The Debt CrisisJustin Frewen

Between 1970 and 2002, the Continent of Africa received some US$540 billion in loans.Despite repaying some US$550 billion in principal and interest over the same period,there was still some US$295 billion outstanding. In 2005, as a result of its outstandingdebt, Kenya was obliged to spend as much on the servicing of its debt as it allocated tohealth, water, roads, agriculture, transport and finance combined. Indonesia, whose debtwas largely run up by previous dictators, used up almost 25% of its budget on debtservice, some four times its combined spending on health and education.So, how did this debt crisis arise and what if anything can be done to tackle it?The origins of the current debt crisis can be traced back to the 1970s. In 1973, theOrganization of Petroleum Exporting Countries (OPEC) quadrupled the price of oil inresponse to the North¶s (Northern Hemisphere) backing for Israel. Given the relativelyinelastic demand for oil, particularly in the North, OPEC accumulated vast profits,generally stored in US dollars, commonly known as petro-dollars. Large banks in theNorth were inundated with these petro-dollars and were faced with the dilemma of where and how to invest them at a profit. Given the slackening growth in the North,states in the South were actively encouraged by these banks to take out loans.The effects of this policy can be seen in the massive rise in borrowing by states in theSouth that led to a twelve-fold rise in their debt burden between 1968 and 1980.However, as long as the interest rates on the loans contracted remained low and thedebtor countries earned sufficient export-based revenues to cover their repayments, thedebt incurred remained sustainable.Initially, the interest rates were relatively low in the region of 4-5% but at the turn of the 1980s this all changed as the interest rates began to soar upwards. Within arelatively short period, they went as high as 16-18% and debtor states found themselveshaving to allocate three times as much to cover their debt. Most importantly, thisimposition of higher rates was completely one-sided. It was imposed by the North on theloans the South had taken out. The South had no input or chance to challenge thismassive increase in their debt burden.This situation was aggravated by the fact that the loans were denominated in µhard¶ currencies, such as the US dollar, Japanese yen and Swiss franc. These currencies tendto remain relatively stable over time. On the other hand, the borrower countries had µsoft¶ currencies, which frequently depreciate in value. As a result, they had to devoteever increasing quantities of their currency to purchase the hard currency necessary torepay the same amount of debt.The difficulty in meeting debt repayment obligations, provoked by these interestincreases, was compounded by the decline in the value of the South¶s raw materials andagricultural exports. Debtor countries now had to radically increase their exports of primary produce and raw materials. However, as demand in the North remainedrelatively stable, this led to a flooding of the international market in a range of commodities. The resulting glut and over-supply led to a severe fall in their prices. Totake just a few examples, between 1980 and 2001 the price of coffee fell from 411.7cents/kg to 63.3 cents/kg, sugar from 80.17cents/kg to 19.9 cents/kg, lead from 115cents/kg to 49.6 cents/kg, and palm oil from 740.9 cents/kg to 297.8 cents/kg. As aresult, the South was left unable to access sufficient foreign currency to repay theirloans.

Unable to cover their debt repayments, states in the South frequently found themselvesobliged to resort to the tender mercies of the International Financial Institutions (IFI).The best known and most powerful of these IFI are the International Monetary Fund(IMF) and the World Bank (WB).However, in order to access IMF and WB funds, borrowing states had to introduce andadhere to a range of neo-liberal economic measures, commonly known as theWashington Consensus. These conditions included limiting state involvement in theeconomy, removing protection from local industries and companies, opening theirdomestic market to foreign competition and facilitating the free movement of goods andinvestment.With the removal of state protection, local industries and companies found themselvesfaced with competition from large-scale transnational corporations with which they wereunable to compete. This frequently led to foreign companies owning and controllingcrucial industries in µdeveloping¶ economies, effectively preventing the creation of asustainable, indigenous commercial sector. In addition, public sector expenditurecutbacks were demanded. These cuts usually targeted areas such as education andhealth and therefore had the greatest negative impact on the more vulnerable membersof the population.Such policies led to the South accusing the IFI as being primarily concerned withprotecting the interests of the lenders to the detriment of the debtor countries¶ citizens.Given the growing international criticism of their operations, the IFI reacted byintroducing a number of initiatives aimed at relieving the debt burdens of heavilyindebted poorer countries. The latest of these programmes is the Multilateral Debt Relief Initiative (MDRI), launched at the G8 meeting in July 2005. Unlike preceding schemes,MDRIprovided relief to multilateral debt ± debtto multi-state membership institutionssuch as the WB and IMF± in addition to bilateral debt ± debt owing to individual states.Specifically, the MDRI would cancel all debts owed to the WB, the IMF and the AfricanDevelopment Bank (AfDB) to states that satisfied certain conditions.While this deal was obviously an extremely positive development for many countries, itfails to prove a solution to the overall problem. Although, participating states will benefitto the tune of billions of dollars, many other heavily indebted countries have beenexcluded.The MDRI¶s limitations become clear when one compares its estimated US$50 billiondebt relief with the total estimated low-income country debt of some US$500 billion.Furthermore, debt owing to multilateral institutions apart from the IMF, WB and AfDBwas not cancelled. This is a particularly critical issue for Latin American countries whohave significant debts outstanding to banks such as theInter-AmericanDevelopmentBank (IADB).Moreover, the MDRI imposes a range of conditions on the debtor countries to beapproved for debt relief. In the case of the IMF, eligibility to the MDRI initiative requiresdebtor countries to be µup to date¶ on their IMF obligations. Furthermore, they arerequired to implement µsatisfactory¶ macroeconomic policies, a poverty reductionstrategy and public expenditure management.Similar to previous initiatives, the MDRI does not take illegitimate debts, otherwiseknown as odious debts, into consideration. Odious debts refer to debts, which should beregarded as illegitimate given they were lent to oppressive regimes and corruptadministrations who were well known to be misappropriating the funds borrowed.Creditors are refusing to assume responsibility for their lending practices while stillexpecting repayment from the poor. In the case of South Africa, the citizens were