Public Information Notice No. 05/164

Public Information Notice: IMF Executive Board Agrees on Implementation Modalities for the Multilateral Debt Relief Initiative

December 8, 2005

On November 7, 2005 the Executive Board of the IMF reached consensus on the implementation modalities in the Fund of the proposal for debt relief initially advanced by the G-8, and decided to call it the Multilateral Debt Relief Initiative (MDRI). The MDRI will provide debt relief to member countries with an annual per capita income at or below $380, and to Heavily Indebted Poor Countries (HIPCs) above that threshold, with respect to the stock of their debt to the Fund (including to the Fund as Trustee) disbursed as of end-2004 that remains outstanding when the country qualifies for debt relief. The Board approved the requisite decisions to implement the MDRI on November 23, 2005. The delivery of MDRI relief now hinges on the consent of the 43 members that have made contributions to the Subsidy Account of the Poverty Reduction and Growth Facility (PRGF) Trust, whose consents are needed to make the MDRI operational, and on separate Board decisions confirming the qualification of eligible members following the country's request to benefit from the Initiative.

Background

The G-8 proposed that the IMF, the International Development Association (IDA), and the African Development Fund (AfDF) cancel 100 percent of their claims on countries having reached, or upon reaching, the completion point under the enhanced HIPC Initiative.¹ The proposal was initially presented in the G-8 Finance Ministers' Conclusions on Development, issued on June 11, 2005, and reaffirmed in the statement on Africa signed by G-8 Heads of State and Government at the Gleneagles Summit on July 8, 2005.

The proposal aims at completing the process of debt relief for HIPCs by providing additional resources to help these countries, most of which are in Africa, reach the Millennium Development Goals (MDGs). At the same time, G-8 countries committed to ensure that the financial capacity of the international financial institutions (IFIs) is not reduced as the result of debt relief. The cost of debt relief to IDA and the AfDF is to be met by bilateral contributions based on agreed burden sharing; the cost to the Fund is to be covered through the institution's own resources, with a call for bilateral contributions to cover additional needs. The G-8 is committed to cover, on a fair burden sharing basis, the cost of debt relief for countries that may become eligible for the HIPC initiative under the extended sunset clause.² The G-8 also committed that donors would provide the extra resources necessary for full debt relief at completion point for the three protracted arrears cases (Liberia, Somalia, and Sudan).

Before reaching its decisions, the Executive Board held several meetings to discuss the G-8 proposal and its financial, legal, and policy implications for the Fund. To this end, the staff prepared a number of papers, which covered inter-related issues regarding the uniformity of treatment of members, burden sharing, conditionality, as well as the cost of the proposal and its financing, the impact on the IMF's income position and its balance sheet, and the size and modalities of the Fund's future concessional lending. They build on previous staff work on debt relief (see Further Debt Relief for Low-Income Countries-Key Issues and Preliminary Considerations, March 2005).

Executive Board Assessment

The adoption by the Executive Board of the decisions to implement the MDRI marks an important step in strengthening the Fund's ability to assist its poorest member countries in addressing their protracted balance of payments problems and reach the MDGs. This initiative will be a valuable complement to three other elements recently discussed by the Board-namely, the new Policy Support Instrument (PSI); the establishment of a new Exogenous Shocks Facility (ESF) within the PRGF Trust; and financing modalities for the PRGF. All four are integral elements of efforts to further enhance the IMF's support for low-income member countries (LICs).

Eligibility

Directors had a wide-ranging discussion on how the G-8 proposal should be assessed in relation to the principle of uniformity of treatment of members, given that it calls for the use of resources in the Fund's Special Disbursement Account (SDA) to grant full debt relief to a limited set of member countries. Many Directors stressed that the G-8 proposal is aimed at deepening the HIPC Initiative, and should be seen in that context. They reiterated that HIPC Initiative eligibility is based on a set of objective criteria that are in accordance with the principle of uniformity of treatment.

At the same time, many other Directors felt that the G-8 proposal raised concerns with respect to the principle of uniformity of treatment. They were doubtful whether HIPCs, after having reached their completion points, would face a balance of payments problem different from that faced by other LICs. Some Directors were also concerned that the provision of further debt relief to a selected group of LICs could affect incentives for those excluded to continue with good debt management policies.

In light of these considerations, some Directors suggested that the resource envelope identified by the G-8 could be distributed to LICs on the basis of more relevant economic criteria, such as their per capita income or their debt position relative to the thresholds under the new Debt Sustainability Framework (DSF). Some Directors also recommended a broadening of the coverage of the G-8 proposal to all PRGF-eligible, IDA-only members. They emphasized, however, that achieving this outcome without undermining the IMF's financing capacity would require the mobilization of additional financing, including possible voluntary contributions.

In arriving at the decision on the MDRI, Directors concurred with staff's approach of ensuring uniformity of treatment by providing debt relief to members on the basis of a per capita income eligibility criterion and endorsed the choice of a $380 per capita income cutoff. Directors agreed that SDA resources, which the Fund can use to provide balance of payments assistance on special terms, including grants, to developing members in difficult circumstances, would be used to provide debt relief under the MDRI to member countries (including non-HIPCs) with incomes at or below that income cutoff. In response to a request from contributors, Directors agreed that third-party contributor resources held in the Subsidy Account of the PRGF Trust could be used to provide MDRI debt relief to HIPCs that have per capita incomes above that threshold, subject to the consent of all contributors. This arrangement balances the use of resources in the SDA and of third-party contributor resources in a manner that minimizes the need for additional resources, thereby maintaining the Fund's future concessional lending capacity.

Directors reaffirmed that the cutoff date on eligible debt under the MDRI should be end-2004 for all qualifying members, but the effective delivery date for debt relief would be decided on a case-by-case basis. The 18 HIPCs that have reached completion point (Benin, Bolivia, Burkina Faso, Ethiopia, Ghana, Guyana, Honduras, Madagascar, Mali, Mauritania, Mozambique, Nicaragua, Niger, Rwanda, Senegal, Tanzania, Uganda and Zambia) and the two non-HIPCs (Cambodia and Tajikistan) eligible under the initiative could benefit from MDRI relief at the beginning of 2006, subject to the Board's confirmation of their qualification for such relief (see Table 1). The other HIPCs that have not yet reached their completion points would become eligible for MDRI relief upon reaching the completion point. Directors emphasized that the commencement of debt relief operations at the beginning of 2006 would hinge critically on obtaining timely consents from all contributors to the Subsidy Account of the PRGF Trust.

Directors considered staff's proposed options for addressing the three protracted arrears cases in the context of the MDRI. Given the complexity of the issue, Directors asked staff to give further thought to potential financing and policy implications for these cases, and looked forward to a follow-up paper on these issues.

Qualification for MDRI Relief

Directors discussed possible conditions that could be attached to the provision of further debt relief from the Fund. Many Directors initially considered that debt relief be provided on conditions already in place: first, that HIPCs reach the completion point under the HIPC Initiative; second, that countries that have already reached the completion point must be current with their repayment obligations to the Fund and must not have experienced serious lapses, including in governance, such that their IMF-supported programs would be at risk.

In reaching a conclusion, Directors stressed that conditions to qualify for debt relief under the MDRI should be consistent for pre- and post-completion-point HIPCs, as well as for non-HIPCs. In this regard, most Directors agreed that, to benefit from MDRI debt relief, post-completion point HIPCs' performance in three key areas should not have deteriorated substantially since the time the completion point was reached. These areas are: (i) macroeconomic performance; (ii) implementation of a poverty reduction strategy or a similar framework; and (iii) public expenditure management systems. Directors agreed that for HIPCs, a minimum six-month track record of satisfactory macroeconomic performance and implementation of poverty reduction policies would be needed to qualify for debt relief. For countries with a Fund arrangement in place, the assessment would be based on the outcome of the latest review under the program, assuming that it was completed less than six months earlier. As is the case in the HIPC Initiative, the qualification criteria should be used flexibly, taking into account a country's specific circumstances.

For non-HIPCs eligible for MDRI debt relief from the Fund, satisfactory performance in the same three areas should be a requirement. Directors' views were divided between those who felt that non-HIPCs are closer in circumstances to post-completion-point than to pre-completion-point HIPCs, and that entry conditionality should be designed accordingly; and those who called for non-HIPCs to be required to demonstrate the same track record of strong policy actions meeting the standard of upper credit tranche conditionality as is required of HIPCs to receive debt relief. Finally, Directors agreed that the specific qualification requirements for non-HIPCs will be: (i) a track record of at least 6 months of sound macroeconomic policies and satisfactory implementation of a poverty reduction strategy (or equivalent framework) in the period immediately prior to the assessment, and (ii) an assessment that the quality of public expenditure management (PEM) systems would allow resources freed by the debt relief to help meet the MDGs. Directors noted that, unlike HIPCs, for non HIPCs no comprehensive assessment of their PEM systems has been undertaken. They underscored that performance in the area of PEM systems should be assessed drawing from a variety of sources to ascertain that PEM systems in these countries are, and are expected to remain, sufficiently strong to provide comfort that resources freed will be used productively. Should a country fail that test, staff would propose remedial actions involving a sustained strengthening of PEM systems.

Directors requested that, by end-2005, staff prepare, in collaboration with the World Bank, an assessment of the 18 post-completion point HIPCs, as well as eligible non-HIPCs, and propose for Board consideration a list of members that would qualify immediately for MDRI debt relief. Corrective actions should be proposed for post-completion point HIPCs whose performance has deteriorated substantially in any of the three areas since they reached their completion points, or for non-HIPCs whose performance in these areas is unsatisfactory. For these member countries, qualification for MDRI relief would be reassessed once these remedial measures have been implemented.

Delivery of Relief and Post-Relief Monitoring

Many Directors supported the proposal that debt relief be irrevocable and delivered up front. They agreed that the MDRI should be implemented so as to allow early repayment of the full stock of eligible debt owed to the Fund once the countries qualify for such relief. This approach would closely align with the intention of the initiators of the MDRI and the expectations of qualifying countries. Under this approach, the MDRI would be implemented over a relatively brief period. This would minimize accounting and investment issues, and therefore administrative costs and risks, for the Fund. Directors agreed that, to be consistent with this approach, financial assistance provided under the HIPC Initiative at completion point should be delivered in a similar manner. Some Directors considered that phased debt relief for post-HIPCs or non-HIPCs would better ensure that freed-up resources are used productively in pursuit of the MDGs. Some other Directors suggested the use of ongoing conditionality, linked to the successful implementation of a Fund-supported program, to help ensure that the freed resources are spent in support of the MDGs.

Directors called on the Fund and the World Bank to cooperate and coordinate in the implementation of the MDRI, particularly in the areas of assessing qualification for MDRI relief and monitoring and reporting on MDG-related spending after provision of debt relief.

Most Directors agreed with the modalities proposed for post-debt relief monitoring, while acknowledging the challenges, given the fungibility of resources. They requested that progress reports on the implementation of the MDRI (including status reports on all members benefiting from MDRI) be presented to the Board before the 2006 Spring and Annual Meetings. They agreed that subsequent MDRI status reports would be included in regular joint Bank-Fund HIPC Initiative status reports.

Cost and Financing

Directors noted that the overall cost of the MDRI for the Fund's finances, excluding the two non-HIPCs, potential sunset clause HIPCs, and protracted arrears cases, would be about SDR 3.4 billion (about US$4.8 billion), to be financed by resources in the HIPC Umbrella Account, the SDA, and bilateral contributor resources in the Subsidy Account of the PRGF Trust. Part of this cost is already being financed through the HIPC Initiative; the incremental cost is about SDR 2.1 billion. Additional bilateral contributions would be expected to cover the costs associated with HIPC and MDRI debt relief for the sunset clause and protracted arrears cases.

Directors noted that the overall cost of the Initiative for the Fund reflected, inter alia, the list of eligible countries, the debt to be covered, and the choice of cut-off and implementation dates. Many Directors noted that debt relief will not be provided under the MDRI before a country reaches the completion point under the enhanced HIPC Initiative, which lowers the overall cost of the MDRI compared to that initially estimated by the staff based on an assumed implementation date of end-2005. Other Directors expressed concern that the benefit of the MDRI could be significantly reduced for countries that are expected to make significant repayments to the Fund before they reach completion point.

The Executive Board decided to amend existing decisions and adopt new decisions regarding the use of SDA resources. Specifically, the Board authorized the use of a portion of the corpus of the 1999-2000 off-market gold transactions (and not only the investment income, as is currently the case) to provide debt relief under the HIPC Initiative for all qualifying countries. In addition, the Board authorized the transfer of part of these resources to a new MDRI-I Trust to provide MDRI relief for PRGF-eligible members with per capita income at or below $380; and the transfer of remaining SDA resources (after HIPC and the transfer to the MDRI-I Trust) to the Subsidy Account of the PRGF Trust.

The Executive Board also decided to amend the Subsidy Account provisions of the PRGF Trust to allow for transfer of resources contributed by bilateral contributors from the Subsidy Account of the PRGF Trust to provide MDRI debt relief to those HIPCs that have per capita incomes above $380. To become effective, this amendment will require the consent of all 43 bilateral contributors.³ The Executive Board decided to establish a separate trust, the MDRI-II Trust, into which the bilateral contributions from the Subsidy Account of the PRGF Trust could be transferred. Additional modalities could be considered for receiving new contributions needed to cover costs associated with debt relief to potential sunset-clause and protracted-arrears countries. Directors urged bilateral contributors to the Subsidy Account of the PRGF Trust to consent to the needed amendment to the PRGF Trust expeditiously. This would enable the Fund to provide debt relief to member countries that meet all criteria for debt relief under the Initiative by the start of 2006. To address the possibility that a contributor may not wish to consent to such amendments, the Executive Board authorized the Managing Director to return the remaining resources attributable to such dissenting contributor in full.

Directors noted that the MDRI would preserve the resources in the Reserve Account of the PRGF Trust, but that the reallocation of bilateral contributions to the MDRI-II Trust would reduce the available subsidy resources for existing and future interim PRGF loans. Directors reaffirmed the importance of maintaining adequate resources to meet future demand under the PRGF, as well as the financing needs associated with the ESF. Against this background, Directors welcomed the G-8 commitment to ensure that the financial capacity of the Fund is not undermined as a result of debt relief. They asked staff to assess precisely the longer-term implications of using the Fund's own resources, both for the institution's ability to continue to provide financial support to low-income countries but also to ensure its overall financial integrity. In this context, some Directors also suggested that staff look into possible investment of the profits from a limited sale of IMF gold.

Directors took note of the staff's estimate that additional subsidy contributions of about SDR 210 million (about $297 million) in end-2005 NPV terms would be needed to allow the full use of the available loan resources under the interim PRGF (though there remains some uncertainty over the potential additional costs of including the two non-HIPC countries). In this context, they welcomed the G-8's commitment to provide an additional subsidy contribution of SDR 100 million (about $143 million), and to consider dealing with the potential additional costs of including Tajikistan and Cambodia, if and when they arise, consistent with their commitment to ensure that the financing capacity of the Fund is not reduced. Directors welcomed the G-8 commitment that donors would provide the extra resources necessary for full debt relief at completion point for the three protracted arrears cases. Directors also welcomed the G-8 commitment to cover, on a fair burden sharing basis, the cost of debt relief for countries that may become eligible for the HIPC Initiative under the extended sunset clause.

Directors considered the modalities of the Fund's concessional operations involving the use of the Reserve Account of the PRGF Trust over the medium term. Most Directors were of the view that the proposed approach to maintain the current framework beyond the interim period would seem appropriate and should be pursued. Directors generally saw flexibility in addressing uneven demand for the Fund's concessional lending as the main advantage of this approach.

Directors asked staff to explore available options for reimbursing the General Resources Account (GRA) for SDA-related administrative expenses of the PRGF. They noted that there is no intention to change, as a result of the MDRI, the current burden-sharing arrangements for mitigating the effect of the 1999-2000 off-market gold transactions and, hence, that there should be no impact on the rate of charge applicable to the use of GRA resources.

The MDRI and the Fund's Role in LICs

Directors agreed that debt relief under the MDRI by the IMF should be part of an effort to strengthen the institution's role in supporting LICs. The IMF must remain fully equipped to advise and assist members in the design of macroeconomic stabilization and structural reforms, in capacity building, and in the provision of financing, whether in response to shocks or to address remaining or emergent protracted balance of payments problems. In this context, Directors emphasized the importance of preserving the Fund's financing capacity, including for those LICs that would not benefit from debt relief.

Directors saw a rationale for continued IMF lending to countries having benefited from debt relief, but held different views on how the MDRI would affect the demand for Fund financial support from HIPCs. They agreed that the demand for PRGF resources from pre-decision point HIPCs is unlikely to be affected significantly by the MDRI. For countries having reached the HIPC Initiative decision point, PRGF-supported programs will remain a key instrument of support for reaching the completion point. At the same time, many Directors stressed that post-completion point HIPCs can be expected to have a reduced financing need following debt relief, thereby reducing their demand for IMF resources, in particular in the context of the interim PRGF. Other Directors emphasized that this may not be a lasting outcome, if the resources freed up by debt relief are spent in support of the MDGs.

Directors saw the PSI and the ESF as important complements to regular PRGF financing in addressing the varied needs of LICs. Many Directors thought that the PRGF would remain the appropriate form of Fund engagement with many HIPCs after the completion point, given that many of these countries have not reached sustained macroeconomic stability and have an important unfinished structural reform agenda. They underscored that the PSI was intended to meet the needs of mature stabilizers, and would not necessarily meet the requirements of all countries that have benefited from debt relief under the MDRI. Other Directors thought that many members benefiting from debt relief would be interested in the PSI. Directors agreed that the appropriate form of IMF engagement with low-income members should continue to be determined on a case-by-case basis.

Directors noted that official financing by multilateral creditors, and grants provided by donors, will likely remain the most attractive financing vehicle for LICs, even after debt relief. They stressed that the IMF will continue to play an important role in the design of policies in the context of both surveillance and program support.

Most Directors were of the view that an adjustment of the DSF in light of the MDRI would be premature at this stage. However, a few Directors believed that consideration of such an adjustment should not be postponed, in view of the crucial importance of avoiding a re-accumulation of unsustainable debt after debt relief. Some Directors considered existing safeguards in the context of Fund-supported programs, and the case-by-case approach to new borrowing embedded in macroeconomic frameworks, to be appropriate tools to prevent excessive debt accumulation after debt relief. Other Directors thought that mechanisms compatible with the DSF may be warranted to prevent this outcome. On balance, Directors agreed to consider the impact of further debt relief on debt sustainability assessments in the context of the forthcoming review of the application of the DSF.