher corps was meant to reduce PTRs in a number of lagging regions and formalize the status of qualified temporary and community teachers while maintaining financial sustainability. 69 The contract teacher program called for the recruitment of 37,200 contract teachers over a five year period from 2007 to 2011 at a cost of US$392 million. While the government estimated that it could support nearly 75% of the program out of its general budget, it had a financing gap of ~US$103 million. To fill this gap the Fast Track Initiative, who endorsed Cameroon’s ESS in 2006, provided a US$47.5 million grant from the Catalytic Fund. The remaining US$55.3 million was provided through the C2D program.70

66

Gross Enrollment Rates overstate the proportion of children in school because very high repetition rates in Cameroon. 67

Temporary teachers were recruited on a 2-year contract, renewable once and paid under the government budget. Community teachers were hired and paid by communities and parent teacher associations. 68

The Fast Track Initiative indicative framework calls for a PTR of 40:1 for universal and quality primary education. 69

While contract teachers can help bring down the PTR and created savings, Education International has called attention to the risk that their use can reduce the quality of teaching and learning and negatively impact the employment rights of these teachers. See Education for All by 2015: Education International’s Response to the Global Monitoring Report 2008, page 10. 70

See The World Bank. (2010) ‘Project Appraisal Document on a Proposed Catalytic Fund Grant in the Amount of $24.8 Million to the Republic of Cameroon for EFA-FTI’, pg 16.


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Table 4: Contract Teacher Program Cost and Funding Sources

2007 2008 2009 2010 2011 Total

Number of New Teachers 18,485 5,125 6,490 7,100 - 37,200

Program Cost 39.3 58.7 76.9 96.6 120.9 392.4

Sources of Financing:

Catalytic Fund 11.3 11.3 - 24.8* - 47.5

C2D 18.0 13.5 11.2 9.0 3.6 55.3

Government 10.1 33.9 65.7 62.8 117.3 289.8

Total Funding 39.3 58.7 76.9 96.6 120.9 392.4

* Will be disbursed in late 2011. According to interviews with AFD and World Bank officials, the last tranche of the

Catalytic Fund has been delayed due to World Bank procedural challenges in providing general budget support. Program Design and Mechanics As Cameroon neared its HIPC completion date in 2006, the French diplomatic mission and the local office of Agence Française de Développement (AFD) negotiated its largest C2D agreement to date with the Government of Cameroon. Just two months after reaching its HIPC completion date, the French Ambassador and the Cameroon government signed an agreement for €537 million of funding over five years. The money was to be distributed to five different priority sectors including Infrastructure (€230 million), Rural Development (€73 million), Environment (€20 million), Healthcare (€90 million) and Education (€90 million). An additional €34 million went to support cross-cutting components of the program like audits, pilot programs and studies. The agreement was the first of potentially three tranches of funding totaling €1.17 billion, over 15 years. Under this agreement the funding was provided by France reimbursing Cameroon for continued payments on concessional loans including outstanding ODA claims held by AFD, French Treasury lines of credit managed by Natexis and claims held by the Banque de France resulting from past rescheduling agreements granted by the Paris Club. Payments by Cameroon continue to be made to France on the original schedule in Euros. Within 15 days of receiving the payment, France agreed to pay the equivalent amount into a special account at the regional central bank, BEAC. As funds are received, they are converted to CFA Francs71 and then disbursed towards sector aid and general budget support stipulated in the original agreement. In the case of the Contract Teacher Program, the Ministry of Basic Education’s general budget is supported to help pay newly recruited contract teachers. While the account is owned by Cameroon, AFD has a non-object signature requirement on disbursed funds. A technical committee comprised of relevant government ministries and AFD technical staff is co-chaired by French Ministry of Foreign Affairs and the Cameroon Minister of Finance. This committee helps monitor projects and ensures proper governance. In addition, there is a steering and monitoring committee involving representatives from the government and

71

Since the CFA Franc is pegged to the Euro, there is no currency risk to Cameroon. In other regions, however, currency risks must be managed by the recipient central bank.


36

members of civil society including CSOs. Mid-term and final audits of the C2D program are completed before subsequent C2D tranches are agreed upon. To date, Cameroon has not missed a payment. While some C2D programs have had delays in disbursing funds due to the drawn out contracting process of the government, there have been no delays for the Contract Teacher Program. With a successful first tranche nearing completion this year, the second tranche valued at €327 million over 5 years is in negotiation. While the details of the second tranche are still in the works, it will not likely contain any additional funding for primary education. According to Cameroon and AFD officials, a large majority of the funding will be dedicated to basic rural infrastructure needs (water, electricity, housing, roads, etc). This is supported by the Ministry of Basic Education which has noted that the largest problem it is facing now is retention of teachers in rural regions due to the severe lack of basic services and adequate housing. This is an example of how the achievement of education goals can depend on providing funding for programs outside the education sector itself. Program Implementation and Results The Ministry of Basic Education has been responsible for the implementation and monitoring of the Contract Teachers Program. In addition, several other government entities have played a supporting role. The Prime Minister’s office gives prior approval to proceed with contracting; the Ministry of Public Function and Administrative Reform signs the contract; and the Ministry of Finance allocates the budget and pays salaries. To ensure coordination between all of these different entities, the Ministry of Basic Education set up an internal monitoring committee with representatives from the above ministries as well as the relevant donor partners. Payments are made through the Government’s existing mechanisms and procedures for contract teachers. The monitoring committee tracks the overall recruitment effort, verifies teacher presence in schools, monitors teacher quality and reports back to donors. In addition, the bilateral and multilateral donors who support the Education Sector Strategy have put in place a shared process for assessing progress within the sector. AFD is the lead donor with Japan, UNICEF, UNFPA, AfDB and others also providing some support. With the few donors involved coordination has been relatively easy, though not always perfect. Strong government and donor support have led to the general success of the program. The Ministry of Basic Education was able to hire the target number of contract teachers in each of the five years. The Pupil Teacher Ratio has fallen from over 60 to the low 50s on average. Regional disparities have improved greatly with the majority of recruited contract teacher sent to rural areas with the most need. In 2009, Net Primary Enrollment Ratio was up to 92%, and the Primary Completion Rate was up to 73%—21 percentage points higher than in 2006. Sustainability of the program, however, remains an open question. By increasing the number of contract teachers, the government has created an annual liability for salaries that will be


37

difficult to cut. It does not help that in 2011, education’s share of the budget was reduced from over 17% to less than 15%. Even so the government has always taken on the vast majority of the financial burden. C2D funding has decreased each year, accounting for less than 3% of the funding in 2011. FTI funding has also declined. The second tranche of US$24.8 million was supposed to be disbursed in 2010, but has seen some procedural delays and will not be disbursed until late 2011. While the Ministry of Basic Education will not continue to recruit contract teachers in such large numbers, it has assured donors that it will be able to continue to pay existing teachers and recruit a modest amount of new contract teachers each year. This gives hope for the sustainability of the program. Evaluation of the Program The C2D program is largely seen as a successful program both by relative constituents in France and by officials and donors in Cameroon. From France’s perspective, C2D allows them to support important projects that would be difficult to fund with traditional ODA. It has improved dialogue with the Cameroon government and allayed concerns from French MPs that are concerned about corruption and improper use of budget funds freed as a result of debt forgiveness. From Cameroon’s perspective, the money used to service it debts is being returned to the country and used to fund its own poverty reduction strategy with minimum disruption to existing policies and systems. That said, the C2D program has been criticized for a number of reason. The OECD, for example, has singled out the C2D program because of the high costs associated with its complex administration.72 The main driver of these administration costs is the number of conditions and requirements put in place to ensure that the funds are used for development in a proper manner. Some critics have pointed out that this reduces Cameroon’s sovereignty.73 However, with a ranking of 146 out of 180 on Transparency International’s Corruption Perceptions Index, it is not surprising that French officials wanted to retain some control and visibility.74 Another criticism is that C2D provides no debt relief as Cameroon must service its debts to France as before.75 It is true that the C2D program does not reduce Cameroon’s debt to GNI or debt service to export revenue ratios, the most common indicators of a country’s debt burden. However, given that France returns the debt service payments to Cameroon to use for development projects, this is a moot point. In fact, C2D was not intended as a measure for improving debt sustainability. C2D was meant to supplement the initial rounds of HIPC relief in which France participated in, providing additional resources to governments who had reached their HIPC completion point and thus achieved a sustainable level of external debt. For

72

Development Assistance Committee. (2004) DAC Peer Review – France, pg 15 73

Buckley. (2009) ‘Debt-for-Development Exchanges: An Innovative Response to the Global Financial Crisis’ 74

Transparency International is NGO leading the fight against corruption—defined as the abuse of entrusted power for private gain. The Corruption Perceptions Index is an aggregate indicator that combines different sources of information to rank countries. Source: Transparency International. (2010) ‘Corruption Perceptions Index 2010’, pg 3 75

Moncrieff. (2004) ‘French Development Aid and the Reforms of 1998-2002’, pg 129


38

example, in 2006, the year Cameroon signed the C2D agreement, its external debt as a percentage of GNI was just 18%, well within sustainable levels. The following table examines the C2D on the six dimensions for debt swaps laid out in the checklist presented in Chapter 2. As can be seen, the C2D program is not perfect in every sense. There are valid criticisms, but given its intended purpose and the domestic realities of French politics, it has proved to be an important tool to provide additional aid to Cameroon. Table 5: Evaluation of French C2D Program

Criteria Evaluation of French – Cameroon C2D Program

Transfer of International Purchasing Power

C2D debt is comprised of ODA loans made by AFD, lines of credit extended by the French Treasury and assistance loans from the Banque de France. Much of this is concessional and spans 15 years. While it does not transfer as much purchasing power as non-concessional debt, there was simply not much non-concessional debt available.

Transparency One of the main tenants of the C2D program is transparency. Programs are monitored by local governments, AFD and the French Ministry of Foreign Affairs that must make annual reports to parliament. The amounts used for negotiations and publications, however, are nominal values. Using present values could improve transparency.

Fiscal Space C2D debt swaps are done with no discount using the original payment stream. The absence of discounting does not create or reduce fiscal space, while it maximizes the amount of funds going towards specified development projects

Additionality C2D has been in addition to existing aid efforts and has allowed AFD and France to support projects like the Contract Teacher Program that traditional loans would not support. According to the OECD, from 2004 to 2009 France’s ODA net disbursements have risen from US$8.5BN to US$12.6 billion. When debt relief is removed, they have risen from US$6.7 billion to US$11.2 billion. In Cameroon, from 2006 to 2009 public spending on education as a percentage of total public expenditures rose from 15% to 19%. In 2011, however, education has been budgeted less than 15% of expenditures.

Policy Alignment Policy alignment is good in Cameroon. C2D programs are done within Cameroon’s overall poverty reduction strategy and individual sector strategies. The Contract Teacher Program, for example, was a priority in the government’s education sector strategy, which was endorsed by FTI and local donors. C2D simply provided additional financial support for the government policy initiative.

System Alignment System alignment of the C2D program in Cameroon is strong. C2D prioritizes general and sector budgets support, using existing government systems and procedures where conditions allow. The Contract Teacher Program, for example, was administered and monitored by the Ministry of Basic Education. Cameroon’s existing contract teacher payment system was used to pay additional teachers. Procurement processes are not tilted towards French companies.


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3.2 El Salvador and Spain76

In 2003 and 2004, the Ibero American Conference on Education requested that donor governments consider converting the debt owed to them by developing nations into funds to be used for education in the debtor countries. Shortly thereafter, in 2004, President Jose Luis Rodriquez Zapatero of Spain announced that Spain was dedicated to supporting education—especially primary education—not only in HIPC countries but in more economically stable countries as well.77 Based upon this policy, Spain began to enter into debt swap agreements to foster education in a number of Latin American countries in 2005. The first of these swaps was with Ecuador in March of that year for an amount of US$50 million comprised of both principal and interest.78 Because Spain decided to enter into debt swaps with HIPC and non-HIPC countries, they adopted the convention of providing a discount to the HIPC countries while non-HIPC countries were required to pay the full amount owed. Thus, for example, Ecuador, a non-HIPC country, was required to pay the full US$50 million that it owed into its education programs and Honduras, a HIPC country, received a 60% discount requiring it to only pay €45.9 million of the €114.8 million in debt forgiveness into development programs.79 More recently, Spain has entered into debt swaps with several African countries including Ghana, Uganda, Tanzania, Senegal, Mauritania, Mozambique and Algeria. In December of 2005, Spain and El Salvador signed documentation implementing a debt swap, the proceeds of which were to be used to improve education. The bilateral agreement set out an amount of US$10 million to be reduced in four annual US$2.5 million installments as the El Salvadoran government used the funds that would have been applied to debt service toward the building of school buildings and equipping libraries within these schools with books. This program is the focus of the second case study.

76

The team visited El Salvador in April, 2011 to conduct interviews with various stakeholders responsible for planning and implementing the debt swap as well as the funded education program improvements funded with it. These individuals included representatives of the following offices: El Salvador: Ministry of the Economy, Superintendent of the Finance System, Superintendent of the Pension System, Central Reserve Bank of El Salvador, Ministry of Education, Department of General Cooperation, UNESCO, Crisalida Foundation, Fe y Alegria, FIECA (Foundation Innovation Education Central America), Banco Hipotecario. Spain: Spanish Ministry of the Economy, AECID Spanish International Cooperation Agency (Agencia Española de Cooperación Internacional para el Desarrollo). 77

Filmus and Serrani. (2009) ‘Analysis of Debt Swaps for Social Investment as an Extra Budgetary Education Financing Instrument’ 78

Programa De Conversion De Deuda De La Republica De Ecuador Frente A España, 2005. 79

Ibid.


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3.2.1 The El Salvador Context

El Salvador achieved independence from Spain in 1821 and from the Central American Federation in 1839. A devastating twelve-year civil war was brought to a close in 1992 when the government and leftist rebels signed a United Nations brokered peace treaty that provided for military and political reforms. From the end of the war to the early 2000s, poverty levels declined significantly from 60% in 1992 to 39% by 2000. At the same time GNI per capita (atlas method) nearly doubled from US$1070 to US$2110. Progress was also made in social areas such as basic education enrollment, infant and maternal mortality and access to safe water.80 In 2001 El Salvador switched from the El Salvadoran colon to the U.S. dollar as the national currency.81 Full dollarization was expected to enhance earlier structural reforms put in place to support economic stability and attract foreign investors. It is also a way to avoid currency and balance-of-payments crises. However, by adopting the U.S. dollar the government gave up any possibility of using monetary and exchange rate policies to manage the economy. After dollarization, El Salvador was unfortunately hit by a series of shocks, including earthquakes, declining international coffee prices and increasing oil prices that have slowed its progress fighting poverty. Thus the benefits from dollarization have been overshadowed by the country’s overall weak economic performance. This has lead to much criticism of the change. However, interest rates, inflation rates, and remittances have improved since full dollarization, as was expected. Dollarization has also reduced cost of remittance transfers for Salvadorians living in the United Sates. The World Bank estimates that remittances have more than doubled since 2001 and reached US$3.6 billion in 2010, representing over 15% of GDP.82 External Debt As a lower-middle income country with manageable debt levels, El Salvador did not qualify for large-scale debt relief programs like HIPC. Without the support of these programs, the series of natural disasters and economic shock that El Salvador has experienced along with its fiscal policies have caused external debt burden to increase from 34% of GNI in 2000 to over 54% in 2009.

80

World Bank, ‘Country Brief: El Salvador’ See countries at http://web.worldbank.org 81

Historically the colon has been pegged to the dollar, especially since 1993. 82

World Bank, Migration and Remittances Factbook 2011. According to the World Bank it costs $14.36 to send $500 from the United States to El Salvador today, while it costs $19.80 to send this amount to Mexico. See http://remittanceprices.worldbank.org/Country-Corridors

http://remittanceprices.worldbank.org/Country-Corridors

http://web.worldbank.org


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As of the end of 2009, El Salvador’s public long term external debt was $6.1 billion. Of this US$3.2 billion was owed to multilaterals, US$0.7 billion to bilateral and $2.2 billion to commercial creditors. Most of the commercial debt is in bonds rather than bank loans. Only 18% of this debt is on concessional terms.83 Education Sector Background According to officials of the El Salvadoran Ministry of Education, with approximately 1.8 million students and over 5,000 public schools, the public education system is divided into four components. Pre-primary education is available for children between the ages of 4 and 6. Nine years of primary education is offered to children from the ages of 7 to 15. It is now required by law that children attend school from grades one through six. Many in the government and among the CSOs and populace in general would like to expand the law so the children would be required to attend school until at least grade 9. College level education is primarily the domain of the private sector. Public education spending increased significantly during the 1990s to 3.3% of GDP in 2002.84 During this time, El Salvador made huge strides toward increasing the net primary enrollment rate, primary completion, which rose from 66% in 1992 to 88% in 2000. Despite the progress, major geographic disparities persisted with rural areas falling behind. El Salvador is considering a major adjustment in its educational program. As in many developing nations, children attend schools for half-day sessions. The major policy shift being considered is full-day (tiempo pleno) schooling. This would have the dual benefits of adding to the hours of education (although much of the second half-day session would be devoted to cultural activities, social activities, athletics, and other enrichment programs) and keeping young people in a more controlled environment, with the expectation that this might reduce the crime rate.85 The Ministry of Education is beginning a pilot program that would create 22 full-day schools. To roll this out nationwide would be a much larger undertaking. To reach its stated goals, it has been estimated that the El Salvadoran education budget would need to increase by about two percentage points of GDP, or to 5% of GDP. However, 6% was the goal that El Salvadoran officials repeated often. Whether this level of spending could be achieved could not be ascertained.

83

Ibid. 84

Spending is still well below the 4.4 percent of GDP average for Latin American Countries (LAC) as well as the 6 percent achieved by several neighboring countries. 85

El Salvador has one of the highest murder rates in the world. Apparently this is largely due to the societal effects of the deportation from the United States of Salvadorian gang members, who returned with a level of criminality and violence that had not previously existed in the nation. The gangs have involved themselves in narco-trafficking and aggressively recruit young people to join their activities.


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3.2.2 The Rural School Construction Program

In 2005, El Salvador had developed its Plan de Educacion 2021, which contained strategic programs to improve the national education system. Specifically, the plan contained a number of programs to address the regional disparity in achieving the EFA goals. The year 2021 will be the 200th anniversary of El Salvador’s independence from Spain and was thought to be a realistic and symbolic date by which to implement educational reforms. In support of this strategic plan, Spain committed US$10 million in the form of debt relief to the construction of rural schools and the purchase of educational textbooks—two of the eleven strategic programs. Program Design and Mechanics In December of 2005, the government of El Salvador and Spain agreed to enter into a debt swap agreement worth US$10 million over four years. Under the agreement the funding was provided by Spain foregoing debt service payments on concessional debt originated by Spain’s Development Assistance Fund (DAF). Instead of continuing to make payments to Spain, the Directorate General of the Treasury at the El Salvador Ministry of Finance deposited funds into a special account at the El Salvador Central Bank (BCR). Payments were to be made semi-annually according to an accelerated schedule, totaling US$2.5 million per year. Upon each deposit, the Spanish Official Credit Institute (ICO) reduced the outstanding nominal maturity of the loan agreement signed between the ICO and the Ministry of Finance of El Salvador on February 6, 1997, March 10, 1997 and June 9, 1998. Once the funds were deposited, they were managed through two closely coordinated committees, consisting in each case of representatives of Spain and El Salvador. The first committee executed the overall debt swap and laid out the strategy for execution. It made decision regarding the structure of the swap itself. The second committee, “The Technical Committee” disbursed funds and executed the rehabilitation projects. The Technical Committee dealt with day-to-day “hands-on issues” and had a large say in determining which communities should be included. The Technical Committee included representatives of CSOs as well as AECID of Spain. Program Implementation and Results The Rural School Construction Program was developed prior to receiving any funding from Spain’s debt swap program. Via a survey of 262 municipalities, a decision was made to focus upon building schools and stocking the libraries within the 100 neediest communities. The project goals were concrete, straightforward and achievable—building and/or rehabilitation of schools and the establishment of school libraries within them in the poorest communities in El Salvador. While other potential programs were just as worthwhile as this one, in some cases


43

(e.g., improving science education or teacher training) their goals were not as straightforward and measurable as those for this program. The project benefited from transparency and an apparent total lack of corruption issues, thanks in large part to third-party audits that were periodically conducted as well as the dual committee structure. Approximately 98% of the US$10 million debt swap was spent directly on school infrastructure and books. Reportedly 74% was spent on construction and 24% was used to stock libraries with books. Program administration (such as third party audits) consumed less than 1% of costs although the swap agreement allowed for up to 4% to be used to cover administrative costs. In addition, the project enjoyed large in-kind contributions by utilizing existing resources. The Ministry of Education, for example, employs a school architect who provided the templates for the various construction projects. Standardization of the architectural plans for the schools helped reduce costs. With the exception of the third-party audits, all of the work was executed by public sector departments, which contributed the in-kind personnel costs of this work to the project. Had a CSO or private sector contractor been employed, some substantial portion of the US$10 million would have been diverted from the infrastructure projects. Furthermore, despite the fact that the debt swap was initiated within one government administration, the program was continued seamlessly with the same commitment and welcomed by the subsequent administration. The fact that all involved believe strongly in the project propelled it to success. Evaluation of the Program The Rural School Construction program and its debt swap funding mechanism are largely seen as a successful program both by relative constituents in Spain and by officials and donors in El Salvador. From Spain’s perspective, debt swaps have allowed them to support important projects without the raising traditional ODA funding. The governance structure has further developed working relationships between Spanish officials and their counterparts in El Salvador. From El Salvador’s perspective, the money used to service it debts is being returned to the country and used to fund its own education strategy with minimum disruption to existing policies and systems. That said, during the interviews, there were a number of suggestions that should inform future programs. First, several stakeholders interviewed suggested that the individual communities where schools were built or refurbished should have been involved in discussions at an earlier point in the process so that they felt more responsible for making the program a success. With active monitoring from the dual committee structure, this issue was recognized, and the process was modified as the program developed so that this did begin to occur. Another problem was the relative small scale of the program. While US$10 million for the education sector is very helpful, it is not large enough to address education in the larger


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development context. For example, improved roads and additional school buses are needed so that children can travel to and from school safely. At the present time, some children cannot reach existing schools because there are no roads that connect their homes to the schools. In other instances, sometimes when there are roads, there are often not enough school buses to transport the students. Given the high crime statistics within El Salvador, parents require a safe transportation method prior to allowing their children to travel to school. It was suggested that a swap for education include a portion of funding to stem violence. Some students receive lunch at school and the school is a central institution within each community where the health of each child is focused upon. Thus, it was suggested that a given swap could be used to improve education and health care in combination. El Salvador, has over $600 million of bilateral debt that could be used for debt swaps. While the average income of El Salvador places it in the World Bank’s lower-middle income category, the country’s very unequal income distribution means that close to 40% of its population is still considered at or below the poverty line. And the educational system still requires substantial investment and improvement that is unlikely to be possible without external assistance. The following table examines the Spanish-El Salvadoran debt swap for rural school construction on the six dimensions for debt swaps laid out in the checklist presented in Chapter 2. As can be seen, while it has some shortcomings, the program has proved to be an important tool for providing additional aid to El Salvador. Table 6: Evaluation of Spanish Debt Swap Program

Criteria Evaluation of Spanish – El Salvadoran Debt Swap for Education Program

Transfer of International Purchasing Power

The Spanish – El Salvadoran debt swap for education was comprised of three loans that had been entered into in February and March of 1997 and June of 1998 between the government of El Salvador and the Spanish Development Assistance Fund. Since El Salvador was not considered a “HIPC” country, there was no discount applied to the amount owed.

Transparency This program was very open and transparent. It accomplished this in large part, through the dual committee (Oversight and Technical) structure. Each committee had representatives of both Spain and El Salvador. In addition representatives of CSOs served on the technical committee and audits by a third party were completed each year.

Fiscal Space The Spanish debt swaps operated with one of two conventions. If the swap partner was a HIPC country, the debt was discounted down to 40% of what was originally owed. If the country was not a HIPC country (as in the case of El Salvador) there was no discount. Thus, the HIPC countries benefitted from an increase in fiscal space while the non HIPC countries did not. In addition, the US$2.5 million per annum was in excess of the original loan service obligation of El Salvador for that period, which further constricted fiscal space.86 However, El Salvador had both the

86

Cassimon et al. (2011a) ‘An assessment of debt-for-education swaps: case studies on swap initiatives between Germany and Indonesia and between Spain and El Salvador’, pg. 6.


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political will and available cash flow to take advantage of the debt swap opportunity.87

Additionality According to the OECD, from 2004 to 2009 Spain’s ODA net disbursements have risen from US$2.4 billion to US$6.6 billion. When debt relief is removed, they have risen from US$2.2 billion to US$6.5 billion. As the numbers indicate, debt relief has played a minor role in Spain's total ODA efforts. On the El Salvador side, public expenditures on education as a percentage of total government expenditures have decreased since the early 2000s. According to the World Bank, it fell from 19% in 2000 to 13% in 2007 (the most recent year of data). Public expenditure on education as a percentage of GDP, however, has stayed relatively stable at around 3% during this time period. A goal of many is to increase this percentage to around 6% as several other Central American countries have already done.

Policy Alignment Spain was specific in wanting El Salvador to use the debt swap proceeds to improve education given that its initiative was prompted in part by the Ibero American Conference on Education. At the same time, in 2005, El Salvador adopted a national plan entitled “Plan de Education 2021” This is a long term plan that outlines education priorities. One of the first priorities is to build schools and stock them with books in communities that do not have them. That is what the proceeds of the debt swap were used for. Thus, Spain’s desire to support education and El Salvador’s need to fund education operated in tandem.

System Alignment

System Alignment was not an issue in this situation given that work was done through the existing Ministry of Education (MINE) in El Salvador with oversight by the two Committees that had representation by both Spain and El Salvador. The fact that the project was operated by the existing education system which provided much “in kind” support allowed for cost savings.

3.3 Lessons Learned

The two case studies on the use of debt swaps for education, as well as a review of the literature on other debt swaps programs, have provided a good foundation to examine how debt swaps might be used more effectively in the future.88 The key lessons drawn from these studies are:

Debt swaps can provide opportunities for donors to help fund education and other development needs in developing countries. The fact that the swaps also provide financial relief to over-indebted countries can be viewed as a positive result of—but not

87

Vera, J.M. (2007) Experiencias y resultados de los canjes de deuda por educación en Iberoamérica, Madrid:Secretaría General Iberoamericana. 88

The following reports on Swiss and German experience with debt swaps were particularly useful: Mauer (2001), ‘The Swiss Debt-Reduction Program1991-2000’ and Berensmann. (2007) ‘Debt Swaps: An Appropriate Instrument for Development Policy? The Example of the German Debt Swaps’


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a necessary condition for—using swaps.

Recipient countries understand the value of debt swaps and are receptive to using them, especially if the counterpart funds are used to funds domestic development needs.

Donor countries can discount the debt swapped as a means to provide more aid, obtain ODA treatment for the swaps, have control over the allocation of counterpart funds, or incentivize the debtor country to enter into swap agreements.

Swaps appear to be effective when they are used to fill financing gaps in the recipient country’s own education and development plans.

Donors should monitor the use of the counterpart funds that the government provides to meet their commitment under the swaps. It is advisable to involve civil society in this monitoring process as well.

Monitoring by the donors helps ensure that counterpart funds are used appropriately and to allow the impact of the swaps to be evaluated. Evaluation of impacts is crucial for maintaining support for the use of swaps.

When debt swaps are used to meet operating expenses there needs to be careful consideration of how these on-going expenses are to be funded after the funding made possible by the swaps ends. Given that swaps are unlikely to be a stable or reliable long-term source of funding, it may be best to use them to fund capital expenditures.

Properly used, debt swaps provide additionality in donor funding and government spending for development.

Realizing educational goals often requires funding for development outside the education sector itself. Therefore it is useful to have the flexibility to use debt swaps for a range of development purposes rather than just for funding educational facilities, services or programs.

If debt swaps are being using primarily as a means for providing funding for social programs such as achieving the MDGs, donor countries should reconsider policies that restrict the use of swaps to only low income countries.


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4. Conclusions and Recommendations Experience has shown that when properly designed debt swaps can create “fiscal space” that allows recipient countries to provide additional funding for education and other development purposes. However, even if debt swaps adhere to the checklist and lessons learned, their impact on education financing (and a fortiori the debt situation of recipient countries) will be limited if one sticks to the typical piecemeal and strictly bilateral approach now observed. Upscaling is a necessary but difficult-to-achieve condition for debt swap performance improvement. The ‘available/eligible’ debt titles identified in section 2.2 are part of a ‘common pool’ in which advocates of swaps from various sectors are fishing in--among others, the health and conservation/climate change lobbies. It is not very likely that debt-for-education supporters will have the longest fishing rod, nor is such competition among sectoral agencies desirable. A cooperative approach, whereby debt-for-education supporters team up with other interests in a common debt-for-development funding effort, would be more constructive. The sectoral allocation of funds, which should be worked out in conformance with the development plans of debtor countries, can then be dealt with at a second stage. One promising avenue for upscaling would be for individual bilateral creditors to unite in larger multi-creditor swap initiatives.89 Naturally the Polish EcoFund comes to mind as an example of various bilateral creditors bundling debt relief efforts and channeling proceeds through a common counterpart fund.90 The EcoFund indeed holds meaningful lessons for debt swap upscaling, but its design should not be blindly copied. The same holds for the Global Fund’s Debt2Health initiative.91 Another, perhaps less-known case of donor coordination on swaps is the participation of both Belgium and Norway, relatively smaller creditors, in the Asian Development Bank’s Pakistan Earthquake Fund.92

89

The UNESCO Working Group on Debt for Education Swaps (2007: 7-8) concluded that ‘[e]ven greater sums can be achieved if a multilateral agreement is signed with various creditors, pooling the resources into a single fund’. Filmus and Serrani (2009) similarly make the case for a multi-creditor mechanism, coined Debt4Education, for managing and administering debt-for-education swaps, modelled on the experiences of the Polish EcoFund and the Global Fund’s Debt2Health initiative. 90

The Polish EcoFund was established in 1991. In the course of a few years, six bilateral Paris Club creditors (US, France, Switzerland, Sweden, Norway and Italy) agreed to cancel part of their debt claims in exchange for local currency to finance environmental projects on air and water pollution, greenhouse gas emissions and biodiversity through the EcoFund. Over the period 1991-2010, a total of US$571 million in local currency counterpart payments was generated using the swap. US debt relief, good for triggering about US$372 million in Polish counterpart contributions, contributed the lion share to the EcoFund. See Ernst & Young and Institute for Sustainable Development (2010) for a comprehensive evaluation report of the EcoFund. 91

See Cassimon et al. (2009) ‘What potential for debt-for-education swaps in financing Education for All?’ 92

A year after the devastating October 2005 earthquake in North Pakistan, Norway decided to cancel US$20 million of debt owed by Pakistan, with an equivalent amount of local currency counterpart funds to be channelled through the Pakistan Earthquake Fund (PEF), an initiative set up by the Asian Development Bank for post-disaster rehabilitation and reconstruction. In January 2007, Belgium contributed another US$13 million (in PV) to the PEF using a swap. See http://beta.adb.org/news/belgium-euro10-million-debt-swap-pakistan-quake-reconstruction.

http://beta.adb.org/news/belgium-euro10-million-debt-swap-pakistan-quake-reconstruction


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It is certain that the heterogeneity of creditor policies on debt swaps remains a significant impediment to larger multi-creditor debt-for-development swaps. The examples just presented demonstrate, however, that it is possible to find at least some common ground from which a process of donor coordination could be initiated. With many non-Paris Club creditors already involved in debt relief operations and South-South cooperation becoming ever more important in today’s interconnected world, there may be untapped potential for involving them in large-scale debt swap initiatives. This would of course require greater transparency over their respective debt relief policies and attitudes towards debt-for-development swaps. U.S. president Barack Obama’s recent proposal to support Egypt’s difficult democratic transition with a US$1 billion debt swap targeted towards youth employment creation and boosting private entrepreneurship in the country presents a concrete opportunity to bring into practice some of the lessons learned and recommendations presented in this report.93 Importantly, the swap has been explicitly framed as part of a multi-creditor effort, with US Secretary of State Hillary Clinton and Treasury Secretary Timothy Geithner urging other G-8 countries to join. Some Paris Club creditors holding Egyptian debt could probably be persuaded to swap their claims, both creditors now actively involved in debt conversions and those that await multilateral decisions at the creditor community level. Other donors may opt to just supply new aid to Egypt. Wherever the debt-for-development format is chosen, it would be useful to keep in mind this report’s checklist for more effective and efficient swap interventions. Role of UNESCO UNESCO could become a focal organization on debt swaps, a facilitator assisting interested debtor countries in finding a group of creditors that are favorable towards debt-for-development swaps (debt-for-education swaps in particular) and willing to pool the resources generated by the relief on their claims into one single fund. Such a fund would then be managed by (or at least in close cooperation with) the debtor country itself, with resources spent on its own development priorities. As such, debt swaps would take on a HIPC/MDRI-type of setup, avoiding many of the pitfalls of earlier first-generation swaps while at the same time creating enough critical mass to make a noticeable impact.

93

See AFP article “US urges G8 partners to help Egypt debt swap” by Lachlan Carmichael, May 25, 2011 at http://www.google.com/hostednews/afp/article/ALeqM5jh5hiM4z9loQqVk0RTspCqFF0XQQ?docId=CNG.f885ea9a34465db661fb1dd91e01d6c0.3b1.

http://www.google.com/hostednews/afp/article/ALeqM5jh5hiM4z9loQqVk0RTspCqFF0XQQ?docId=CNG.f885ea9a


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Part 2 – Debt Conversion for Development Bonds


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5. Establishing Synergies Between Debt Swaps and Other Innovative Financial Instruments Several issues arise immediately when considering debt swaps as a possible significant source of funding to meet the MDGs:

1. Debt swaps in the past have been used primarily as a tool for addressing the high debt service burdens of developing countries. Will debt swaps be as acceptable when they are used primarily as a means to increase the transfer of resources to developing countries?

2. Given recent past multilateral efforts involving swaps of bilateral official debts, what can motivate donor governments to undertake another round at this time?

3. What can induce commercial banks to participate in debt swaps?

4. Is there sufficient debt remaining after the previous debt reduction efforts for another round of swaps to provide substantial amounts of funding for many developing countries?

5. Would the funding made available by debt swaps be available in time to help finance efforts to achieve the MDGs by 2015?

It seems likely that the answer to the first three of the above questions is that another round of debt swaps will most likely be agreed to by creditors (donor countries and commercial banks) if it serves as a catalyst for mobilizing other sources of new development funding and would have other significant positive developmental impacts. On the fourth point, based on the analysis presented in Chapter 2 above, there appears to be a substantial amount of multilateral, bilateral and commercial bank debt that could justify a new round of debt swaps, but additional research will be necessary to identify the specific debts and countries that would be most appropriate for debt swaps. On the fifth point, it appears that debt swaps can mobilize substantial new money in the short term if such swaps are combined with other financing initiatives—these ideas are discussed in detail in this chapter.

5.1 Where is the Money?

When seeking new sources of funding, it is important to first understand where potential sources of money exist. While various public and private sources of funds were examined, it was clear very quickly that it is the domestic savings of developing countries themselves that are potentially the most substantial and sustainable sources of additional

External Sources of Development Financing

ODA from DAC Countries - US$129 billion in 2010

World Bank Group - US$73 billion in commitments in 2010

Proposed Global Currency Transaction Tax - US$25-34

billion per year

Debt Conversions - US$5.7 billion in debt cancelled (1987-

2007)

GAVI AMC - US$2.8 billion committed through 2015

IFFim - US$2.6 billion (2006-2010)

Solidarity Levy on Airline Tickets - US$573 million (2006-

2009)

Global Fund Debt2Health - $236 million (2007-2010)

Figure 2: External Sources of Development Financing


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funding for development. Perhaps most important from the perspective of development are the assets held by pension fund and insurance companies, because these funds need to be invested on a long-term basis. In 2009-2010, Affinity MacroFinance conducted a survey of 45 developing countries to determine the amount of pension fund assets held by local institutions. The results of this survey showed that at the end of 2008, emerging market pension funds held over $1 trillion in assets. (See Appendix A.) Of the 45 countries examined, 12 were eligible for IDA funding and controlled $101 BN in assets. At the end of 2010, JP Morgan published a report, EM Moves into the Mainstream as an Asset Class, which further supported Affinity MacroFinance’s work. In one figure, JP Morgan showed emerging market pension funds reaching $1.4 trillion in the first quarter of 2010.94 This was an increase from just $400 billion in 2000. JP Morgan went on to note that there were $1.8 trillion in insurance assets in the emerging markets. Banks, companies and wealthy individuals also have substantial savings that need to be invested in long-term assets.95 While the assets in formal saving institutions in developing countries are large and growing rapidly, these domestic savings assets are often poorly utilized. Institutional investors in particular need to invest in safe, long-term assets; unfortunately, in most developing countries such assets are in short supply. The bonds issued by the national government are usually viewed as the safest asset that local investors can hold. However, the amount of such government bonds in most developing countries falls short of the investment needs of these local investors. As a result, savings held by institutional investors are often invested in local real estate and private companies—relatively risky and illiquid assets that are susceptible to corrupt practices—or held as time deposits in local banks earning relatively low rates of return. If just 5% of the roughly US$3 trillion plus in formalized domestic saving of developing countries could be invested in high quality, long term assets that support local development, it would represent approximately US$150 billion—twice the level of funding commitments made by the World Bank Group in 2010.

5.2 How can these domestic savings be mobilized for development?

Developing countries can mobilize their own domestic savings to fund social and economic development needs through the issuance of long-term local currency bonds in their domestic

94

The JP Morgan Pension Figures were in aggregate and contained different countries than Affinity MacroFinance study. That said, both studies indicate the significant size of developing country pension funds 95

In Cameroon and El Salvador the AMF team met with officials from the pension funds and insurance companies. In Cameroon the National Social Security Fund (CNPS) receives $134 million in contributions each year. While these should be invested in low-risk long-term assets, they currently are invested in bank deposits, real estate and equity investments – thus making it difficult to even place a market value on these assets. Insurance companies in Cameroon have over $415 million in assets. In El Salvador publicly regulated and managed pension funds currently have $5.8 billion in assets. These assets are managed by two private sector firms. A minimum rating of single-A is required for all pension fund investments.


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capital markets. But such bonds should be issued only when it is clear there will be adequate future revenue available to repay the bonds. Most developing country governments are already issuing bonds. However the ability of governments to issue bonds is often severely constrained by the lack of adequate “fiscal space” to ensure the repayment of additional bonds.96

Additional fiscal space can be created by debt swaps. Creditors could agree to release a debtor government from its obligation to make payments on its existing foreign debt in return for the debtor government committing to divert those funds previous earmarked for foreign debt repayment to meet domestic development needs. This would provide recipient country governments new fiscal space that would allow them to issue additional domestic bonds, what are here labeled Debt Conversion Development Bonds (DCDBs). Why issue additional bonds now? Donor countries’ funding for the Millennium Development Goals has fallen far short of initial expectations and needs. Additional bilateral debt swaps could help fill this gap. But, in order for debt swaps to create additional fiscal space for a debtor country, the counterpart funds that the government must provide cannot be greater than the amount of local currency that would otherwise have been required to make the periodic foreign debt service payments. This means that debt swaps could directly release each year only relatively modest annual amounts of funds for domestic development spending. Such amounts would help, but would not provide substantial new funding needed now to meet the MDGs by 2015. For example, if a country had foreign debts of $380 million forgiven under this program, perhaps only $37 million in domestic funding would be saved each year between now and 2015 that could be allocated for development spending. (See the example in Appendix B.)

96

By this is meant that a country does not have the capacity to increase domestic borrowing without threatening the sustainability of its financial position. As described below, a reduction in government revenue needed to service external debt can provide the government with revenue that can be used to increase domestic debt without an increase in its overall debt service burden.

Figure 3: Official Aid Flows


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DCDBs would allow the “frontloading” of the funds released by debt swaps, thereby making funds available now from a stream of future local currency debt service payments extending over a number of years. Debt swaps would increase the recipient government’s sustainable domestic borrowing capacity. Funds for debt service payments would come from the funds saved by the government not having to make future payments on the converted foreign debt. By using the reduction of external payments with the mobilization of domestic saving, DCDBs would allow an immediate and substantial increase in the funds available for meeting the MDGs. The concept underlying DCDBs has precedents in development finance. In 2003, the UK’s Department for International Development, seeing that the normal level of aid flowing to the developing countries was insufficient to achieve the MDGs by 2015 proposed the establishment of a new International Finance Facility (IFF).97 This facility was based on obtaining from a number of donor countries legally binding commitments to provide a flow of future payments to the IFF. These pledges were to be used to securitize bonds that could be sold in international capital markets. While the bonds would be repaid over a long period of time, the proceeds from the bond sales would be available immediately to accelerate funding to meet the MDGs. While the IFF was not implemented, the International Finance Facility for Immunization (IFFIm) was set up in 2003 using the same approach to rapidly accelerate the availability and predictability of funds for immunization programs in developing countries.98 By 2006 IFFIm began issuing bonds securitized by pledges from the governments of the United Kingdom, France, Italy, Norway, Australia, Spain, The Netherlands, Sweden and South Africa to make contributions over 23 years. From November 2006 to April 2010, IFFIm raised US$2.6 billion on the world’s capital markets in seven major offerings to both retail and institutional investors. IFFIm’s “vaccine bonds” have been popular with institutional and individual investors seeking a market-based return and an ethical investment opportunity. The funds raised in this way are used by the Global Fund for Vaccination and Immunization (GAVI) to fund immunization efforts in developing countries. The level of funding available to GAVI in the period 2006-1010 was doubled due to the IFFIm. The IFFIm was a difficult and costly transaction to execute due to the need for governments to made legally binding future aid commitments, the unique financial structuring required in the transaction, the necessity of external ratings and the various side conditions that were necessary. The DCDBs should be much less difficult and costly to execute, as will be explained below.

97

See DFID, “International Finance Facility”, (2003). 98

See IFFIm website at http://www.iffim.org/about/overview/ .

http://www.iffim.org/about/overview/


54

5.3 Could substantial funding be mobilized?

A successful global effort could result in billions of dollars of local currency funding being made available in a relatively short period of time. The aggregate amount of debt swaps depends on what types and amounts of debt are made available for conversion by multi-laterals, creditor governments and private creditors (primarily commercial banks). The amount of debt swaps mobilized for each developing country will depend on the types and amounts of debt that are included and the structure of each country‘s outstanding debts. The amounts of swaps will likely be greatest for middle income countries and non-HIPC low income countries, as most of these countries did not have large debt write-offs over the past decade. The HIPC and related debt forgiveness programs means that there is less debt remaining for debt swaps in the HIPC countries. Probably the most appropriate types of debt for conversion would be official bilateral non-concessional loans (primarily from export credit agencies) and commercial bank loans.99 Non-concessional loans from multilaterals are another potential source of debt for swaps and would be the most significant source for lower middle income countries.

5.4 What is sustainable about this effort?

While the Debt Conversion Development Bonds program would be a one-time funding effort (as described below under DCDB Program Basics) designed to help achieve the MDGs, the issuance of these bonds would enhance and speed the development of local capital markets in several ways. First, such bonds could help extend the maturities of bonds issued in local capital markets in developing countries. Extending the government bond yield curve would be one desirable outcome of this program, since the fiscal space created in some countries will be in years beyond the farthest maturity of previously issued local currency government bonds.100 Developing countries around the world are constantly attempting to push out the maturity of local currency government bonds, and the DCDB program would provide impetus for this healthy tendency to gain more momentum. Also, the process of issuing DCDBs could establish legal frameworks and market capabilities in countries with little-developed or wholly undeveloped local bond markets. AMF has found that many lower-income nations are characterized by what can be termed “nascent” bond markets.

99

The Swiss experience during the 1990s in undertaking debt conversions for these types of loans provides an excellent precedent, as well as their use of counterpart funds for development projects in the recipient countries. See Mauer. (2001) ‘The Swiss Debt-Reduction Program 1991-2000’. 100

The yield curve is the relation between the interest rate (or cost of borrowing) and the time to maturity of the debt for a given borrower in a given currency.


55

Here some or most of the building blocks of a bond market may exist – local savings pools, generally in the form of pension funds; perhaps a couple of local governmental issuances, often for short maturities; perhaps some basic regulatory apparatus and structure. Issuance of DCDBs in these nascent markets would help accelerate the process of development of local financing capacity by elaborating or establishing legal and regulatory frameworks in these countries. Once the frameworks are in place, there is often substantial pent-up local demand for financing which will seek to be satisfied in these markets. Finally, institutional investors would have additional appropriate assets in which to invest, thus strengthening their portfolios. In developed countries a large share of spending for social and economic infrastructure comes via the issuance of bonds by national and sub-national government bodies. In the future, this will be the case in developing countries as well. DCDBs could help countries reach this stage more quickly.

5.5 DCDB Program Basics

The basic building blocks of a Debt Conversion Development Bond program would consist of the following:

One or more multilateral, bilateral or commercial bank creditors agree to forgive specific debts in exchange for a commitment from the debtor country’s government to periodically place into a special account at their Central Bank the local currency saved from not having to make principal and interest payment on the debt.101 This account is labeled here the Debt Conversion Account (DCA).

The government’s payments into the DCA (the “counterpart funds”) would be in local currency (which would save the country from having to utilize its foreign exchange reserves) and would be made over time in accordance with the original debt service schedules of the converted debts.

The exchange rate used for the calculation of the local currency payments would be fixed—most likely to correspond to the exchange rate at the time of the debt conversion agreement with each creditor. (This is necessary to provide certainty as the amount of local currency going into the special account over time.)

The government could then issue DCDBs which would be repaid from the stream of future payments going into the DCA. Depending on the amounts of debt swaps in each

101

While the donors could discount the debt, for example requiring the recipient governments to make counterpart payments of only 50% of the original debt service payments (as was done in the recent Debt2Health conversions), this may not be necessary as all the payments are used by the government to fund local development projects that the government has helped to design.


56

county, the time profile of the future stream of counterpart funds, and debt markets conditions, one or more DCDBs could be issued in each country, varying in size, tenor, interest rate and issuance date as appropriate.102

Proceeds from the issuance of each DCDB would be deposited into the DCA. And as development projects are approved and implemented, they would be funded by disbursements from the DCA. This will allow the government and donors to monitor how DCDB funds are created and used.103

The key transactions involved in the creation of DCDBs are shown in the accompanying figure. A numerical example of the financial flows behind DCDBs for a country is also provided in Appendix B to this paper.

Foreign

Creditors

Debtor

Country

Government

Debt

Conversion

Development

Bonds

Domestic

Investors

Debt

Conversion

Account

(DCA) at

Central Bank

Government

&

Country

Donor Group

Education Health Infrastructure Other

Debt

Write-Offs

“Full Faith

& Credit”

Counterparty

FundsBond Sales

Bond

Proceeds

Debt Service

Payments

Allocation of

Funds

Monitoring

Distribution of Funds to Meet MDGs

Developing country governments would have full ownership of the DCA and would be fully responsible for all payments on the DCDBs. These bonds would carry the government’s “full faith and credit” commitment to repayment, making them equivalent to other general obligation bonds of the government. The counterpart payments and proceeds from the sale of

102

The terms and maximum tenor of the bonds will depend on domestic investors’ views about future inflation and government fiscal management risks. The interest rate on the bonds could be fixed or inflation adjusted, although the latter would introduce complexities and risks that should be avoided if possible. 103

Earmarking of the source and use of funds created by DCDBs in the government’s standard financial accounts could be a substitute for a Debt Conversion Account.

Figure 4: DCDB Illustrative Diagram


57

DCDBs would pass through the DCA. This would be done primarily for monitoring purposes.104 While the primary purchasers of the DCDBs would likely be local institutional investors, banks and wealthy individuals, these bonds may also be attractive to foreign investors who are willing to invest in local currency securities. For example, they would be an attractive form of ‘Diaspora bond’ or ‘social investment bond’ given that they are used to finance MDG specific projects and the funds are monitored by donors and CSOs. Allocation of funds to achieving the MDGs The funds raised by the issuance of the DCDBs should be allocated by the government and its development partners in the same manner that most Overseas Development Assistance in now allocated and in accordance with the Paris Declaration on Aid Effectiveness (2005) and Accra Agenda for Action (2008). The DCDB funds should be used primarily to help finance the country’s efforts to meet the MDGs, and the use of the funds should be clearly identified when they are withdrawn from the DCA. This proposed governance mechanism for the DCA provides a means for the donors and CSOs to influence the allocation process, monitor the flow of funds and ensure that the funding provided is truly additional to what the government would have otherwise spent on the MDGs.105 While this process will provide new funding for education, the fund raising effort should not be sector-specific. The amounts allocated to education and other sectors should be determined by the specific needs of each country as identified by their governments working together with their development partners. Why should DCDBs be attractive to both donors and recipients? For the developing countries, DCDBs:

Reduce the country’s external debts

Reduce demand on the country’s foreign exchange reserves

Provide additional “fiscal space” in the government’s budget

Allow the government to issue bonds that can mobilize domestic savings

Provide substantial funding immediately to meet the MDGs

Adhere to government identified priorities for development spending

Contribute to the development of domestic capital markets

104

It would be possible to provide additional credit enhancement features to the DCDBs, for example by having the DCB always maintain a reserve for future debt service payments in the event that there is a temporary interruption in the in-flow of counterparty funds. The example given in Appendix B shows the DCF always having surplus funds in excess of one year of debt service payments at all times. It might also be possible to treat the DCA as a special purpose vehicle (SPV) and attempt to create a structured finance bond (such as was done with the IFFIm), but this would likely only complicate the process and add to transaction costs, without providing any real credit enhancement or better pricing of the DCDBs. 105

See Cassimon and Essers paper for additional discussion of this topic.


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For the donors/creditors, DCDBs:

Help participating governments meet their MDG funding commitments

Help participating banks improve their public image

Contribute to the development of domestic capital markets

Provide an attractive investor for socially responsible investors and a country’s diaspora 106

Debt Forgiveness Fatigue It needs to be recognized that any effort to launch a new round of debt forgiveness is likely to be difficult due to the fact that there has already been so much done in this regard over the past two decades. Therefore it will be necessary to stress what is different about the current effort:

This round of debt swaps is not being proposed to deal with a debt crisis on the part of the developing countries. In fact, it is only because most of these countries are making payments on their debts that the proposal feasible.

Debt swaps are being proposed as a way for the donor countries to help fund efforts to meet the MDGs by 2015. Most donor countries are not fulfilling their initial funding targets for this effort and this proposal is a way to help them do so.107

This round of debt swaps will allow the developing countries to use their own domestic savings to fund the achievement of the MDGs.

This effort will also help to strengthen the capital markets in developing countries, a critical step in making them more able to fund their own development on a sustainable basis.

Conditions Conducive to DCDBs DCDBs are not appropriate as a means of development finance in all countries or in all circumstances. Several conditions need to be met:

The country’s existing level of indebtedness and fiscal performance should be sustainable.108 While any simple indicator of debt sustainability can be misleading, the IMF has argued that for emerging markets the ratio of net public debt to GDP should be kept under 25% and they warn that once it goes above 50% there is a

106

For information on socially responsible investing see The Monitor Institute. (2009) Investing for Social and Environmental Impact. A good discussion of Diaspora investing is provided in Ketkar and Ratha (eds). (2009) Innovative Financing for Development, Washington: The World Bank. 107

As is pointed out in the Cassimon and Essers paper, the Multilateral Debt Relief Initiative that was launched in 2005 was “… framed as an effort to support the progress of HIPCs towards the Millennium Development Goals (MDGs) by freeing up additional donor resources, more than as mechanism to ensure debt sustainability (debt burdens were already deemed to be sustainable after the original and enhanced HIPC Initiative).” 108

A view of debt sustainability that is particularly relevant for determining whether the issuance of DCDBs would be appropriate is provided in Gunter, “Consistent Debt Sustainability - How to Ease the Tension between Achieving the MDGs and Maintaining Debt Sustainability” (2007).


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danger that it could become unsustainable.109 The IMF regularly prepares and publishes debt sustainability studies for many countries and these are a good guide in judging whether the issuance of additional government backed bonds would be prudent.110

The country should have a need for an immediate and significant increase in education (or development) spending. This usually means that there are good reasons for the government to significantly increase capital expenditures in the short term. As is pointed out above, the effort to achieve the MDGs within the next few years could be one such incentive. Similarly a demographic bulge in a country could mean that a major expansion in school construction is warranted to accommodate a rapid increase in the number of students. Other capital expenditures such as for ICT and textbooks are also appropriate targets for the DCDB expenditures. Even one-time efforts such as training programs to improve teacher’s skills would be warranted. But care needs to be taken to ensure that once the additional temporary funding provided DCSBs is no longer available, there will adequate funding from the government’s budget to meet any continuing expenses necessitated by these investments.

The country should be able to effectively utilize a significant increase in funds. If the country is already showing signs that it can not effectively use more money, say by the evidence of widespread construction bottlenecks, raising more money by issuing bond is not warranted.111

The country should have a sufficient investor base to absorb the bonds. In many, but not all, developing countries the rapid growth in pension funds and insurance companies means that there is good demand for longer term, high quality assets such as DCDBs. Banks are also potential investors, but they usually able to invest in bonds with short tenors (usually no more than five years). In some countries the government is already issuing more public debt than the domestic capital market can easily absorb, with the result that there is “crowding out” of non-government debt. In such countries the issuance of additional government debt in the form of DCDBs would not be advisable.

The country needs a reasonably well functioning capital market. The government should already have established its ability to issue long-term debt at reasonable real fixed interest rates. (Nominal interest rates in most developing countries appear high, but if the inflation expectations upon which they are based prove to be correct,

109

International Monetary Fund, World Economic Outlook 2003, page.141. 110

Links to studies on debt sustainability for low income countries are available at http://www.imf.org/external/pubs/ft/dsa/lic.aspx?cty=UGA&fm=-1&fy=-1&tm=-1&ty=-1 For middle income countries similar studies can be found in reports from their Article IV consultations with the IMF. 111

The IMF has pointed to problems with the ability of Cameroon to absorb it current rapid increase in spending on infrastructure noting “… a record of low public investment execution (about 50 percent on average over the last three years) and persistent absorption capacity problems.” IMF, “Cameroon: 2010 - Article IV Consultation”, (2010), page 15.

http://www.imf.org/external/pubs/ft/dsa/lic.aspx?cty=UGA&fm=-1&fy=-1&tm=-1&ty=-1


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the real interest rates may not be high.)112 The existence of an established secondary market for debt would also facilitate the issuance of DCDBs.

Cost of DCDBs Unlike most other forms of innovative financing for development that have been tested or suggested, DCDBs should not be particularly difficult or expensive to arrange. And unlike many other innovative financing efforts they are not just another new form of taxation. The major difficulty in setting up DCDBs will likely be finding ways to align existing government policies on the use of debt swaps – or in convincing governments to change their policies. Creditor governments whose policies are based on using debt swaps primarily as a means for providing debt relief will need to consider viewing them instead as a useful way to provide financial aid. And recipient countries who fear that debt swaps may negatively impact their credit ratings or be viewed unfavorably by future creditors, may require reassurance on this point.113 The major limitation to the use of DCDBs will be that they are not appropriate for all developing countries. In fact the number of countries that would meet all the requirements listed in the previous section may be rather small. The most limiting criteria will be those related to the level of development of a country’s domestic capital markets. The effort and cost of actually initiating the issuance DCDBs once the creditors and recipient countries are in agreement should be small. In most countries all the institutional conditions and legal requirements are already in place. DCDBs, although they may be marketed as a special form of financing or designated to fund specific development purposes, will be just another “plain vanilla” government bond. There will be no special “structuring” required or any credit rating needed. Governments that are already regularly issuing longer term government securities will already have in place all the necessary infrastructure for preparing and issuing DCDBs.

112

Cameroon’s capital market is relatively undeveloped. The government has so far issued only one domestic bond. At the end of 2010, it issued a bond valued at XAF200BN (US$447 million). Proceeds from the bond issuance are to be used to finance thirteen specific infrastructure projects in Cameroon (roads, ports, water systems, dams, etc.) The bond had a maturity of 5 years and a fixed coupon of 5.6 percent. The issuance sold out in a little over two weeks with local banks, insurance companies and others purchasing the bond. El Salvador has a relatively well developed domestic capital market with regular issuance of government and corporate bonds and some issuance of bonds based on securitization of mortgages and other financial assets. The government is able to issue bonds with maturities of up to 15 years with relative ease. 113

Credit rating agencies and creditors who are fully aware of the purpose and impact of DCDBs should view them as credit enhancing, at least as far as external lending is concerned. They reduce a country’s external debt burden, improve its balance of payments and help to strengthen its domestic debt markets. There could admittedly be some negative consequences as regards the domestic markets if there is insufficient domestic demand for such debt due to excessive government borrowing or limited development of institutional investors in the country.


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The process by which creditors monitor the use of the funds (either through a Debt Conversion Account or simply by earmarking of funds) should be not be costly and should not impede or slow down the use of the funds raised by issuing DCDBs. In fact similar structures are already in place in many developing countries.

5.6 A Special Potential Use for DCDBs: Funding Equity and Quality of Education

Potential use of resources from DCDBs should be decided by countries themselves with advice from the local donor group and according to actual needs on the ground. There must be considerable reflection and planning on how money would be spent from bond proceeds. It would be an advantage to have an existing education program in a given country before the debt conversion is executed. The financing from DCBDs could focus on issues related to equity and quality in education which pose challenges in most of the countries. Resources generated through DCBDs could benefit the following potential neglected areas in education: education for refugee children, quality of teachers, innovation in education, education in rural areas, etc. Example – How DCDBs could Fund Education for Refugee Children Educating refugee children poses special issues as host countries are often reluctant to bear the cost of their education. As refugees are often viewed as temporary residents, their hosts have good reason to see no long term benefits for their own citizenry in providing assistance, especially when the potential payoffs are only very long-term. Refugees also present particularly challenging budgetary issues. The demands for assistance can arise suddenly, the funds needed are often large relative to the host government’s budget and the length of time that support will be needed is often unpredictable. When conflict erupts in a neighboring country it can be extremely difficult for a country to quickly mobilize funding to support the immediate needs of a large influx of people. Thus even if the host country wants to help finance the needs of refugees, it is usually difficult for them to do so. As a result refugee children often have little or no opportunity to go to school. A UN survey found that in refugee camps “enrollment rates averaged 69% for primary school and just 30% for secondary school. Pupil/teacher ratios were very high – nearly one-third of camps reported ratios of 50:1 or more – and many teachers were untrained.” 114 For a variety of reasons, the international aid system is providing insufficient funding to meet the education needs of refugee children. Under the new aid architecture donors are attempting to help finance programs and projects identified by the recipient government. So if the latter governments are not interested in funding education for refugees, this can be an impediment. DCDBs may offer a way to motivate governments with large refugee populations to provide

114

Education for All, Global Monitoring Report 2011, p. 33.


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more funding themselves.115 Donors could offer debt swaps at a discount on the condition that the government issues domestic bonds and uses the proceeds for refugee programs – building schools, hospital, housing, etc. Instead of being criticized for providing inadequate assistance to refugees, the host country government will be seen as their benefactors. The discount would represent a real financial aid flow to the country and the spending resulting from issuing bonds would benefit the citizens of the host country by creating jobs for them. Plus the issuance of the bonds would strengthen the local capital markets and provide good quality, long term assets for the country’s institutional investors. One of the first steps in the process of mobilizing these additional resources should be to ensure that the government includes the needs of refugee populations in their overall development and poverty reduction programs. As discussed in Section 5.8 below, the additional aid provided via DCDBs needs to be channeled through the country’s own planning, programming and budgeting process if it is to be used effectively. Potential use of resources from DCDBs should be decided by the countries themselves with advice from the local donor group according to actual needs on the ground. In order for the DCDBs to be used in this way there needs to be developed a fairly standardized framework for donors and host countries to follow so that such DCDBs can be issued quickly when needed. Donor and civil society participation in planning and monitoring the use of the funds raised from the DCDBs should be required to ensure that additional funding would go into refugee assistance program.

5.7 Other Sources of Support for Domestic Bonds

Debt swaps are uniquely well suited as a means for backing domestic bonds, given the fact that once a debt is forgiven it creates a long term stream of savings for the recipient government. However, domestic bonds could be made possible by other means. Just as with DCDBs, domestic bonds could be supported by donors who—instead of making a large one-time contribution—are prepared to commit to providing funding over a period of time. This might be particularly attractive to private sector donors who see the need for immediate and significant capital projects but who need to budget their support over a period of time.116 Domestic bonds can also be issued based upon the securitization of future streams of revenue such as college tuition payments, student loan payments, and student housing expenditures. Such bonds are usually based on the expectation that graduates will soon have the ability to

115

In many countries internally displaced children face many of the same problems. DCDBs could be used as an incentive for governments to fund education for these children as well as refugee children. 116

This presents risks for the recipient government who would pledge their full faith and credit behind the repayment of the bonds based on the expectation that the future donor funding for debt service payments would be received.


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pay for part of their advanced education (or that their parents can pay).117 In many countries a disproportionate amount of total education spending by the government goes into tertiary education. Governments can instead use bonds as a way to fund capital expenditures for tertiary education, allowing them to increase budgetary spending for primary and secondary education. In many countries the government is likely to have to provide their full faith and credit backing for the bonds, but the fiscal space can be created by the government capturing some of the student’s (or their parent’s) future earnings. In countries that have more advanced capital markets that permit the issuances of bonds based upon securitization of future payment streams, such bonds may not need to be issued or guaranteed by the government. Such bonds may be of adequate credit quality to be accepted by investors on their own, or with partial or full credit guarantees provided by private or public financial institutions other than the governments. The International Finance Corporation (IFC) has for over a decade encouraged and helped support the use of domestic bonds to provide funding for education.118 They have done so by providing technical assistance and offering partial credit guarantees. Such guarantees reduce the repayment risk to investors purchasing the bonds, thus making them more attractive and less costly to the borrowers. The IFC has also supported bonds issued by private schools and universities based on future tuition payments and bonds backed by the securitization of student loans. For such programs to be successful it is critical that the prospects are good that graduates will be able to find jobs.119 It is also necessary that the public be willing to accept the concept of paying for advanced education.120 It should also be noted that domestic bonds can be backed by a combination of the above techniques. For example, a domestic bond focused on nationwide education development might be supported by the “general obligation” of the central government; by defined cash flows to a debt service account created by the execution of debt swaps; and by securitization of college tuition payments. Such a bond might further be supported by a “junior tranche” funded by private sector donors and available as a “first loss” to improve the credit quality of the senior bonds supported by the government’s obligation, debt swap cash flows and tuition payments.

117

In El Salvador a private school (the “Liceo Francés”) successfully issued a US$2.5 million domestic bond to finance construction of new buildings. Debt service payments for the bond are funded through future tuition payments the school will receive. 118

Timothy Ryan of the IFC’s Health & Education Department informed the AMF team that that financing education is currently the most rapidly growing program at the IFC. 119

In an interview with the Ministry of Higher Education in Cameroon it was pointed out that many university graduates can not find jobs and thus a student loan program would probably not work in that country. 120

See IFC. (2011), Education for Employment: Realizing Arab Youth Potential. This recently released report summarizes much of what the IFC has learned about financing for education. It focuses on the efficient use of education resources and preparing students for employment.


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5.8 Delivering Debt Conversion Development Bonds Effectively

In addition to increasing funding to education, it is important that the funding is used effectively. Probably the most relevant advances in aid effectiveness are those linked to efforts to strengthen the capacity of recipient governments to develop and carry out their own development programs. In recent years a consensus has been reached among most development organizations that aid should be provided in ways that support national capacity building and the coordination of donors, the government, civil society organizations and other stakeholders. The Paris Declaration on Aid Effectiveness (2005) and the Accra Agenda for Action (2008), which have been accepted by most donors and recipient countries, reflect this consensus.121 The Paris Declaration outlines the following five fundamental principles for making aid more effective:

Ownership: Developing countries set their own strategies for poverty reduction, improve their institutions and tackle corruption.

Alignment: Donor countries align behind these objectives and use local systems.

Harmonization: Donor countries coordinate, simplify procedures and share information to avoid duplication. Also donors work to implement common arrangements and simplify the procedures required to receive aid.

Results: Developing countries and donors shift focus to development results and results get measured.

Mutual accountability: Donors and partners are accountable for development results. The Accra Agreement expanded upon these principles and modified them—with a special focus on giving a greater role to civil society organizations --as follows:

Ownership: Countries have more say over their development processes through wider participation in development policy formulation, stronger leadership on aid co-ordination and more use of country systems for aid delivery.

Inclusive partnerships: All partners - including donors in the OECD Development Assistance Committee and developing countries, as well as other donors, foundations and civil society - participate fully.

Delivering results: Aid is focused on real and measurable impact on development.

121

Documentation on these agreements is available on the OECD website at http://www.oecd.org/document/19/0,3746,en_2649_3236398_43554003_1_1_1_1,00.html

http://www.oecd.org/document/19/0,3746,en_2649_3236398_43554003_1_1_1_1,00.html


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The principles underlying the Paris and Accra agreements suggest that funding “silos” between different development objectives need to be dismantled. While this study was commissioned to find innovative ways for using debt swaps for education, there is nothing in these proposals made here that applies only or specifically to education spending. This is as it should be. A basic principle of public finance is that decisions on how best to raise public funds should be kept separate from decisions on how to allocate public funds. Unfortunately, in the development aid area today this principle is widely ignored. Instead there is competition between groups attempting to raise funds for health, education, the environment, etc. While this can be explained in terms of the benefits it has in motivating and mobilizing support for aid, it often leads to wasteful duplication of effort and is inconsistent with the principles underlying the new aid architecture. Development is a holistic process. This point was clearly made in the recent UNESCO report that discussed the central role that achievement of the MDGs for education has in achieving most of the other Millennium Development Goals.122 But it is also true that to achieve universal primary education and gender equality in education, other MDGs such as basic improvements in health and reduction of extreme poverty are essential. Going a step further, many other aspects of development not specifically addressed by the MDGs, especially improvements in basic infrastructure (roads, water and sewer systems, power and communications) are critical to achieving the MDGs. Thus if UNESCO or other organizations decide to promote the development of DCDBs they should not approach this as a “financing for education” effort but as a “financing for development” effort. The Paris and Accra principles on accountability should also be observed if DCDBs are used. The special nature of debt swap financing creates a number of challenges in this regard. Debt swaps can not be “conditional” on government performance or the outcome of the assistance. They are a pre-commitment of a future stream of aid. As such there is a danger that once debt is written off, the recipient government will soon forget its counterpart obligations. Above it was suggested that the recipient country makes counterpart payments into a separate fund from which the periodic debt service payments on the domestic bonds are issued. While this fund should be monitored by donors, civil society organizations and other participating parties, such oversight is primarily to ensure that the bonds will be paid on schedule. It is even more important that a monitoring and assessment framework be established to ensure that the proceeds from the bonds are used effectively. There are many ways in which this can be organized. Whatever approach is used it should help strengthen the recipient governments own planning, management and accounting systems while ensuring the participation of civil society and providing accountability to donors. A great deal was learned by

122

UNESCO. (2010) The Central Role of Education in the Millennium Development Goals.


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efforts to monitor the poverty reduction impact of the HIPC and MDRI efforts.123 These lessons should be applied in any future use of debt swaps to finance development.

6. Conclusions and Recommendations

In some countries the “fiscal space” created by properly designed debt swaps can be used by the government to issue domestic bonds, thus mobilizing the country’s own formalized savings to fund development. Such domestic bond issuance based on debt swaps is warranted in those instances where spending a large amount today has potentially greater benefits that spending small amounts over a long period of time. This is most often true when the funds are used to fund essential infrastructure projects.124 This paper has presented the idea of using debt swaps to support the issuance of domestic bonds. The proposed Debt Conversion Development Bonds could help fill the gap in funding needed to achieve the Millennium Development Goals for education. While DCDBs are not appropriate for all countries, there may be enough potential applications of this approach to warrant initiating a major campaign to promote their use. However, before launching such a campaign there is a need for additional research to:

Identify bilateral official, multilateral and commercial debts held by developed countries that could be used for debt swaps.

Determine which creditors are likely to be willing and able to participate in a multilateral debt conversion effort to meet the MDGs.

Determine the specific debts of each developing country that could be converted and the repayment terms for these debts.

Calculate the potential amount of DCDBs that could be issued by each country.

Evaluate the potential impediments to this proposal on the part of both creditor and debtor countries—and multilaterals and commercial banks.

Evaluate the political and financial resources needed to successfully carry out this effort.

Identify the best sponsors for this effort.

123

IDA & IMF. (2009) ‘Heavily Indebted Poor Countries (HIPC) Initiative and Multilateral Debt Relief Initiative (MDRI)—Status of Implementation’; Hinchliff. (2004) ‘Notes on the Impact of the HIPC Initiative on Public Expenditures in Education and Health in African Countries.’ and Groot et al. (2003) ‘The Management of HIPC Funds in Recipient Countries: A Comparative Study of Five African Countries’ for analysis of various aspects of this issue. 124

Infrastructure expenditures as used here include investment in buildings and equipment, transportation networks, books, information and communication technology (ICT), etc. It can also include investment in “human capital” such as the training of teachers. In accounting terms it includes items that are treated as capital expenditures rather than operating or current expenditures.


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Identify an organization to manage this effort.125

Before launching a major campaign it would also be useful to test the concept with a pilot project. This would involve selecting an appropriate and willing country with clearly defined needs, finding one or more creditor countries willing to write off a portion of the country’s debt, working with the recipient country to establish the framework for donor and civil society monitoring and to issue the bonds in the domestic capital market. This could be done rather quickly, as it does not require any major new multilateral agreements or administrative framework. Role of UNESCO UNESCO could play a lead role in promoting the Debt Conversion for Development Bonds as a way to dramatically increase funding to help meet the MDG goals for education by 2015. There could be several steps to this process. First, it would be useful for UNESCO to lead an effort to present this new concept to two communities which currently have little direct overlap in their development work: those who are seeking to mobilize innovative sources of funding for development and those who are seeking to develop the domestic capital markets of developing countries. Both groups should be asked to critically examine the concept. If they agree that it has merit, both should be involved in refining it. UNESCO could carry out this effort by first disseminating a report (similar to the current report) to experts in both communities and seeking their comments. This evaluation process could be carried further by bringing together a group of these experts to discuss the concept and make recommendations on how it might best be implemented. Second, UNESCO should seek funding and involvement of other partners to help to test the concept of DCDBs by arranging for a pilot study as described above.126 The initial phase of the pilot, which would involve the identification of an appropriate and willing country to issue DCDBs and exploring whether or not one or more countries would be willing to provide the necessary debt swaps, could be carried out at a small cost and relatively quickly. (While a pilot study could be carried out with just one participating creditor, it would be much more useful to engage multiple creditors. This would not only allow for greater funding, it would help to test 125

It would be useful to explore whether or not the Education for All Fast Track Initiative would be an appropriate organization to promote and manage the use of DCDBs. The FTI’s focus on meeting the MDGs for education by 2015 and approach of supporting national education sector plans fits well with a funding approach that is based on government issued domestic bonds. The FTI is currently going through a restructuring of their operations and this may present a good opportunity for them to embrace a new funding approach. One element of FTI’s new reform agenda is to “double external funding to basic education in low-income countries, along with increased domestic funding.” DCDBs may be a good way to achieve objective in some countries. 126

Among the organizations whose support should be sought are the IMF (given its role in helping countries mange their debt), the World Bank (given its capabilities for helping countries implement development projects), the UN Development Program (given the in-country support it could provided via its global development network), UNESCO (given its focus on education), UN Capital Development Fund (given it s experience in financing development at the local level in the least developed countries) and Office of the United Nations High Commissioner for Refugees (given its support for the education of refugees and IDPs).


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the process of creditor coordination and to see how the donor group functions at the country level.) Actual implementation of a DCDB effort would be largely the responsibility and at the expense of the creditors and recipient country. Once DCDBs have been tested in a pilot project, UNESCO could arrange for an outside expert analysis of the effort which would be of great value in deciding whether or not to attempt to launch a major multi-country initiative. If there is sufficient support for the concept of DCDBs as a new way to fund development programs, then UNESCO could proceed to mobilize a multi-creditor, multi-country effort to use DCDBs as a means to obtain a substantial increase in funding for development, and specifically for funding investments in education needed to meet the MDGs by the year 2015. To assist in this more ambitious effort UNESCO should seek support from other multilateral organizations, interested donor governments, developing country governments, civil society organizations and the private sector. It should explore how “non-traditional” (emerging) donors, commercial creditors and South-South Cooperation partners could be involved.


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Appendix A: An historical account of debt relief Pre-HIPC debt relief The early post-war period, a time of relative stability and moderate economic growth saw few countries requesting relief on their debt obligations to commercial and sovereign creditors. According to Gamarra et al. (2009), between 1946 and 1972 there were only nine countries seeking assistance in fulfilling their contractual debt service: Argentina, Brazil, Chile, Ghana, India, Indonesia, Pakistan, Peru and Turkey. At that time, and for many years to come, creditors helping debtor countries in bridging periods of repayment problems were primarily driven by their fear for imminent default, in which case they would all lose out on their outstanding claims. It was reasoned that if creditors worked together and pushed debtor countries to quickly sort out their economic problems (deemed to be problems of illiquidity rather than of insolvability), chances of recuperating all claims due would be considerable. This logic became apparent especially through the establishment in May 1956 (on the initiative of the French Treasury) of the Paris Club, an informal, voluntary forum geared towards finding debt restructuring solutions between debtors and their official bilateral creditors (Argentina’s arrears on its publicly guaranteed buyer and supplier credits being the Paris Club’s first case). On the creditor side Paris Club ‘founding’ members were 10 European countries: Austria, Belgium, Denmark, France, Italy, Norway, the Netherlands, Sweden, Switzerland and the United Kingdom. Later other creditor countries joined (as permanent members): Australia, Canada, Finland, Germany, Ireland, Japan, Russia, Spain and the United States. From its inception the Paris Club’s approach to debt relief was very much characterized by an ad hoc, short-term perspective, rescheduling debt service on a case-by-case basis (typically just a one-year consolidation) and at market interest rate (so no debt reduction). Consequently, many debtor countries had to return to the Club on a regular basis. Indonesia, for example, concluded four consecutive agreements with the Paris Club between December 1966 and April 1970. With the global economy in recession (following two major oil shocks) and commodity prices in steep decline by the mid-1970s, ever more developing countries were unable to fulfil the massive external debt commitments they accumulated during the preceding commodity price boom and sought Paris Club restructuring assistance. Initially the Club held on to its ‘classic terms’, i.e. short-term rescheduling at market-based interest rates. Late-1970s some Paris Club creditors however decided to forgive loans to low-income countries which had previously qualified as Official Development Assistance (ODA) because of their soft terms.


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Meanwhile, commercial creditors, most notably banks, also started to engage in rescheduling their claims on (mostly) middle-income countries. In a similar fashion as with bilateral creditors’ Paris Club, this led to a coordinated approach embodied by the creation of the London Club in 1976. Only by the late-1980s, in the wake of a number of serious debt crises, Paris Club creditors realized that (repeated) short-term rescheduling would never be an appropriate answer to the unsustainable debt burdens which many of the poorest developing countries continued to accumulate. This insight resulted in 1988 in the formulation of the so-called ‘Toronto terms’ for Paris Club debt treatment, which offered to creditors a menu of options to reduce up to 33.33 percent of the present value (PV) of non-concessional bilateral public or publicly guaranteed debt of low-income countries. These options included debt stock reduction, debt service reduction and extensive debt service prolonging, the latter entailing no debt reduction (and therefore denoted as the ‘commercial option’). In 1989 there was another round of ODA loan forgiveness by Paris Club members. Other debt relief initiatives launched included the World Bank administered (IDA) Debt Reduction Facility, whereby bilateral donor-sponsored grant funding is provided to debtor countries to buy backs debts owed to commercial creditors, and the Brady deals, whereby commercial creditors could exchange non-performing debt titles of (primarily) Latin-American middle-income countries for new bonds with more favorable (‘softer’) terms. In the ensuing years, the Toronto terms also proved insufficient to solve what came to be increasingly seen as a problem of insolvability (rather than mere illiquidity) and hence different, gradually more generous ‘menus’ for further debt reduction succeeded each other at a steady pace: the ‘Enhanced Toronto terms’ or ‘London terms’ for low-income countries in 1991, raising the debt reduction level to up to 50% of PV of non-ODA debt; the ‘Naples terms’ in 1994, allowing for 67% of PV reduction; and the ‘Houston terms’ for lower middle-income countries in 1990 that enhanced ‘classic terms’ but still not required debt reduction. For the first time, the London and Houston terms of the Paris Club also foresaw the possibility of converting, on a voluntary and bilateral basis, ODA debt or part of non-ODA debt held by Paris club members into commitments by the debtor country for investments with social, commercial or environmental finality. As a result the 1990s saw a first wave of such ‘debt-for-development swaps’ with bilateral debt in various sectors (including education), following earlier initiatives that involved commercial debt such as debt-for-equity exchanges in the 1980s and debt-for-nature swaps from the mid-1980s onwards. Next to stand-alone debt swaps a number of more institutionalized bilateral initiatives were taken, most notably the United States’ Enterprise for the Americas Initiative (EAI) (active since 1990), the Swiss Debt Reduction Facility (since 1991) and France’s Libreville Debt Initiative (since 1992). The Polish Eco-Fund (since 1991) was an important multilateral effort.


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HIPC debt relief Whereas by the mid-1990s the existing debt relief mechanisms seemed to have eased the debt problems of some, mostly middle-income countries, a fair number of other, mostly low-income countries continued to struggle in bearing ever-increasing external debt burdens, not the least because of the large share of debt owed to multilateral institutions in the latter group. Indeed, multilateral creditors had until then been excluded from debt relief initiatives. This highly skewed situation urged the World Bank and the IMF in September 1996 to launch the Heavily Indebted Poor Country (HIPC) Initiative. The original HIPC initiative aimed at bringing back to manageable levels the debt burdens of eligible heavily indebted poor countries with a proven track record of strong policy performance and exhibiting a willingness for macroeconomic adjustment programmes and structural reform. The Paris Club followed suit in November 1996 by replacing its Naples terms by ‘Lyon terms’ for eligible HIPCs, extending the maximum reduction to 80% of the PV of non-concessional debt. The HIPC Initiative’s primordial objective was to engage in a comprehensive, one-off debt relief effort that would launch even the most-indebted poor countries on a path of economic growth and would free them for good from further debt rescheduling and reduction negotiations. IDA-eligible debtor countries were selected on the basis of their ‘unsustainable levels’ of debt, defined in terms of debt service-to-exports and debt stock-to-exports ratios above 20-25 percent and 200-250 percent in PV, respectively, after all other traditional relief mechanisms, such as Naples terms treatment, had been exhausted. After having successfully implemented reforms through IMF- and IDA-supported programmes for three years, eligible HIPCs would reach their so-called ‘decision point’ at which the IMF and World Bank would decide on the amount of debt relief needed to achieve a ‘sustainable’ level of debt (through a so-called debt sustainability analysis or DSA). Another three-year period of programmes would then be followed by the HIPC attaining its ‘completion point’, resulting in full and irrevocable debt relief to bring down debt to the earlier-mentioned thresholds. Final debt reduction at completion point would entail the participation of the Paris Club, other (non-Paris Club) bilateral creditors, commercial creditors and multilateral institutions to come (ideally) to an equitable sharing of the costs involved; the HIPC Initiative was the first genuinely comprehensive debt relief framework. In September 1999, after a thorough review and consultation process (and under the mounting pressure of civil society organisations such as the Jubilee 2000 movement), the World Bank and the IMF reinvigorated an enhanced HIPC Initiative which was meant to avoid some of the flaws present in the original initiative. First of all, debt sustainability threshold indicators were lowered in order to bring more countries into the initiative and provide deeper debt relief for those that were already


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previously eligible. To assist in this respect, Paris Club creditors in November 1999 agreed on new ‘Cologne terms’ of up to 90 percent PV relief (or more if necessary) substituting the earlier Lyon terms. A second modification to the original initiative was the introduction of a ‘floating’ completion point (replacing the fixed three-year interim period), to be reached upon the fulfilment of (at decision point) pre-agreed social sector objectives and structural reforms. Third, the enhanced framework became more flexible in allowing for (discretionary) interim debt relief between decision and completion point. A fourth (and perhaps the most important) alteration was the decision to make debtor countries’ process under the HIPC Initiative conditional on the preparation and following up of their Poverty Reduction Strategy Papers (PRSP), thereby strengthing and making more explicit the link between debt relief and poverty alleviation. PRSPs are documents which set out a country’s medium-term macro-economic, structural and social policies and programmes aimed at poverty reduction, as well as the associated financial plans, and are prepared in a supposedly consultative manner by the government, domestic stakeholders and external development partners. The preparation of a PRSP, or at least an interim version, became a condition to reach decision point. Attainment of the HIPC completion point further required countries to adopt a full PRSP and implement its strategies satisfactorily for one year. the PRSP soon became a centrepiece in the IMF and World Bank’s overall concessional lending framework. As of December 2010, debt cancellation under the HIPC Initiative has been approved for 36 countries (mostly African), 32 of which have already passed completion point (four countries have reached decision point but are still completing the HIPC process). Another four countries are considered potentially eligible in the future, bringing the number of HIPCs to a total of 40. Table A1 lists all HIPCs according to their current respective statuses. Table A1: Classification of HIPCs (as of mid-December 2010)

Post-completion point HIPCs or ‘post-HIPCs’ (32)

Afghanistan Benin Bolivia Burkina Faso Burundi Cameroon Central African Republic Congo, Rep. Congo, Dem. Rep. Ethiopia The Gambia

Ghana Guinea-Bissau Guyana Haiti Honduras Liberia Madagascar Malawi Mali Mauritania Mozambique

Nicaragua Niger Rwanda São Tomé and Príncipe Senegal Sierra Leone Tanzania Togo Uganda Zambia

Post-decision point HIPCs or ‘interim-HIPCs’ (4)

Chad Côte d’Ivoire


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Comoros Guinea

Potentially eligible countries or ‘pre-HIPCs’ (4)

Eritrea Somalia

Kyrgyz Republic Sudan

Source: IMF website (2011)

The latest reports by IDA and IMF (2010) show that the Paris Club and the four largest multilateral creditors (IDA, IMF, African Development Bank and Inter-American Development Bank), which together account for about 74 percent of the total calculated cost under the HIPC Initiative (considering all 40 HIPCs), have provided almost their full share of HIPC debt relief. Overall participation by non-Paris Club bilateral creditors (representing an estimated 13 percent of the total cost) remains however low, at around 35-40 percent of their share and with great variety within this group of creditors. The contribution of commercial creditors (and a group of smaller multilateral creditors) to the initiative is less clear. Beyond-HIPC debt relief Almost all Paris Club creditors decided to ‘go the extra mile’ and deliver full 100% debt relief to their HIPC debtors, going beyond the prescribed Cologne terms.127 This put pressure on the IFIs to do the same. Following the 2005 G-8 summit in Gleneagles, the IMF, IDA and African Development Fund (AfDF) in 2006 agreed upon supplementing the HIPC Initiative with the Multilateral Debt Relief Initiative (MDRI) in which all remaining eligible debt owed to these three creditors would be forgiven for HIPCs having reached completion point (or would do so in the future). The MDRI has been framed as an effort to support the progress of HIPCs towards the Millennium Development Goals (MDGs) by freeing-up additional donor resources, more than as mechanism to ensure debt sustainability. In fact, debt burdens were already deemed to be sustainable after the original and enhanced HIPC Initiative. Importantly, and unlike the HIPC Initiative, the MDRI does not prescribe parallel debt relief by bilateral creditors (Paris Club or non-Paris Club), commercial creditors and multilateral institutions other than the three mentioned (although bilaterals do fully reimburse the costs of MDRI debt relief incurred by the IDA and AfDF and part of the costs to the IMF). In March 2007, however, the Inter-American Development Bank consented to cancel all its outstanding claims on five post-completion point HIPCs in the Western Hemisphere. The Paris Club also sought a more tailored and comprehensive response to the debt situation of middle-income countries and other non-HIPCs, leading to the adoption of the ‘Evian approach’ in October 2003. Under the Evian approach Paris Club creditors agreed to take into account issues of debt sustainability of non-HIPCs, based on IMF analyses but with discrete decision

127

For an comparative overview of these additional commitments, see Gueye et al., 2007: 22-25


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power resting with bilateral creditors, and to differentiate between liquidity and solvency problems. In case of the latter, debt relief would be determined on a case-by-case basis and executed through a multi-year three-stage process. Arguably, the Evian approach provided guidance for the extensive Paris Club debt treatments of Iraq (initiated in 2004) and Nigeria (2005), although political factors too certainly played an important role here. Both initiatives were very much driven by the G-8.

The debt of non-HIPCs and non-eligible debt titles of HIPCs have furthermore been subject to a new wave of bilateral debt swap operations between Paris Club members and their debtors. In fact, debt conversion has always been there on the debt relief scene. Nevertheless, one can observe a surge of new swap initiatives in recent years, with new proposals mushrooming in a variety of sectors (see main text). Also most recently, a number of other important initiatives complementary to debt relief efforts have been taken. A first example is the IMF-World Bank joint Debt Sustainability Framework (DSF) for low-income countries, active since April 2005. Under the DSF, debt ratios are monitored and stress-tests performed. A multi-scenario exercise serves at examining what would be the likely impact on the debt situation of these low-income countries in the advent of shocks. Second, in November 2008 the World Bank initiated the Debt Management Facility (DMF) for low-income countries, a multi-donor grant facility which aims at improving debt management capacity and preventing future debt problems through offering tools and special training. A third complementary initiative is the African Legal Support Facility (ALSF), set up by the African Development Bank mid-2009 to provide technical assistance to and build legal capacity in African HIPCs facing debt recovery lawsuits by so-called ‘vulture funds’. Such private funds buy bad debt titles at cheap prices on the secondary market and then attempt to recover face value in court. Several bilateral creditors, including the UK and Belgium, have also passed specific legislation restraining vulture fund activities.


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Appendix B: External debt structure by country HIPCs (40)

External PPG debt structure in current US$ millions at end-2009

Country name Multilat. Multilat.

conc. Bilateral Bilateral

conc. Comm. Bond Bank Other comm. TOTAL

TOTAL conc.

Afghanistan 1,111.7 1,111.7 1,090.4 979.3 0.4 0.0 0.0 0.4 2,202.5 2,091.0

Benin 801.5 799.0 188.1 186.2 0.0 0.0 0.0 0.0 989.6 985.3

Bolivia 1,978.5 1,222.1 482.1 463.2 84.1 0.0 73.3 10.8 2,544.7 1,685.2

Burkina Faso 1,402.3 1,397.5 303.0 288.9 19.6 0.0 0.0 19.6 1,724.8 1,686.4

Burundi 321.8 311.5 98.0 94.0 0.0 0.0 0.0 0.0 419.8 405.4

Cameroon 682.2 585.6 1,434.9 1,434.9 10.8 0.0 10.6 0.2 2,127.9 2,020.5

Central African Rep. 59.6 56.5 156.4 151.5 34.4 0.0 0.0 34.4 250.4 208.1

Congo, Dem. Rep. 4,186.5 2,966.7 6,309.6 4,467.1 291.8 0.0 0.4 291.5 10,788.0 7,433.7

Congo, Rep. 462.9 380.0 3,398.4 2,937.9 923.9 0.0 779.5 144.4 4,785.2 3,318.0

Ethiopia 2,310.4 2,179.3 1,242.8 1,033.5 1,259.1 0.0 0.0 1,259.1 4,812.4 3,212.7

Ghana 2,230.4 2,186.8 339.2 289.9 1,556.2 750.0 589.0 217.1 4,125.8 2,476.7

Guyana 447.9 435.3 312.1 285.4 21.0 0.0 3.5 17.5 781.0 720.6

Gambia, The 313.7 311.0 134.6 134.6 1.0 0.0 1.0 0.0 449.2 445.6

Haiti 519.8 519.8 557.7 557.7 0.0 0.0 0.0 0.0 1,077.5 1,077.5

Honduras 1,516.7 1,159.0 842.8 811.5 87.0 50.0 25.7 11.3 2,446.5 1,970.5

Liberia 154.5 137.1 501.8 493.5 20.5 0.0 20.5 0.0 676.8 630.7

Madagascar 1,446.8 1,420.7 392.5 217.5 6.8 0.0 5.9 0.9 1,846.1 1,638.2

Malawi 539.8 517.3 349.5 349.5 10.1 0.0 10.1 0.0 899.4 866.8

Mali 1,503.9 1,447.4 1,080.9 1,063.0 6.9 0.0 6.9 0.0 2,591.6 2,510.3

Mauritania 1,113.5 1,006.2 724.7 626.7 12.4 0.0 12.4 0.0 1,850.6 1,632.9

Mozambique 1,996.0 1,951.0 1,329.8 1,212.0 28.5 0.0 0.0 28.5 3,354.3 3,163.0

Nicaragua 1,447.6 1,345.2 1,009.5 677.0 3.5 0.0 0.1 3.4 2,460.6 2,022.2

Niger 684.4 677.6 224.9 224.5 0.0 0.0 0.0 0.0 909.3 902.1

Rwanda 631.3 631.3 94.1 94.1 0.0 0.0 0.0 0.0 725.5 725.5

Sao Tome and Principe 43.3 38.5 128.3 115.4 0.0 0.0 0.0 0.0 171.6 154.0

Senegal 1,810.0 1,732.2 949.1 763.6 201.9 200.0 1.9 0.0 2,960.9 2,495.8

Sierra Leone 308.2 301.2 62.7 62.2 0.0 0.0 0.0 0.0 370.9 363.4

Tanzania 3,573.2 3,456.5 946.6 783.5 117.6 0.0 58.8 58.9 4,637.4 4,240.0

Uganda 2,017.2 1,945.8 203.1 163.6 24.7 0.0 0.2 24.5 2,245.0 2,109.4

Zambia 881.1 746.8 222.0 161.9 107.0 0.0 60.7 46.3 1,210.1 908.7

Comoros 214.6 214.6 49.2 49.2 0.0 0.0 0.0 0.0 263.8 263.8

Cote d'Ivoire 2,373.6 2,150.0 6,540.2 3,602.4 2,065.1 1,930.7 134.4 0.1 10,979.0 5,752.5

Chad 1,479.4 1,451.4 199.2 164.3 32.5 0.0 0.1 32.4 1,711.2 1,615.6

Guinea 1,826.9 1,787.3 965.5 818.4 34.8 0.0 22.8 12.0 2,827.3 2,605.7

Guinea-Bissau 506.7 499.3 443.0 417.5 0.0 0.0 0.0 0.0 949.7 916.8

Togo 836.9 829.2 664.6 468.9 0.0 0.0 0.0 0.0 1,501.5 1,298.1

Eritrea 657.5 653.7 314.6 234.6 40.9 0.0 0.0 40.9 1,013.0 888.2


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Kyrgyz Republic 1,309.5 1,306.0 1,010.0 1,010.0 0.0 0.0 0.0 0.0 2,319.5 2,316.0

Somalia 805.3 783.8 1,144.5 827.4 37.7 0.0 0.0 37.7 1,987.5 1,611.1

Sudan 3,153.9 2,990.1 7,395.1 3,897.5 2,448.6 0.0 1,944.9 503.7 12,997.6 6,887.6

ALL HIPCs 49,660.9 45,641.9 43,835.7 32,613.8 9,488.8 2,930.7 3,762.6 2,795.6 102,985.5 78,255.7

Other LICs (10)





TOTAL conc.

Bangladesh 18,376.4 17,230.6 2,745.7 2,731.9 84.3 0.0 14.5 69.8 21,206.3 19,962.5

Cambodia 1,501.4 1,501.4 2,598.0 2,587.7 0.0 0.0 0.0 0.0 4,099.4 4,089.1

Kenya 3,861.5 3,808.3 2,330.1 2,175.7 351.6 0.0 243.2 108.4 6,543.2 5,984.1

Korea, Dem. Rep. n/a n/a n/a n/a n/a n/a n/a n/a n/a n/a

Lao PDR 2,002.8 1,984.6 920.0 920.0 0.0 0.0 0.0 0.0 2,922.8 2,904.6

Myanmar 1,340.8 1,340.8 4,003.7 3,875.1 975.5 0.0 546.2 429.4 6,320.1 5,216.0

Nepal 3,210.6 3,210.6 348.7 348.7 3.7 0.0 0.0 3.7 3,563.0 3,559.2

Solomon Islands 111.5 109.6 21.2 21.2 0.2 0.0 0.0 0.2 132.9 130.8

Tajikistan 826.2 810.7 776.9 776.9 0.0 0.0 0.0 0.0 1,603.0 1,587.5

Zimbabwe 1,618.7 662.8 1,677.0 1,254.5 446.1 0.0 279.3 166.8 3,741.8 1,917.3

ALL OTHER LICs 32,849.8 30,659.3 15,421.2 14,691.8 1,861.5 0.0 1,083.2 778.3 50,132.5 45,351.1

Other LMIC (46)





TOTAL conc.

Angola 440.9 440.1 4,379.0 3,927.6 8,901.9 0.0 7,953.3 948.6 13,721.8 4,367.7

Armenia 1,426.8 1,372.0 948.2 948.2 1.4 0.0 0.0 1.4 2,376.3 2,320.2

Belize 245.4 74.5 162.0 150.4 655.2 21.0 634.2 0.1 1,062.7 224.9

Bhutan 286.0 277.9 476.4 81.6 0.0 0.0 0.0 0.0 762.4 359.5

Cape Verde 532.4 492.4 155.8 153.4 6.5 0.0 0.2 6.3 694.7 645.8

China 33,156.2 9,521.0 34,923.0 33,547.8 25,046.0 10,826.0 2,735.0 11,485.0 93,125.2 43,068.8

Djibouti 403.1 398.0 313.6 304.3 15.2 0.0 15.2 0.0 731.9 702.3

Ecuador 4,336.2 899.2 1,509.0 1,010.1 1,065.1 873.2 134.0 57.9 6,910.3 1,909.3

Egypt, Arab Rep. 8,413.2 3,171.9 19,915.3 18,417.4 2,293.5 1,883.3 325.5 84.7 30,621.9 21,589.3

El Salvador 3,199.7 464.9 667.4 653.3 2,263.9 2,173.7 66.2 24.1 6,131.0 1,118.2

Georgia 1,535.3 1,406.5 559.7 559.5 501.0 500.0 0.0 1.0 2,596.0 1,966.0

Guatemala 3,619.9 392.9 355.9 352.6 955.0 955.0 0.0 0.0 4,930.9 745.5

India 41,486.1 26,393.6 22,779.7 21,039.8 12,265.1 5,542.2 6,624.8 98.1 76,530.9 47,433.5

Indonesia 21,052.4 3,500.6 42,271.6 40,076.6 22,696.2 14,344.2 5,810.0 2,542.1 86,020.3 43,577.3

Iraq n/a n/a n/a n/a n/a n/a n/a n/a n/a n/a

Jordan 2,361.4 828.9 2,739.7 2,677.1 343.8 181.2 11.7 150.9 5,444.8 3,506.1

Kiribati n/a n/a n/a n/a n/a n/a n/a n/a n/a n/a

Kosovo 358.5 0.0 0.0 0.0 0.0 0.0 0.0 0.0 358.5 0.0

Lesotho 607.3 577.5 60.3 57.8 13.6 0.0 13.0 0.6 681.1 635.3


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Maldives 288.4 206.3 183.5 72.5 97.5 0.0 97.5 0.0 569.4 278.8

Marshall Islands n/a n/a n/a n/a n/a n/a n/a n/a n/a n/a

Micronesia, Fed. Sts. n/a n/a n/a n/a n/a n/a n/a n/a n/a n/a

Moldova 514.3 369.1 264.7 132.2 3.6 0.0 3.6 0.0 782.6 501.3

Mongolia 1,069.4 1,069.4 663.7 663.7 84.0 75.0 0.0 9.0 1,817.1 1,733.1

Morocco 10,020.7 1,825.4 6,693.7 6,208.7 2,504.2 0.0 2,258.7 245.4 19,218.5 8,034.2

Nigeria 3,391.1 3,078.6 492.3 400.4 273.1 0.0 82.8 190.3 4,156.5 3,479.0

Pakistan 23,506.3 17,019.1 15,590.8 14,580.0 2,386.5 2,150.0 75.2 161.3 41,483.6 31,599.0

Papua New Guinea 724.0 436.3 276.4 271.4 36.5 0.0 3.3 33.2 1,036.9 707.7

Paraguay 1,398.0 356.7 627.7 542.2 282.0 0.0 274.8 7.1 2,307.7 899.0

Philippines 8,447.7 1,162.3 13,611.3 13,272.4 19,679.4 18,522.4 800.4 356.6 41,738.4 14,434.6

Samoa 180.1 179.8 46.3 46.3 0.0 0.0 0.0 0.0 226.4 226.1

Sri Lanka 5,875.0 5,325.7 6,053.8 5,778.4 1,718.0 1,000.0 647.8 70.2 13,646.8 11,104.1

Swaziland 254.7 93.8 115.8 75.0 20.3 0.0 20.3 0.0 390.8 168.8

Syrian Arab Republic 1,656.6 954.8 2,823.8 2,775.9 0.0 0.0 0.0 0.0 4,480.4 3,730.7

Thailand 208.4 74.6 6,260.6 6,226.8 4,715.8 1,754.0 2,817.7 144.1 11,184.8 6,301.4

Timor-Leste n/a n/a n/a n/a n/a n/a n/a n/a n/a n/a

Tonga 72.8 72.5 30.8 30.8 0.9 0.0 0.0 0.9 104.5 103.3

Tunisia 6,511.5 1,231.8 3,447.6 3,293.7 4,877.6 3,776.2 993.9 107.4 14,836.6 4,525.5

Turkmenistan 17.4 0.0 392.1 390.5 53.9 0.0 42.3 11.5 463.3 390.5

Tuvalu n/a n/a n/a n/a n/a n/a n/a n/a n/a n/a

Ukraine 4,237.4 0.0 1,546.9 1,357.2 4,664.8 3,120.7 526.9 1,017.1 10,449.0 1,357.2

Uzbekistan 1,065.0 203.4 1,843.0 1,764.6 329.9 0.0 73.3 256.5 3,237.9 1,968.0

Vanuatu 68.6 65.4 30.2 30.2 0.0 0.0 0.0 0.0 98.8 95.6

Vietnam 10,311.9 9,497.5 11,346.4 10,895.9 1,745.1 1,041.1 585.0 119.0 23,403.4 20,393.4

West Bank and Gaza n/a n/a n/a n/a n/a n/a n/a n/a n/a n/a

Yemen, Rep. 3,158.8 3,158.8 2,697.7 2,683.6 4.8 0.0 4.8 0.0 5,861.2 5,842.4

ALL OTHER LMICs 206,438.9 96,593.1 207,255.5 195,450.

1 120,501.

0 68,739.2 33,631.

3 18,130.5 534,195.4 292,043.2

Source: World Bank Global Development Finance online database (2011); Acronyms: PPG = public and publicly guaranteed, HIPC = Heavily Indebted Poor Country, LIC = low-income country, LMIC = lower middle-income country.


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Appendix C – Summary of AMF Pension Fund Survey The graphs shown below are the result of a census conducted by AMF of pension fund assets in 45 emerging economies spanning Africa, Asia, Central and Eastern Europe (CEE), and Latin America. This census was by no means meant to be an exhaustive study of all potential developing country pension funds, nor was it meant to be an exhaustive study of each country. Rather, the goal was to determine the general state of pension funds in emerging markets in an effort to understand their potential to contribute to the development of their own domestic economies. With this in mind, the AMF team conducted Internet-based research on each country. When possible, consolidated sources of information were supplemented with data from national regulatory bodies, pension fund administrators, and associations. For many countries, consolidated resources were unavailable; in these cases country-specific sources were used. Due to the variety and disparity between countries, data may represent different years and/or discrepancies in reporting methodology. The lack of readily available and recent data was particularly acute in many African countries resulting, in most cases, only rough estimates of pension assets.


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Appendix D – An Example A hypothetical example of the financial flows behind Debt Conversion Development Bonds (DCDBs) for a developing country is provided in the accompanying spreadsheet. The top portion of the spreadsheet shows the amounts of debt being written off by eight creditors (A through H). To the right of each debt are shown the annual debt service payments remaining to be paid on each debt. The remaining payments extend out from eight to twenty-five years. For simplicity it is assumed that all have the same 7% annual interest rate. The total debt service payments that are written off total $37.2 million the first year and the annual amounts begin declining after the eighth year. It is assumed in this example that the creditors are offering no discounts on the amounts of counterpart funds that the recipient country is obligated to place into the Debt Conversion Fund (DCF) in its Central Bank. However, these funds are in local currency rather than foreign currency. This difference is indicated in the spreadsheet by showing all local currency financial flows in italics. The lower portion of the spreadsheet shows how the recipient government can issue bonds of various tenors in a way that the annual debt service payments on these bonds would not exceed the funds available in the DCF at any time. These bonds would carry local capital market-based interest rates, varying with the tenor of the bonds to reflect a normal yield curve of higher rates for longer tenors. It is assumed that it would be possible for the government to issue bonds with tenors up to twenty years. A range of tenors is used as this would likely be appropriate to match market demand for such bonds. (Different investors had needs for bonds of different maturities. Banks, for example would be purchasers of the five and perhaps some ten year bonds, but not the fifteen and twenty year bonds. Pension funds and insurance companies would likely purchase primarily the ten to twenty year bonds.) In this example two bonds totaling $100 million are issued initially. As the annual debt service payment on these is $15.5 million while the government is obligated to place the $37.2 million into the DCF (the amount saved from not making debt service payments on the bonds written off by the donors), this allows a balance of $21.8 million to build up in the DCF. In this example the flows into and out of the DCF are managed so as to ensure that the balance of funds held in the account does not drop below the amount of the annual debt service payments. (In fact in this example, the balance is considerably higher than this at times. And since this balance should earn interest, which has not been included in this example, the ratio would be even higher.) Given the domestic bonds have generally shorter tenors than the remaining maturities of the bonds written off by the donors, the government can then issue additional bonds over time. In the example $50 million of twenty year maturity bonds being issued the second year, $40 million of five year bonds the third year, $40 million of twenty year bonds in the sixth year, $30


80

million of ten year bonds in the eighth year and $50 million of fifteen year bonds in the eleventh year. Thus the government is able to issue a total of $310 million in domestic bonds. At the end of the twenty five year period the DCF would have a balance of $43.4 million. The sum of the debt service payments on the domestic bonds issued and the remaining balance in the DCF equals the total of the counterpart funds placed into the account over the twenty five years ($731.5 million). It should be noted that while the funds obtained through the issuance of domestic bonds should also be placed in the DCF until they are allocated to specific development programs and projects, these flows into and out of the DCF have not been shown in this example.




83

Appendix E – Interviewee List To gather ideas and information for this study the AMF team interviewed a number of individuals with deep experience in a wide range of topics including education policy, debt relief, innovative finance, and aid effectiveness/monitoring/evaluation. The team thanks all of the following interview participants for taking the time to graciously answer our questions.

Interviewee Organization

Sarah Beardmore Results.org

Nick Burnett Results For Development

Mark Bray Hong Kong University

Fadila Cailaud The World Bank

Robert Collin French Ministry of Foreign Affairs

Laurent Cortese Education for All Fast Track Initiative

Christopher Egerton-Warburton Lion's Head Partners

Robert Filipp Global Fund

David Gartner Brookings Institution

Michael Klingberg German Federal Ministry for Economic Cooperation & Development (BMZ)

Suhas Ketkar University of Vanderbilt

Akanksha Marpathia Action Aid

Harry Patrinos The World Bank

Rita Perakis Center for Global Development

Maria Vidales Picazo Spanish Ministry of Economy and Finance

Tim Ryan International Finance Corporation

Tal Sagorsky EFA Fast Track Initiative

William Savedoff Center for Global Development


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Elisabeth Sandor OECD

Aleesha Taylor Open Society Institute

Charles Tapp Education for All Fast Track Initiative

Justin Van Fleet Brookings Institution

N.V. Varghese IIEP-UNESCO

Christiaan Walstock Private Wealth Manager

Jamie Zimmerman New America Foundation


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Documents

Debt Swaps and Debt Conversion Development Bonds for Educationunesdoc.unesco.org/images/0021/002111/211162e.pdf · by El Salvador and Spain. ... Lead Education Economist, World Bank,