Financial Markets and Regulatory System

Debt Crisis: Experiences in Nigeria, North
Korea, Indonesia and Greece

Submitted ByAstha Misra- 598
Bushra Quasmi-600
Km Shalini Singh-603
Surabhi Gupta-613

1. DEBT CRISIS IN NIGERIA....................................................................................4-24
1.1 INTRODUCTION...........................................................................................4-5
1.2 HISTORY........................................................................................................5-8
1.3 CAUSES..........................................................................................................8-9
1.5 DEBT RELIEF..............................................................................................11-20
1.6 PROBLEMS OF DEBT MANAGEMENT..................................................21
1.7 IMPACT OF DEBT MANAGEMENT........................................................21-23
1.8 CONCLUSION.............................................................................................24
2. DEBT CRISIS IN INDONESIA...........................................................................25-31
2.1 INDONESIA ECONOMY...........................................................................25
2.2 CRISIS..........................................................................................................25-26
2.3 ASIAN FINANCIAL CRISIS IN INDONESIA........................................26
2.4 INDONESIAN CRISIS BEGINS................................................................27
2.5 THE IMF ARRIVES & CHAOS CONTINUES........................................27-29
2.6 THE CRISIS HITS ITS CLIMAX..............................................................29
2.7 A POLITICAL SYSTEM & START OF RECOVERY.............................30
3. DEBT CRISIS IN NORTH KOREA...................................................................32-45
3.1 ECONOMY OF NORTH KOREA.............................................................32-34
3.2 HOW IT WORKS........................................................................................34-35
3.3 NORTH KOREA IN DEBT........................................................................35-37
3.4 WHAT BROUGHT CRISIS TO NORTH KOREA...................................37-40
3.5 HOW WAS THE CRISIS IMMEDIATELY ADDRESSED.....................41-42
3.7 CONCLUSION............................................................................................45
4. DEBT CRISIS IN GREECE.................................................................................46-52
4.1 ORIGIN OF DEBT CRISIS IN GREECE..................................................46-48
4.2 ONGOING OUTCOME OF CRISIS..........................................................49
4.3 TACKLING MEASURES...........................................................................50-52
5. BIBLIOGRAPHY.................................................................................................53-54

Massive debts incurred by the countries and their inability to pay has resulted in a shift in the
global economy as well as political world. The nature of debt crisis in third world country
like Nigeria is very different from the crisis faced by Greece. This is due to a number of
reasons, the foremost being the geopolitical situation and location of the countries. Nigeria is
situated in one of the poorest regions of the world and Greece has a strategic location inside
the Eurozone. North Korea on the other hand has been touted as a rogue state ruled by a
dictator. In such a scenario, it is important to analyse the nature of the crisis which may have
more than a few things in common.


The present project intends to study the crisis in these states individually on the basis of key
questions viz. the cause, outcome and tackling of the crisis in each of these the

Economic theory suggests that reasonable levels of borrowing by a developing country are
likely to enhance its economic growth1. When economic growth is enhanced (at least more
than 5% growth rate) the economy’s poverty situation is likely to be affected positively 2. In
order to encourage growth, countries at early stages of development like Nigeria borrow to
augment what they have because of dominance of small stocks of capital hence they are
1Pereira, A. and Z. Xu, “Export growth and domestic performance”. Rev. Int. Econ., 8: 60-73., 2000.

likely to have investment opportunities with rates of return higher than that of their
counterparts in developed economies. This becomes effective as long as borrowed funds and
some internally ploughed back funds are properly utilized for productive investment, and do
not suffer from macroeconomic instability, policies that distort economic incentives, or
sizable adverse shocks. Growth therefore is likely to increase and allow for timely debt
repayments. When this cycle is maintained for a period of time growth will affect per capita
income positively which is a prerequisite for poverty reduction 3. These predictions are known
to hold even in theories based on the more realistic assumption that countries may not be able
to borrow freely because of the risk of debt denial.
Although the debt overhang models do not analyze the effects of debt on growth explicitly,
the implication still remains that large debt stocks lower growth by partly reducing
investment with a resultant negative effect on poverty. But the incentive effects associated
with debt stocks tend to reduce the benefits expected from policy reforms that would enhance
efficiency and growth, such as trade liberalization and fiscal adjustment. When this happens
the government will be less willing to incur current costs if it perceives that the future benefit
in terms of higher output will accrue partly to foreign lenders. Reference 4 contributed that
government borrowing can crowd out investment, which will reduce future output and wages.
When output and wages are affected the welfare of the citizens will be made vulnerable.
Reference5 opined that countries borrow for two broad categories: macroeconomic
reasons[higher investment, higher consumption (education and health)] or to finance
transitory balance of payments deficits[to lower nominal interest rates abroad, lack of
domestic long-term credit, or to circumvent hard budget constraints. This implies that
economy indulges in debt to boost economic growth and reduce poverty. He is also of the
2 Greene, J., “The External Debt Problem of Sub-Saharan Africa”. IMF Staff Papers, 36(4): 836-74,
3Amakom U. S., “Nigeria Public Debt and Economic Growth: An Empirical Assessment of Effects
on Poverty”. August 2003
4Stiglitz, J.E., “Economic of the Public Sector: Third Edition” New York and London, W.W. Norton
& Company, p790, 2000.
5Soludo, C.C., “Debt, Poverty and Inequality”, in Okonjo-Iweala, Soludo and Muhtar (Eds.),
TheDebtTrap In Nigeria, Africa World Press NJ, p. 23-74, 2003.

opinion that once an initial stock of debt grows to a certain threshold, servicing them
becomes a burden, and countries find themselves on the wrong side of the debt-laffer curve,
with debt crowding out investment and growth. This seems to be the position of today
because investment, which will accordingly result to high-speed growth with a positive effect
on poverty, is moving sporadically in both positive and negative directions.
For the past two decades, has borrowed large amounts, often at highly concessional interest
rates with the hope to put them on a faster route to development through higher investment,
faster growth and poverty reduction but on the contrast economic growth and poverty
situations are staggering at the back door amidst excess debt, albeit that was the initial
intention6. It is then obvious that the Nigerian indebtedness has gone beyond such limits and
it is noteworthy if such limit is dictated to help the economy in their pursuit towards debt.

The African state Nigeria in the 1960s and early 70s were not indebted. However due to some
trend of events during some of the successive governments and administration from the
periods of General Obasanjo’s regime (1976-1979) till Babangida and Abacha regimes (19851998), surprisingly, caused the nation’s ‘boast’ to begin to fade. It was discovered that to keep
moving, Nigeria had to take foreign loans. Thus resulted in no time, Nigeria was caught up in
a crippling foreign debt crisis that besides compromising its economic progress, political
stability, social dignity and cultural integrity, also dealt a debilitating blow to the Nigerian
masses, because of the pains and sufferings they inflicted as a result of implementation of the
World Bank IMF policies.
The phenomenon of external foreign debt by Nigeria dates back to the colonial period
precisely in 1958 when the sum of US$28 million was contracted for railway
construction.7Between 1958 and 1977, debts contracted were the concessional debts from
bilateral and multilateral sources with longer repayment periods and lower interest rates

6Pattillo, C., H. Poirson and L. Ricci, “External debt and growth”.IMF workingPaper.WP/02/69,
International Monetary Fund, Washington, D.C., 2002.
7Adepoju A. A., Salau A. S. and Obayelu A. E. (2007) The Effects of External Debt Management on
Sustainable Economic Growth and Development: Lessons from Nigeria. Munich Personal Repec
Archive (MPRA) Paper. No. 2147, pp. 12.

constituting about 78.5 per cent of the total debt stock. 8 It is noted that Nigeria's external
debts have been increasing over time because of a proportional shortage of foreign exchange
to meet her developmental needs.9It therefore became necessary for government to borrow in
1978 for balance of payment support and project financing. As a result of this, government
promulgated Decree No 30 of 1978 which limited the external loans the Federal Government
could raise to 5billion Naira.10
In the same year government made the first “jumbo loan” of US$1 billion from the
International Capital Market. This increased the nation’s debt profile to US$2.2
billion.11Given this, Nigeria's external debts skyrocketed from the million-dollar category to
that of billion dollars. Nigeria’s external debt stock increasedto US$13.1 billion in
1982.12Two factors led to this sharp increase: one, the entrance of state governments into
external loan obligation and two, there was a substantial decline in the share of loans from
bilateral and multilateral creditors and a consequent increase in borrowing from private
sources at stiffer rates.
Nigeria’s inability to settle her import bills resulted in the accumulation of trade arrears
amounting to US$9.8 billion between 1983 and 1988. The insured components were US$2.4
billion while the uninsured were US$7.4 billion.13The insured component was rescheduled at
the Paris Club, while the uninsured was reconciled with the London Club. This reconciliation
which took place between 1984 and 1988 reduced the amount to US$3.8 billion. 14The
accrued interest of US$1.0 billion was recapitalised. This brought the amount to US$4.8
8 Ibid, pp. 15
9 African Forum and Network on Debt and Development (2007) Nigeria: Foreign Debts, Stolen
Wealth, IFIS and The West, A Case Study. Harare: AFRODAD.
10Chipalkatti, N. and Rishi, M. (2001).“External Debt and Capital Flight in the Indian
Economy”.Oxford Development Studies, Vol. 29, No. 1.
11 Supra note 9.
12 Central Bank of Nigeria (2004) Nigeria: Major Economic, Financial and Banking Indicators.
13 Supra note. 7, pp. 13
14 Ibid., p.16

billion in 1988 and the debt was eventually refinanced. In 1990, Nigeria’s external debt rose
again to US$33.1 billion.15After a brief decline to US$27.5 billion in 1991, it rose steadily to
US$32.6 billion at the end of 1995. As at 1999, Nigeria’s external debt stock was US$28.0
billion. 73.2 per cent of this was owed to the Paris Club while the rest was owed to the
London Club, the multilateral creditors, promissory note holders and others.16
Furthermore, servicing and rescheduling of debt became problematic for Nigeria from around
1985 when its external debt rose to up to US$19 billion. Before then, Nigeria had
experienced boom in oil revenue which was followed immediately by an unexpected decline.
In 1980, Nigeria earned $25 billion from oil export. In 1982, it declined to $12 billion and
further to $6 billion in 1986.17Government spending had remained high within this period and
much of the projects were financedthrough external borrowing. Since Nigeria was an OPEC
member, it was not qualified for the soft-loan financing provided by multilateral and bilateral
aid agencies to other countries at that time. 18 As at the end of 2004, Nigeria’s debt stock had
reached almost $36 billion out of which $31 billion was owed to the Paris Club of Creditors
while the rest was owed to multilateral, commercial and other non-Paris Club of creditor.19
The debt service payment for Nigeria's debts started on a soft, tolerable level in 1958 until it
became a hard bargain years later. Matters came to a head in 2003 when one of Nigeria's
creditors, the Paris Club, demanded $3 billion annually for debt service payment.
Dr.NgoziOkonjo-Iweala considered the payment economically unsustainable. She therefore
negotiated with the club. The $18 billion debt cancellation for Nigeria in 2005 by The Paris
Club and subsequent settlement of some outstanding debts reduced the total external debt of
the country substantially.

15 Supra note. 12
16 Ibid.
17 Ibid.
18Borensztein, E. (1990). “Debt overhang, debt reduction and investment: The case of the
Phillippines”. International Monetary Fund working paper No. WP/90/77, September.
19Ajayi, R. (2000). “On the Simultaneous Interactions of External Debt, Exchange Rates, and Other
Macroeconomic Variables: The Case of Nigeria”. Centre for Economic Research on Africa, October.

Causes of Nigeria’s debt
According to Sogo-Temi, (1999)20, the explanation for the growing debt burden ofdeveloping
economies is of two-fold. Firstly, developing countries have become muchdependent on
external funding than they used to even previously. Secondly, difficulties experienced by
most countries in servicing external debt burden.
These two factors according to him, account for Nigeria’s indebtedness. Any assessment of
the present dependency nature of Nigerian economy must take into cognisance the political
economy of country during the colonial era.
According to Ahmed21, he reflected the causes of debt problem as related to both the nature of
the economy and the economic policies put in place by the government. He articulated that
the developing economies are characterized by heavy dependence on one or few agricultural
and mineral commodities and export trade is highly concentrated on the other. The
manufacturing sector is mostly at the infant stage and relies heavily on imported inputs. To
him, they are dependent on the developed countries for supply of other input and finance
needed for economic development, which made them vulnerable to external shocks.
The grand cause of the debt crisis is that, in most cases, the loan is not used for development
purposes. The loan process is done in and shrouded with secrecy. The loan is, albinitio,
obtained for the personal interest and parochial purposes. It is usually tied to party politics,
patronage and elevation of primordial interest rather than the promotion of national interest
and overall socioeconomic development.22
The causes of Nigeria’s external debt burden could be grouped into six areas and these
according to Aluko and Arowolo (2010)23 are:
20 Sogo-Temi, J.S (1999), “Indebtedness and Nigeria’s Development”, in Saliu, H.A (ed), Issues in
Contemporary Political Economy of Nigeria, Ilorin: Sally and Associates
21 Ahmed, A., (1984), “Short and Medium term approaches to solving African Debt Problems”,
Central Bank Nigeria Bullion, 12(22).
22Aluko, F and Arowolo, D (2010), “Foreign aid, the Third World’s Debt crisis and the implication
for Economic Development: The Nigerian experience”, African Journal of Political Science and
International Relations, Vol. 4(4), pp. 120- 127, April
23 Ibid.

Inefficient trade and exchange rate policies,
adverse exchange rate movements,
adverse interest rate movements,
poor lending and inefficient loan utilization,
poor debt management practices, and
accumulation of arrears and penalties.

Inappropriate monetary policy also contributed to the problem of Nigerian external
indebtedness. For instance, until recently little or no conscious effort was made to achieve
financial discipline which was made necessary for effective and efficient mobilization
ofdomestic savings. The negative real rates of interest which prevail for long had the effect,if
representing the financial market, increase the dependence of Nigeria on external loans,and
encouraging capital flight24.

It is commonly believed that the growing national debt against the background of declining
and/or unstable foreign exchange earnings has serious consequences for the recovery of the
Nigerian economy. But the common question which needs to ask is; how do determine the
extent of Nigeria’s debt burden; and how is this going to affect the capacity of the economy to
achieve substantial economic growth and development? 25Answers to these questions will be
based on some principal indices. These are standard indicators for measuring the burden of
external debt. These indicators, among others, include the ratios of the stock of debt to
exports and to Gross Domestic product and the ratios of debt service to exports and to
government revenue.26
It has been noted that the debtor-countries have too much burden on their heads, the burden
packaged with economic crisis and socio-political difficulties. Expending as much as 70 90% of export earnings on debt servicing connotes that little is left virtually for the countries
to perform their constitutional obligations to the citizenry.It is also carefully noted that in its
24Adejuwon, Kehinde David, James, Kehinde S., and Soneye, Olakunle Adebayo, “DEBT BURDEN
AND NIGERIAN DEVELOPMENT”, Journal of Business and Organizational Development, 2010
CenresinPublications, Volume 2, September 2010
25Supra note. 21
26Supra note, 25

zeal to break out of economic shackles to achieve economic and socio-political development,
the Third World has chosen the option of seeking foreign loan to achieve this development.27
Development, to them, might mean embarking on capital intensive projects such asschools,
hospitals, road and bridges, radio and television stations. The implication of thisis that, the
loan, well packaged with a number of conditionalities, needs to be serviced and as such, the
recipient-countries are expected to invest the money in the business that will bring returns for
servicing and paying back of the loan but, with the implementation of these non-profitable
social projects.28
James29 opined that public debt has no significant effect on the growth of the Nigeria
economy because the fund borrowed were not channelled into productive ventures, but
diverted into private purse. He suggested further, that, for the gains of the debt forgiveness to
be realized the War against Corruption should be fought to the highest. Oshadami 30 in her
own study concluded that the growth of debt has affected negatively the growth of the
economy. This situation is premise on the fact that majority of the market participant are
unwilling to hold longer maturity and as a result the government has been able to issue more
of short term debt instruments. This hasaffected the proper conduct of monetary policy and
affected other macroeconomic variables like inflation, which makes proper prediction in the
economy difficult.
External control and manipulation of the domestic economy is another by-product of debt
crisis. In addition to executing the conditionalities in the host country, officials of IMF, and
other western based capital institutions often invade and take over the economic policies and
administrations of debtor-nations’ banking and financial systems. Import earnings are strictly
27FunsoAluko, Dare Arowolo, “Foreign aid, the Third World’s debt crisis and the implication for
economic development: The Nigerian experience”, African Journal of Political Science and
International Relations Vol. 4(4), pp. 120-127, April 2010, Available online at ,ISSN 1996-0832
28Supra note. 28
29 James, F (2006), “The Effects of Public Debt on the Growth of Nigerian Economy”, Unpublished
B.Sc Project, Department of Economics, Kogi State University, Anyigba.
30Oshadami, O.L (2006), “The Impact of Domestic Debt on Nigeria’s Economic Growth”,
Unpublished B.Sc Project, Department of Economics, Kogi State University, Anyigba.

monitored and this is capable of significantly increasing the plight of the domestic populace.
The overall effect of the above on the development of the debt of country is that the economy
often graduates from bad to worse. The debt burden increases Nigeria’s dependence on the
outside world; slows the prospects of economic recovery and growth; jeopardises the stability
of Nigerian governments and increases the poverty of Nigeria and her peoples.31
The foregoing put together therefore raises another question of whether what Nigeria actually
needs is debt relief. As it is being made operational, the debt relief has been made to appear
as if the western world is doing Nigeria a special favour. This ought not to be so. For, the
deepening crisis and contradictions in Nigeria are largely attributable todecadesof
exploitation of Africa through the slave trade and colonialism. These were to be followed by
years of marginalisation and continuing exploitation of African resources through the neocolonial enterprise. It is in this light that the conception of debt relief, or worse still, debt
forgiveness, offends.32

It is believed that debt relief would engender increased saving and investment in the domestic
economy. This has the potential to engineer growth and reduce poverty, capable of leading to
improved conditions of living. This is especially so if the proceeds from debt relief are well
managed in the overall interest of the Nigerian economy.
In the 1980, the management of the external debt became major responsibility of the Central
Bank of Nigeria (CBN). This necessitated the establishment (setting up) of a Department in
collaboration with Federal Ministry of Finance to the management of external debt. Although,
the debt management strategies and measures varied from time to time since the early 1980s
when the external debt became pronounced. The following measures were used by the
Government as guidelines to external borrowing. Economic sector should have positive
Internal Rate of Return (IRR) as high as the cost of borrowing i.e. interest.
31 Hardy CS (1986), “Africa’s Debt Burden and its Consequences”, The Courier, African- Caribbean
Pacific Dossier, No. 97, May-June.
32Ake C, (2000), The Feasibility of Democracy in Africa, Dakar: CODESRIA Books. Akhakpe, ;
Ochonu M, (2005),”Debt Cancellation, Aid and Lives: A moral response to critics”, ACAS Bulletin,
71, Fall, pp. 16

External loans for private and public sectors projects with the shortest rate of returnshouldbe
sourced from the international capital market while loans for social services or infrastructure
could be sourced from confessionals financial institutions.
- State Government, Parastatals, Private sectors borrowing receive adequate approval from
the Federal Government so as to ensure that the borrowing conforms to the national
- Projects to be financed with external loan should be supported with feasibility studies which
include loan acquisition, deployment and retirement schedule.
- State Governments and other agencies with borrowed funds should service their debts
through the foreign exchange market and duly inform the Federal Ministry of Finance for
record purposes. Any default will attract deduction (in Nigeria equivalents) at source before
the release of statutory allocations.
-Private sector, industries that are export – oriented are expected to service their debt from
their export earnings while others should utilize the Foreign Exchange Market facilities for
debt servicing. The government over the years adopted the under listed strategies and
measures to deal with the debt problem. They include:

Embargo on new Loans and Directives to State Government to restrict external
borrowing to the barest minimum: The embargo was to check the escalation of total
debt stock and minimize additional debt burden. However, these have not been
particularly effective as indiscriminate quest for external loans have not been adopted.
Although rescheduling has conferred short term relief or debt service obligations, the
debt over-hang has however hardly been abated as the debt stock has continued to

increase significantly.
Limit on debt service payments: This requires setting aside portion of export earnings

to allow for internal development.
Debt Restructuring: This involve the reduction in the burden of an existing debt
through refinancing, rescheduling bring back, issuance of collateralized bonds and the
provision of new money.

The Federal Government in year 2001 established a semi – autonomous debt management
office under the Presidency. The creation of DMO (Debt Management Office) consolidated
the debt management functions in a single agency, ensuring proper coordination of the

country’s debt recording and management activities, including debt service forecast, debt
service repayments, and advising on debt negotiation as well as new borrowings.
   THE








In Nigeria, before September 2000 when the Debt Management Office (DMO) was created,
debt management functions were conducted by the Federal Ministry of Finance (FMF),
Central Bank of Nigeria (CBN), and the National Planning Commission (NPC). The FMF
wasresponsible for servicing the debt and debt recording, particularly public and publicly
guaranteed medium-and long-term debts. It generally provides the main criteria and
regulations for borrowing abroad. It was also responsible for identifying the sources of the
loans, approving such sources and drawing-up agreements. The CBN was charged with the
recording of private sector external debt and debt analysis (e.g. Debt Trends - CBN semiannual publication)33. Besides being directly in charge of managing, monitoring and
controlling private sector non-guaranteed debt and other short-term debts, the CBN is directly
in charge of foreign exchange remittance and verification of foreign exchange payments. It is
also responsible for ensuring the availability of foreign exchange to meet the countrys debt
service obligations.
The NPC, apart from being charged with managing grants, it identifies projects that require
external financing and gives information on the relationship between projects and loans. The
new DMO has since assumed some of these responsibilities. The DMO is made up of three
main units responsible for external debt management activities. These are the International
Capital Market (ICM) Unit, the Multilateral Institutions Unit, the Africa and Bilateral
Economic Relations Unit (ABER). The functions of these units is complemented by that of
the Office of the Accountant-General of the Federation. The common problem frequently
experienced in the institutional arrangements was the rivalry that existed between the FMF,
NPC and the CBN. These institutional lapses may be due to the lack of clear-cut delineation
of responsibility for authorising, monitoring and managing public and private sectors debts.
The institutional structure was deficient as reflected in the lack of data which further
complicates the formulation of sound debt management policies.34

33Nyatepe-Coo, A. A.(1993),”External Disturbances, Domestic Policy Responses and Debt
Accumulation in Nigeria”, World Development, Vol. 21, No.10, pp. 1621

Paucity of statistical information and ineffective centralised control over external borrowing
in Nigeria, have made the formulation of appropriate macroeconomic policies impossible as
these were often formulated without a mediumterm borrowing plan based on an explicit
analytical framework or an explicit overall balance of payments target”(Raheem, 1994) 35.
With the establishment of the DMO, it is hoped that many of these lapses will be corrected.
Several debt management policies and strategies have been proposed and applied in
managing the external debts of the LDCs including Nigeria1. The measures taken so far have
been aimed at reducing the debt stock outstanding and increasing debt inflow, while
embarking on economic reform to correct macroeconomic imbalances. The internal control
measuresadopted by Nigeria so far include, setting of limits on the volume of debt to be
contracted;statutory provision of maximum level of commitments; issuance of directives or
guidelines bythe Federal Government on foreign borrowings; placing of embargoes on new
loans; refinancingof trade arrears and debt rescheduling.36
Statutory Provision of Maximum Level of Borrowings
At independence, some form of regulatory framework was set in place to guide and monitor
the inflow, usage and repayment of external debt incurred; the Promissory Notes Ordinance
and the External Loans Act were enacted in 1960 and 1962, respectively. The former
specifically established a Sinking Fund for loan redemption as at when due while the latter
explicitly stipulated that external loans should be used for development programmes and for
on-lending to regional government37. Another of the regulatory frameworks put in place was
the External Loans (Rehabilitation, Reconstruction and Development) Decree of 1970” which
34Oshikoya, T., (1994),”Macroeconomic Determinants of Domestic Private
Investment in Africa: An Empirical Analysis,” Economic Development and Cultural
Change, Vol. 42, No. 3, April, pp. 573
35Raheem, M. I. (1988), “External Debt in the Development Process: A MacroEconometric Case Study of Nigeria” Unpublished Ph.D. Thesis, Dept. of
Economics, University of Ibadan. ------------- (1994) “Assessing and Managing
External Debt Problems in Nigeria”, World Development, Vol. 22, No. 8, pp. 1223
36Krugman, P. (1988), “Financing Vs Forgiving a Debt Overhang.” NBER Working
Paper 2486, Cambridge, Mass: National Bureau of Economics Research.

made provision for the maximum level of commitment by Nigeria. The Decree authorised the
Federal Government to raise external loans not exceeding 1 billion Naira for the purpose of
rehabilitation, reconstruction and development programmes38. In 1978, the size of external
loans that can be outstanding at any time was raised to 5 billion Naira by External Loans
Decree No. 30 of 1978”. This was done because the old ceiling became inadequate to cater
for the then developmental needs.
Issuance of Directives by the Federal Government
The 1980 external debt guideline stipulated some conditions for external borrowings by states
governments, because under the Federal Constitution of Nigeria, only the federal government
can borrow from external sources and state governments need to get a federal government
guarantee before they can contract external loans. Among these conditions were the need for
states governments to demonstrate viability of projects to be financed, possess acceptable
debt service ratio and that the debt-servicing should not exceed 10 per cent of the state’s
fiscal revenue39. “Following the non-compliance with this guideline, the federalgovernment
placed a ceiling of 200 million Naira on state governments and the use of Euro-dollar
International Capital Market(ICM) borrowing to finance on-shore cost components of
approved capital projects” 40. The austerity measures initiated between 1982 and 1984 by the
federal government attempted to introduce measures that include embargo on new loans, a
limit on debt service payments, counter-trade, and debt restructuring. Under the limits on debt
service payment, a fix proportion of export earnings was set aside to meet debt service
obligations. This was done in order to allow for sizable resources for internal development.
Embargo on New Loans
37Iyoha, M. A. (1997),”An Econometric Study of Debt Overhang, Debt Reduction,
Investment And Economic Growth in Nigeria” NCEMA Monograph Series, No. 8.
----------- (1999), “External Debt and Economic Growth in Sub-Saharan African
Countries: An Econometric Study”, African Economic Research Consortium, RP
90, March
39Infra note. 40
40Uwatt, B. U. (1995), “A Multi-Objective Model of External Debt Management for Nigeria
,Unpublished Ph.D. Thesis, Department of Economics, University of Ibadan.

This involves temporary stoppage of further external borrowings until the debt situation
improves. It is aimed at preventing additional debt burden. The embargo on new external
loans aimed at preventing accretion to the burden was applied in 1984 to governments’
borrowings from abroad, certain exceptions were, however, granted in respect of on-going
core projects. The embargo on sourcing new foreign loans was lifted in January 1999.

Economic Reforms and Debt inflows
In 1986, Nigeria introduced SAP which attracted trade and investment loans. For instance,
foreign loans worth US$450 million and US$500 million were contracted between 1986 and
1989 (Uniamikogbo, 1994)41. The SAP sought, among others, to realign domestic production,
investment and consumption patterns as well as exchange rate, so as to reduce dependence on
imports and enhance non-oil exports. This will in turn generate foreign exchange for debt
service and put the economy on the path of steady and sustainable growth. The main debt
management approaches under SAP included debt restructuring, limiting debt service to a
maximum of 30 per cent of annual export earnings and attracting new loan facilities on
concessional terms to ameliorate the debt burden. The SAP implementation facilitated the
various debt restructuring agreements signed since 1986 with various creditors.
In February 1988, the federal government introduced new policy guidelines aimed at
minimising the increasing debt service burden. The guidelines stipulated vigorous viability
testsfor projects to be financed by external loans. The guidelines were issued with regard to
the viability and ranking of economic and social services as well as priorities for foreign
borrowing by governments (federal and states), parastatals and private sector 42. “External
loan requirements of private and public sector projects that are of a commercial and quick
yielding nature may be sourced from the International Capital Market(ICM) while
concessionary financing may be secured for social service and infrastructural projects” 43. In
addition, federal government approval must be obtained before fresh loans are contracted
41Umakrishman (1998), “Debt-Servicing Capacity of Indebted Countries: Towards Developing A
More Sensitive Index,” Foreign Trade Review, Quarterly Journal of Indian Institute of Foreign Trade,
Vol. XXXIII, No. 1& 2, April - Sept
42Underwood, J.(1992),”The sustainability of International Debt”, International Finance Division,
The World Bank, mineo

under the guidelines. Other measures as contained in the guideline include: economic sector
projects should have positive internal rate of return not lower than the cost of borrowing;
state government and publicparastatals should service the debts through the Foreign
Exchange Market (FEM) and failure of these organs to service their debts would attract the
deduction of the Naira equivalent at source. For the private sector, industries that are exportoriented should service their debt from their export earnings, while others should patronise
the FEM to service their debts. Moreover, approval of private sector borrowing will no longer
receive the federal government guarantee 44.
Debt Conversion Scheme
In Nigeria, the Debt Conversion Programme (DCP) was established in July 1988 to
complement the other debt management initiatives aimed at reducing the burden of private
debts. The DCP involves the sale of an external debts instrument at a discount for domestic
debt or for equity participation in local enterprises. The programme is meant to reduce the
external debt stock and lighten the debt service burden, encourage capital inflows including
repatriation of flight capital, and assist the capitalisation of the private sector investment and
the generation of employment opportunities. Eligible debt for conversion were initially
limited to promissory notes but later expanded to cover other bank debts45.
Refinancing Programme
Refinancing of short-term trade debts and commercial bank debts involves the procurement
of a new loan contracted either from the same or new creditors by a debtor to pay off an
existing debt. It is aimed at shifting repayment forward and easing the medium-term foreign
exchange liquidity squeeze. In July 1983, Nigeria undertook its first refinancing exercise
when it successfully refinanced almost US$2 billion worth of trade arrears on confirmed
lettersof credits outstanding as at July 1983 46. The arrears were refinanced at an interest rate
of 1 per cent above the London Inter-Bank Offer Rate (LIBOR), with a repayment period of
43Cohen, D.,(1989), “The Management of the Developing Countries Debt: Guidelines and
Applications to Brazil” World Bank Economic Review. Vol. 2, No. 1.(1996),”The Sustainability of
African Debt,” Policy Research Working Paper 1621, The World Bank, July
45Villanueva, D. and I. Otani(1989), “Theoretical Aspects of Growth in Developing Countries:
External Debt Dynamics and the Role of Human Capital” IMF Staff Papers, Vol. 36, No. 2, June.

30 months and a grace period of six months. Another refinancing of arrears of uninsured,
short-term trade debts outstanding as at December 1983 was contracted in 1984 worth
$3.2billion. Other refinancing agreements were contracted between 1984 and 1988 47. During
this period, trade arrears amounting to over US$4.8 billion were refinanced and covered with
promissory notes. The amount was refinanced over a 22-year period with a two years grace
period and at 5 per cent interest rate.
Debt Buy-Back Scheme
The debt buy-back scheme involves a situation where a substantial discount is offered to pay
off an existing debt. Under this programme, Nigeria bought US$3.4 billion or 62 per cent of
the commercial debt owed the London Club of creditors at 60 per cent discount in February
1992, that is, $1.4 billion paid to liquidate the commercial debt. Under the collateralisation
option, the remaining 38 per cent of the commercial debts or the sum of US$2.1 billion was
collateralised as a 30-year par bonds with the London Club. It is expected that the yield on
the bonds within the collateralised period should offset the collateralized amount48.
Debt Rescheduling
Rescheduling involves changing the maturity structure, interest spread and repayment period
of a loan. The objective is to postpone payment of matured debt in order to correct the
underlying economic fundamentals in order to expand the country’s productive and export
capacity. In 1986, commercial banks debt amounting to $1.6 billion, due to the London Club
was rescheduled to extend to 1996 with a four years grace period 49. Nigeria succeeded in
November 1987 to reschedule arrears of commercial banks’ debts due to the London Club.
The amount totalling US$5.8 billion outstanding by end of 1987 was rescheduled 50. The

46Hadjimicheal, M. T. et al.,(1995),”Sub-Saharan Africa: Growth, Savings, and Investment, 1986 93”. Occasional Paper 118, International Monetary Fund, Washington DC.January.
47Greene, J. E. and M. S. Khan(1990), “The African Debt Crisis” African Economic Research
Consortium, Special Paper 3, February
48 Ibid. p. 34
49Fisher, S. and J. Frenkel (1974), “Economic Growth and Stages of the Balance of Payments”, in G.
Horwich and P. Samuelson(eds) Trade, Stability, and Macroeconomics, NY: Academic Press pp.503

amount wasconsolidated and rescheduled over a twenty years period including a three years
grace period.
Due to non-performance on the rescheduled debt, again in March 1989, Nigeria rescheduled
its debt with the London Club. The annual debt service obligation to the London Club was
reduced from US$1.345 billion to US$711 million. The high debt service obligation made it
impossible for the country to meet its commitment and hence, it defaulted. Consequently,
Nigeria approached the Club again for restructuring of the entire debt, the deal was closed on
January1992, in which the country bought back 62 per cent of the debt and issued collaterised
par bonds for the remaining 38 per cent. So far the London Club debt has been reduced from
$5.8 billion to $2.1 billion after the restructuring exercise. Of the $2.1 billion debt left, the
sum of $2.05 billion was fully collateralised. Nigeria has also rescheduled or restructured
debts due to the Paris Club and multilateral creditors.
Debt rescheduling has also been the principal tool for the alleviation of the official debt,
especially the Paris Club debt.Nigeria had its first rescheduling agreement with the Paris Club
in December 1986. Since then there has been two other similar agreements in 1989 and 1991.
The first rescheduling witnessed debt worth over $6.2 billion rescheduled/refinanced by the












rescheduled/refinanced. In 1991, Nigeria succeeded in rescheduling the repayment of debt
As at 1998, Nigeria has signed a total of 14 bilateral agreements under the Paris Club Agreed
Minutes. It is viewed that even though the Paris Club rescheduling has provided some
temporary cash-flow relief, it has not reduced thedebt stock. “This is because the package
was always structured to apply to current maturities falling due within a consolidation period
of about 15 months and not the entire debt stock, and the capitalisation of the interest
thereon52. Thus, instead of reducing the debt stock has tended to increase it without the
50Dooley, M. P. (2000), “Debt Management and Crisis in Developing Countries,” Journal of
Development Economics, Vol. 63, pp.45
51Iyoha, M. A. (1997),”An Econometric Study of Debt Overhang, Debt Reduction, Investment And
Economic Growth in Nigeria” NCEMA Monograph Series, No. 8. , (1999),
52Chhibber, A. and S. Pahwa (1994), “Investment Recovery and Growth in Nigeria: The Case for
Debt Relief” African Debt Burden and Economic Development, Selected Papers for the 1994 Annual
Conference, The Nigerian Economic Society.

country contracting new loans53. As at December, 1995, the arrears on Paris Club debt
amounted to $10.29 million, it moved up to $11.12 million in 1996. As at September, 2000,
US$19.0 billion was in arrears to the Paris Club of creditors.











rescheduling/refinancing agreement with the Paris Club, with respect to debts owed to it. A
summary of the agreement show that after paying off $820 million between December 29,
2000 and March 31, 2001 and after taking cognisance of the $2.76 billion to be paid over the
period between March 31, 2001 and September 30, 2009, the remaining debt not repaid
would be rescheduled over a 20-21 year period with grace periods ranging between 3 and 10
years, depending on the category of debt54. In 2001, the Federal Government established a
Debt Management Office for the purpose of managing and advising on the governments
overall debtobligations55.
Nigeria and the Paris Club of creditors in Nov. 2005, signed another agreement to formalize
the US$18 billion debt relief granted the country on June 29, 2005. The agreement is to be
implemented in two phases. The first requires Nigeria to pay all her debt arrears,
whichamount to US$6.36 billion, after which 33 percent of the debt will be cancelled. In the
second phase which will be implemented from March, 2006, Nigeria is expected to pay a
second tranche of US$6.1 billion56. The Paris Club will then grant it a relief of another 34 per
cent of the sum of US$30 billion it owes. That will bring Nigeria’s debt relief to US$18
billion or 67 per cent of the debt sum. According to the agreement, Nigeria obtained a debt
cancellation estimated at US $18 billion including moratorium interest, which represents an
overall cancellation of about 60 per cent of its US$30 billion debt to the Paris Club. At the
end of the implementation Nigeria would have paid out about US$12.4 billion57.

53Nyatepe-Coo, A. A.(1993),”External Disturbances, Domestic Policy Responses and Debt
Accumulation in Nigeria”, World Development, Vol. 21, No.10, pp. 1621
54Iyoha, M. A. (1997), “”External Debt and Economic Growth in Sub-Saharan African Countries: An
Econometric Study””, African Economic Research Consortium, RP 90, March
55Higgins, M. and T. Klitgaard(1998),”Viewing the Current Account Deficit as a Capital Inflow”,
Current Issues in Economics and Finance, Vol. 4 No. 13, December.
56 Supra note. 50

In conclusion, some of the initiatives discussed above have resulted in small reduction of the
debt stock of Nigeria, particularly private debt mainly through debt equity swap. The past
military regimes accumulated the debt and have not been successful with the management of
the official debt, notably the Paris Club debt, except under Babangida’s regimes when
threerestructuring agreements (1986, 1989, and 1991) were signed. Even then as earlier
noted, the restructuring agreements did not lead to significant reduction in debt stock as the
debt problem continued.

There are lots of problems that militate against effective debt management in Nigeria and
some of them are stated below58:

Scarcity of Statistical Data: Scarcity of statistical data on both internal and external
debt is a major problem in Nigeria’s debt management because Nigeria has been
calculating its internal and external debt grossly, under its estimation of the actual

debt. That is, Nigeria has been basing the calculation of its debt on assumption.
Institution Arrangements:Institutional arrangements for external debtmanagement is
a hindrance to its effectivemanagement in Nigeria, that is, the CentralBank of Nigeria
(CBN) is taking care of theprivate sector short term trade debt while theFederal
Ministry of Finance creates the erroneousimpression that external debt managementis

one integrated activity.
Ineffective Law and Regulation: Another dimension to the institutional problemis
the neglect or ineffectiveness of lawand regulation. If the provision of the
PublicBodies Act of 1965 was put into effectiveuse, it could have forged a cohesive
link inthe statistical data on external borrowing ofFederal, State governments and the
parastatals,a situation where information on foreignborrowing is picked by bits is

detrimental toher national economy.
Low Yield on Debts Instruments: Thelow rate of interest that were administeredon
debts instruments for a long time priorto the introduction of Structural
AdjustmentProgramme (SAP) in 1986 made the instrumentsvery unattractive giving
low yield visà-vis other instrument outlets.

57 Ibid
58Missale, A. (1999), “Public Debt Management”., Oxford: Oxford University Press.

It is difficult to identify the macro economic impacts of debt relief in Nigeria due to the
diverse influences of reform agenda. However, the positive trend seems to dominate the
negative effect on macroeconomic performance in Nigeria. The reduction in debt stock and
the corresponding reduction in foreign debt servicing, immediately freed up resources. It
released roughly US$1billion a year to the Nigerian government: US$750 million in savings
for the Federal government, and an aggregate of US$250 million to the state governments.
The ‘tagging’ and ‘tracking structure created a set of budget codes that labels a portion of
government expenditures as poverty-reducing, funded by debt relief or both. A series of
budget control codes were created and a new reporting platform was adopted by the Office of
the Accountant general of the Federation (OAGF) known as the Accounting Transactions
Recording and Reporting System (ATRRS) that would produce consolidated reports on debt
relief expenditures. This was integrated into the standard budget coding structure of Federal
government from 2006 Fiscal year.
Other Economic impacts of the debt deal include:
(i) It created a platform for reforming national debt institutions
(ii) It has injected needed cash into the social sector of government by funding critical
priority sectors such as health, basic education, water, power, roads etc.
(iii) It has provided an opportunity to introduce a social protection strategy to the country
(iv) It served as a new way of planning, budgeting and executing projects.
(v) It removed a significant financial burden from the government
(vi) It enabled Debt management Office DMO to refocus its energy on the core business of
public debt management
(vii) It enables Nigerian governments to move away from reliance on unpredictable and
unsustainable donor funding.
(viii) It also helps avoid a return to unsustainable debt accumulation and crisis


(ix) It allowed the DMO to lower to lower the cost of raising funds for government through a
concerted effort at restructuring domestic debt stock and put in place measures to prevent the
accumulation of unsustainable foreign debt again
(x) It assisted in developing guidelines on external borrowing as well support the passing of
Fiscal responsibility bill into law.
(xi) It had also served as a mechanism for institutional change
(xii) The savings from the debt relief has assisted in the implementation of the National
Economic Empowerment Development Strategy(NEEDS) and the attainment of the
Millennium Development Goals (MDGs).
(xiii) Making resources available for critical infrastructural needs will encourage private
sector-driven job creation to boost economy-wide employment.
After the Paris Club debt deal in 2005 and the London Club debt exit in 2006,,Nigeria still
has external debt outstanding of about US$5 billion owed to Multilateral Financial
Institutions, Promissory Notes Holders, and Non-Paris Club Bilateral Creditors. Nigeria has
continued to meet its obligations to these groups of creditors as at when due, this shows the
sustainability of the debt. The debt has however increased as other debt deal has been
contracted with Multilateral and International Capital Market.


The high indebtedness of Nigeria has been observed to result from internal and external
factors which include over reliance on petroleum as the main source of export earningagainst
the backdrop of rising import bills worsening terms of borrowing, expansionary monetary
and fiscal policies; pricing and exchange rate policies, and poor economic management and
misuse of resources 59. The question of how to successfully manage Africa’s debt crisis has
been a central theme in the discourse of international political economy. Debt sustainability
connotes a country’s ability to meet itsexternal obligations in full, without future recourse to
debt rescheduling, or relief or theaccumulation of arrears over the medium or long term and
without compromising economic growth 60.
In this paper, it had been critically engaged the question of Nigeria’s debt crisis with specific
emphasis on the current regime of debt relief. From the preceding analysis, it has been made
clear that debt relief does offer some prospects for Nigeria’s development. At least, it
represents an important ‘burden-lifting’ in the form of debt servicing and capital flight from
Nigeria, which has hindered economic growth. With this development, room may have been
created for boosting investment in human welfare on the country. In spite of these prospects,
59Sogo-Temi, J.S (1999), “Indebtedness and Nigeria’s Development”, in Saliu, H.A (ed), Issues in
Contemporary Political Economy of Nigeria, Ilorin: Sally and Associates
60Obadan, M.I, (20040, Foreign Capital Flows and External Debt: Perspective on Nigeria and the
LDCs Group, Lagos: Broadway Press Ltd

debt relief also presents threats to Nigeria’s development. The debt relief have not altered
theunderlying inequalities in the structure and composition of the prevailing world order 61.
Indeed, many aspects of globalisation have reinforced Nigeria’s position on the lowest rung.
While it is true that the debt burden arising from conditionalities has stiffened the economic
opportunities of the Nigeria to grow and develop, it is equally true that a succession of bad
and inept leadership foisted and hoisted on Nigeria and her peoples has made their debt
unpayable. A series of opportunistic leaders has brought Nigeria to its knees. Absence of good
leadership has really turned the game against Nigeria. It is paradoxically ironical that a
producer of goods is actually not the determinant of the price of the goods.

The Asian financial crisis was a period of financial crisis that gripped much of East Asia
beginning in July 1997 and raised fears of a worldwide economic meltdown due to financial
contagion. Indonesia, South Korea and Thailand were the countries most affected by the

Indonesia’s Economy
Indonesia has the largest economy in Southeast Asia and is one of the emerging market
economies of the world. The country is also a member of G-20 major economies and
classified as a newly industrialized country. It has a market economy in which the
government plays a significant role through ownership of state-owned enterprises (the central
government owns 141 enterprises) and the administration of prices of a range of basic goods
including fuel, rice, and electricity. In the aftermath of the financial and economic crisis that
began in mid-1997 the government took custody of a significant portion of private sector
assets through acquisition of nonperforming bank loans and corporate assets through the debt
restructuring process. Since 1999 the economy has recovered and growth has accelerated to
over 4%-6% in recent years.62

61Omotola, J. S &Enejo, K.E (2009), “Globalization, World Trade Organization and the Challenges
of Sustainable Development in Africa”, Journal of Sustainable Development in Africa, Vol,10. No 4,
pp. 520

In June 1997, Indonesia seemed far from crisis. Unlike Thailand, Indonesia had low inflation,
a trade surplus of more than $900 million, huge foreign exchange reserves of more than $20
billion, and a good banking sector. But a large number of Indonesian corporations had been
borrowing in U.S. dollars. During the preceding years, as the rupiah had strengthened
respective to the dollar, this practice had worked well for these corporations; their effective
levels of debt and financing costs had decreased as the local currency's value rose.
In July 1997, when Thailand floated the baht, Indonesia's monetary authorities widened the
rupiah currency trading band from 8% to 12%. The rupiah suddenly came under severe attack
in August. On 14 August 1997, the managed floating exchange regime was replaced by a
free-floating exchange rate arrangement. The rupiah dropped further. The IMF came forward
with a rescue package of $23 billion, but the rupiah was sinking further amid fears over
corporate debts, massive selling of rupiah, and strong demand for dollars. The rupiah and the
Jakarta Stock Exchange touched a historic low in September. Moody's eventually
downgraded Indonesia's long-term debt to "junk bond".63
Although the rupiah crisis began in July and August 1997, it intensified in November when
the effects of that summer devaluation showed up on corporate balance sheets. Companies
that had borrowed in dollars had to face the higher costs imposed upon them by the rupiah's
decline, and many reacted by buying dollars through selling rupiah, undermining the value of
the latter further. In February 1998, President Suharto sacked Bank Indonesia Governor J.
SoedradjadDjiwandono, but this proved insufficient. Suharto resigned under public pressure
in May 1998 and Vice President B. J. Habibie was elevated in his place. Before the crisis, the
exchange rate between the rupiah and the dollar was roughly 2,600 rupiah to 1 U.S. dollar.64
The rate plunged to over 11,000 rupiah to 1 U.S. dollar on 9 January 1998, with spot rates
over 14,000 during 23–26 January and trading again over 14,000 for about six weeks during
62; last accessed on March 02,2015

63Raghavan, Anita, "Japan Stocks Slide Again on Fears About Stability". Wall Street Journal; retrieved on 15
February 2015.


June–July 1998. On 31 December 1998, the rate was almost exactly 8,000 to 1 U.S. dollar.
Indonesia lost 13.5% of its GDP that year.
After the crisis, on 2000, the Malaysia's SOE acquired Indonesia's SOE, the example is the
banking sector, Maybank (Malaysian Banking Berhad, Malaysia state-owned bank) acquired
BNI (Bank Negara Indonesia, Indonesia state-owned bank) on December 29, 1999 – January
1, 2000, with the agreement signature by Abdurrahman Wahid (4th President of Indonesia)
and Salahuddin of Selangor (11th Yang di-PertuanAgong of Malaysia). The crisis also
brought independence to East Timor.

Asian Financial Crisis in Indonesia
The Asian Financial Crisis started on 2 July 1997 when the Thai government, burdened with
a huge foreign debt, decided to float its baht after currency speculators had been attacking the
country's foreign exchange reserves. This monetary shift was aimed at stimulating export
revenues but proved to be in vain. It soon led to a contagion effect in other Asian countries as
foreign investors - who had been pouring money into the 'Asian Economic Miracle countries'
since a decade prior to 1997 - lost confidence in Asian markets and dumped Asian currencies
and assets as quickly as possible.

The Indonesian Crisis Begins
Although the Asian region showed worrying signs, foreign investors initially kept confidence
in the Indonesian technocrats' ability to weather the financial storm (as they had done before
in the 1970s and 1980s). But this time, however, Indonesia would not get off scot-free. It
became the hardest-hit country because the crisis not only had economic but also significant
and far-reaching political and social implications.
When pressures on the Indonesian rupiah became too strong, the currency was set to float
freely starting from August 1997. Soon it began depreciating significantly. By 1 January
1998, the rupiah's nominal value was only 30 percent of what it had been in June 1997. In the
years prior to 1997 many private Indonesian companies had obtained unhedged, short-term
offshore loans in dollars, and this enormous private-sector debt turned out to be a time bomb
waiting to explode. The continuing depreciation of the rupiah only worsened the situation
drastically. Indonesian companies rushed to buy dollars, thus putting more downward
pressure on the rupiah and exacerbating the companies' debt situation. It was certain that

Indonesian companies (including banks; some of which were known to be very weak) would
suffer huge losses. New foreign exchange supplies were scarce as new loans for Indonesian
companies were not granted by foreign creditors. As the government of Indonesia was unable
to cope with this crisis it decided to seek financial assistance from the International Monetary
Fund (IMF) in October 1997.

The IMF Arrives and Chaos Continues
The IMF arrived in Indonesia with a bailout package totaling USD $43 billion to restore
market confidence in the Indonesian rupiah. In return it demanded some fundamental
financial reform measures: the closure of 16 privately-owned banks, the winding down of
food and energy subsidies, and it advised the Indonesian Central Bank (Bank Indonesia) to
raise interest rates. But this reform package turned out to be a failure. The closure of the 16
banks (some controlled by Suharto's cronies) triggered a run on other banks. Billions of
rupiah were withdrawn from saving accounts, restricting the banks' ability to lend and forcing
the Central Bank to provide large credits to the remaining banks to avert a complete banking
crisis. Moreover, the IMF did not try to curb Suharto's system of patronage that was
damaging the country's economy and undermining the IMF accord. This patronage system
was Suharto's tool to maintain power; in exchange for political and financial support, he gave
powerful positions to his family, friends and enemies (thus becoming cronies). Other
developments that were negatively impacting on Indonesia towards the end of 1997 were a
serious El-Nino drought (causing forest fires and bad harvests) and increased speculation
about Suharto's deteriorating health (causing political uncertainties). Gradually, Indonesia
was heading towards a political crisis.
A second agreement with the IMF was needed as the economy was continuing its downward
spiral. In January 1998 the rupiah lost half of its value within the time-span of five days only,
causing Indonesians to hoard food. This second IMF agreement contained a detailed 50-point
reform program, including provisions for a social safety net, a gradual phasing out of certain
public subsidies and the tackling of Suharto's patronage system by ending monopolies of a
number of his cronies. However, reluctance of Suharto to implement this structural reform
program faithfully, meant that the situation did not improve. Critics of the IMF, however,
point out that the institution pushed for too much reform within too little time, thereby
worsening the Indonesian economy. The IMF indeed made errors in its initial approach to the
Indonesian crisis but it did come to realize that the key in overcoming this crisis was to restart

private capital flows to Indonesia. In order for this to happen the patronage system had to be
broken down.

Indonesian GDP and Inflation 1996-199865:

GDP Growth











Inflation Growth



A third agreement with the IMF was signed in April 1998. The Indonesian economy and
social indicators were still showing worrying signs. But this time, however, the IMF was
more flexible in its demands than on previous occasions. For instance, large food subsidies
for low-income households were granted and the budget deficit was allowed to widen. But
the IMF also called for the privatization of state-owned companies, faster action on bank
restructuring, a new bankruptcy law and a new court to handle bankruptcy cases. It also
insisted on a closer monitoring of its implementation as recent experiences had shown that
the Indonesian government was not fully committed to the reform agenda.

The Crisis Hits its Climax
In the meantime, major social forces were at work as well. Demonstrations and criticism
directed towards the government of Suharto intensified severely after he was re-elected and
formed a new cabinet in March 1998. This provocative new cabinet contained a number of
members from his crony-group and therefore did little to restore confidence in the Indonesian
65Source: Hill, H. (2000). The Indonesian Economy, p. 264

market. After the government decided to reduce the subsidies on fuel in early May, largescale riots broke out in Medan, Jakarta and Solo. Although the IMF had given Suharto time
until October to reduce these subsidies gradually, he decided to do it all at once, probably
underestimating its impact or overestimating his own position. The tense atmosphere came to
a climax when four Indonesian students were killed during a protest at a local university in
Jakarta. It is suspected that an army unit of the special forces was behind these shootings
('Trisakti shootings'). The next couple of days Jakarta was plagued by the worst riots ever. As
had happened before, the ethnic Chinese - disliked for their assumed wealth - were often
target during these violent riots. Chinese stores and houses were burned to the ground and
Chinese women brutally raped. When the riots calmed down, over one thousand people had
lost their lives and thousands of buildings were destroyed. On 14 May 1998 Suharto stepped
down from the presidency when all politicians refused to join a new reorganized cabinet. The
financial crisis had fully grown into a social and political one.

A New Political System and the Start of Recovery
BacharuddinJusufHabibie, vice-president in Suharto's last cabinet and thus - by law replacing Suharto as Indonesia's next president, turned to the economic technocrats to deal
with the ongoing financial crisis. This resulted in a fourth agreement with the IMF. It was
signed in June 1998 and allowed the budget deficit to widen further while new funds were
pumped into the economy. Within the timespan of a couple of months there were some signs
of recovery. The rupiah began to strengthen from mid-June 1998 (when it had fallen to
16,000 rupiah per dollar) to 8,000 rupiah per dollar in October 1998, inflation eased
drastically, the Jakarta stock exchange started to rise and non-oil exports started to revive
towards the end of the year. The banking sector (center of the crisis) remained fragile as the
number of non-performing loans were high and banks were very hesitant to loan money.
Moreover, the banking sector had caused a sharp increase in government debt as this debt
was primarily due to the issuance of bank restructuring bonds. But, albeit fragile, the
country's economy improved gradually through 1999, partly due to an improving
international environment which caused a rise in export revenues.

Lessons Learned from the Indonesian Financial Crisis


It is interesting to question what chances are of such a crisis occurring again in Indonesia in
the foreseeable future. Most likely chances are small. First of all it needs to be stressed that
the Asian Financial Crisis hit Indonesia hardest of all involved countries because it was not
just an economic crisis. It started out as an economic crisis but became severely aggravated
because it was accompanied by a deep political and social crisis in which the government was
not willing to implement much needed economic reforms but instead was trying to cling on to
their hold of power. As an orderly and conducive political climate is of vital importance for
investor confidence, the uncertainties and tensions in Indonesian politics made many
investors turn their back to the country. Also after Suharto's fall, political uncertainties put off
many investors (foreign and domestic) to (re)enter the Indonesian market. Today, however,
Indonesia is well on its way towards full democracy, albeit its a process that is accompanied
by growing pains. Decades of authoritarian rule have depoliticized the people and political
institutions to a considerable extent. It will take time before the country can leave behind the
rank of 'flawed democracy' as measured by Economist Intelligence Unit for its Democracy
Index. But fair and free elections make sure that there has been more popular support for the
governments during the Reformation period than ever before. The decision to have the
president directly elected by the people is an important one, psychologically. Nonetheless, it
should be underlined that the Indonesian political climate is more volatile than longestablished democracies due to many dissenting forces looking to establish their position in
the young democracy. For a detailed account on this topic please visit our Reformation
Another important factor that seriously aggravated the financial crisis in Indonesia was the
terrible state of the Indonesian financial sector. This was caused by a culture of patronage and
corruption which lacked a decent supervision model. Even the Central Bank had no idea
about the flows of money (and resulting huge short-term private debt) which entered
Indonesia and caused a 'bubble economy'. The culture of patronage and corruption (and lack
of legal certainty) seriously hampered the functioning of an efficient economy and was a time
bomb waiting to explode. Since the end of the crisis, however, Indonesian governments have
made prudent financial measures to make sure a similar crisis cannot happen. Supervision on
liquidity of the banking sector is strict and transparent, 'hot money' is more carefully handled
(for example by halting short-term debts), and the government's debt-to-GDP is lower
(around 25 percent and showing a decreasing trend) than most economic advanced countries.
When the 2008 crisis hit, Indonesia saw a large outflow of money again but was able to

guarantee a stable economy due to good economic fundamentals. Even during this 2008-2009
crisis Indonesia showed robust growth with 4.6 percent GDP growth, mainly due to domestic
Graft scandals, however, still fill the pages of Indonesian newspapers almost on a daily basis.
Corruption and the clustering of capital in a small elite are still serious problems in the
country and hamper the economy from being efficient and righteous. In particular political
corruption is widespread and often used for benefit in the nation's business sector.

Economy of North KoreaNorth Korea’s economy is a centrally planned system, yet the roll of market allocation
schemes is limited. Although there have been scattered and limited attempts at
decentralization, as of 2015, PYONGYANG’S basic adherence to a rigid centrally planned
economy continues, as does its reliance on fundamentally non pecuniary incentives. 66 There
have been reports of economic liberalisation, particularly after KIM JONG UN assumed the
leadership in 2012, but recent reports conflict over what is happening.67
The collapse of communist governments around the world in 1991, particularly North
Korea’s principal source of support, the Soviet Union, forced the North Korean economy to
66Andrew Jabobs (October 14, 2012). “North Koreans See Few Gains Below Top Tier”. The New
York Times. October 15, 2012.
67Jeff Baron (March 11, 2013). “ Book Review: A Capitalist In North Korea”.38, North. School of
Advanced International Studies. March 11, 2013.

realign its foreign economy relations, including increased economic exchanges with South
North Korea, one of the world's most centrally planned and isolated economies, faces
desperate economic conditions. Industrial capital stock is nearly beyond repair as a result of
years of underinvestment and shortages of spare parts. Industrial and power output have
declined in parallel. During what North Korea called the "peaceful construction" period
before the Korean War, the fundamental task of the economy was to overtake the level of
output and efficiency attained toward the end of the Japanese occupation; to restructure and
develop a viable economy reoriented toward the communist-bloc countries; and to begin the
process of socializing the economy. Nationalization of key industrial enterprises and land
reform, both of which were carried out in 1946, laid the groundwork for two successive oneyear plans in 1947 and 1948, respectively, and the Two-Year Plan of 1949-50. It was during
this period that the piece-rate wage system and the independent accounting system began to
be applied and that the commercial network increasingly came under state and cooperative
The basic goal of the Three-Year Plan, officially named "The Three-Year Post-war
Reconstruction Plan of 1954-56", was to reconstruct an economy torn by the Korean War.
The plan stressed more than merely regaining the prewar output levels. The Soviet Union,
other East European countries and China provided reconstruction assistance. The highest
priority was developing heavy industry, but an earnest effort to collectivize farming also was
North Korea, one of the world's most centrally directed and least open economies, faces
chronic economic problems. Industrial capital stock is nearly beyond repair as a result of
years of underinvestment, shortages of spare parts, and poor maintenance. Large-scale
military spending draws off resources needed for investment and civilian consumption.
Industrial and power outputs have stagnated for years at a fraction of pre-1990 levels.
Frequent weather-related crop failures aggravated chronic food shortages caused by on-going
systemic problems, including a lack of arable land, collective farming practices, poor soil
quality, insufficient fertilization, and persistent shortages of tractors and fuel. Large-scale
international food aid deliveries have allowed the people of North Korea to escape
68 Ruediger Frank (October 2, 2012). "An Atmosphere of Departure and Two Speeds, Korean Style:
Where is North Korea Heading?”

widespread starvation since famine threatened in 1995, but the population continues to suffer
from prolonged malnutrition and poor living conditions. Since 2002, the government has
allowed private "farmers' markets" to begin selling a wider range of goods. It also permitted
some private farming - on an experimental basis - in an effort to boost agricultural output. In
December 2009, North Korea carried out a redenomination of its currency, capping the
amount of North Korean won that could be exchanged for the new notes, and limiting the
exchange to a one-week window.69 A concurrent crackdown on markets and foreign currency
use yielded severe shortages and inflation, forcing Pyongyang to ease the restrictions by
February 2010. In response to the sinking of the South Korean warship Cheonan and the
shelling of Yeonpyeong Island, South Korea's government cut off most aid, trade, and
bilateral cooperation activities, with the exception of operations at the Kaesong Industrial
Complex. In preparation for the 100th anniversary of KIM Il-sung's birthday in 2012, North
Korea continued efforts to develop special economic zones with China and expressed
willingness to permit construction of a trilateral gas pipeline that would carry Russian natural
gas to South Korea. The North Korean government often highlights its goal of becoming a
"strong and prosperous" nation and attracting foreign investment, a key factor for improving
the overall standard of living. In this regard, in 2013 the regime rolled out 14 new Special
Economic Zones set up for foreign investors, though the initiative remains in its infancy.
Nevertheless, firm political control remains the government's overriding concern, which
likely will inhibit changes to North Korea's current economic system.70

How the North Korea Economy Works
North Korea, officially known as the Democratic People’s Republic of Korea (DPRK), is
regarded as an unreformed, isolated, tightly controlled, dictatorial command economy. The
Korean peninsula was a Japanese colony from 1910-1945. As World War II drew to a close,
the Japanese forces in the northern region of Korea surrendered to the Soviet troops while the
American troops took charge of the southern region. The supposed reunification through
elections never took place in the Korean peninsula and the two regions appointed their
respective leaders. In 1950, Kim II Sung backed by the Soviets made an attempt to capture
69 “Asia Times Online :: Korea News and Korean Business and Economy, Pyongyang News”. July 17, 2010. March 31, 2014
70 "CIA World Factbook". CIA. 20 June 2014. 15 January 2015.

the US backed southern region (Republic of Korea), resulting in the devastating Korean War
Kim II Sung's aspiration of bringing the entire peninsula under his communist rule failed.
Soon after, North Korea (DPRK) established itself as a centrally planned economy but with
dynasty succession and not just one-party supremacy. Pyongyang adopted three guiding
policies: “a self-sufficient national economy”, “heavy-industry-first development” and
“military-economy parallel development”. Outsider experts feel that these policies have been
an obstacle in the country’s economic development. The shortcomings of the policies got
accentuated by the regime’s focus on son gun (military-first politics) which have landed
North Korea in a state of chronic economic problems. There is stagnation in industrial and
power output along with food shortages because of the systemic problems. According to the
Central Intelligence Agency (CIA) World Fact book, “Industrial capital stock is nearly
beyond repair as a result of years of underinvestment, shortages of spare parts, and poor
maintenance. Large-scale military spending draws off resources needed for investment and
civilian consumption.71
The economy of North Korea was hit hard since the fall of the Soviet bloc in 1991, the
impact of which is explicit in its average annual growth rate of -4.1 percent from 1990 to
1998. This resulted in a more than 50 percent fall in its total production from what it was at
the end of 1980s. There was a change of pace in 1999 when the economy showed signs of
recovery. During the period 2000-2005, the North grew at an average growth rate of 2.2
percent. There was a downturn yet again in 2006, and during the five year period 2006-2010,
only 2008 registered positive growth. DPRK has inched up since 2011.

71PrableenBajpai, “How The North Korea Economy Works”.


The Gross Domestic Product (GDP) of North Korea is estimated at $33.3 billion (2013), a
rise of 1.1 percent over the year 2012. In terms of GDP per capita, North Korea ranks at the
194 spot with its per capita GDP of $1,800 according to the CIA Fact book. As per the 2012
estimates, approximately 23.4 percent of GDP is contributed by agriculture, 47.2 percent by
industry and 29.4 percent by services. The agricultural sector employs around 35 percent of
the 12.6 million labor force. The main industries in the country are military products;
machine building, electric power, chemicals; mining (coal, iron ore, limestone, graphite,
copper, zinc, lead, and precious metals), metallurgy; textiles, food processing; tourism as per
CIA Fact book.

North Korea in Debt
Less than a month after becoming the first country to formally default on its loans since the
international debt crisis began in 1982, North Korea has agreed in principle to begin repaying
its Western creditors, according to banking sources. Apparently alarmed by a wave of
embarrassing publicity and the threat of legal action to seize its assets abroad, North Korea
has agreed to make its first payment to European creditor banks since March 1984, the
sources said Tuesday.
''It's an encouraging step forward, but we won't call off legal action for good until we see the
money and the rescheduling agreement is signed,'' said Michael P. Barrow, an executive of
72 Source: Bank Of Korea: Ministry of Unification

London-based Morgan Grenfell & Company, which heads one of the lending syndicates to
North Korea. Bankers in London said they hoped that a loan-rescheduling agreement, under
which North Korea would resume debt payments, would be signed by Oct. 2. The first
payment would be due the same day. No U.S. Banks Involved
North Korea's debts are relatively small and are not a significant worry for Western banks.
American banks are not allowed by law to lend to North Korea, and so the creditors are
European and Japanese institutions.
However, North Korea is regarded in banking circles as one of the most intransigent debtor
nations. European bankers say that North Korea has never repaid any principal on some $770
million lent by two bank syndicates in the early 1970's for construction projects and grain
Japanese banks have lent North Korea at least that much money, and North Korea is believed
to owe even more to the Soviet Union, China and Eastern European countries. The limit to
the patience of the Western European banks came earlier this year when North Korean
officials not only refused to make repayments but also demanded fresh loans of $200 million,
bankers said. As a result, the bankers last month formally declared North Korea to be in
While such a step could have been taken against many Latin American debtors, banks have
preferred to work with borrowers instead of suing them. It is up to the bank whether to
declare a delinquent borrower in default, and such a decision is usually followed by attempts
to seize the borrower's commercial property abroad. Legal Action Suspended
Bankers said Tuesday that they would suspend legal action to seize North Korean assets until
Oct. 2, to give North Korea a chance to sign a restructuring agreement and make a down
''We want to make sure this isn't a stalling tactic,'' one banker said.
Following the declaration of default, North Korea agreed in principle to a restructuring
proposal originally made by the banks in March, bankers said. North Korea was also said to
ask for two changes in the March proposal: a reduction in the down payment to $33 million
from $55 million, and an extension of the grace period to four years from three.

The leaders of the bank syndicates, the ANZ Banking Group and Morgan Grenfell, have
agreed to the two changes and other creditors are expected to go along. The down payment of
$33 million amounts to about 15 percent of the overdue interest.
If the down payment is made, and the restructuring agreement is signed, the state of default
would be lifted, bankers said.
Under the restructuring accord, interest will accumulate at a base rate of one and threequarters percentage points over the London interbank offered rate for West German marks.
Interest is to be paid regularly during the four-year grace period, and then the principal is to
be retired over the next eight years.73

What Brought Crisis to North Korea
In 1990, North Korea’s current account balance started to deteriorate because of rising
inflation, appreciation of the Korean won, and the recession of the world economy. The
current account in 1991 recorded a deficit of $8.7 billion, which was more than four times the
level of the preceding year. In order to finance the growing current account deficits, the
government encouraged capital inflows. In part to achieve this objective, in 1991, capital
account liberalization was accelerated by amending the Foreign Exchange Management Act.
The limited capital account liberalization implemented resulted in substantial capital inflows.
However, as policymakers were more concerned about the effect of these inflows on the
competitiveness of Korean exports through the appreciation of the Korean won, they tended
to overlook the resulting financial instability. In 1993, the Korean government also
announced a blueprint for financial sector liberalization that deregulated restrictions on asset
and liability management of financial institutions. However, the government neglected the
need for adequate prudential regulation in this move. This led to an increase in the short-term
foreign currency debts of financial institutions. Furthermore, as part of the requirements for
joining OECD in 1996, the government implemented further financial deregulation and

73 Nicholas D Kristof, “North Korea in Default Said to Relent on Debt”, New York Times, 17
September 1997

capital market opening. But it chose to liberalize short-term capital inflows ahead of longterm capital inflows.74
Indeed, the government in effect discouraged long-term foreign borrowing by business firms
as it required detailed disclosure on the uses of the funds as a condition for its permission. On
the other hand, short-term borrowing was mainly regarded as trade-related financing
requiring no strict regulation. These de facto incentives for short-term borrowing led banks
and business firms to finance long-term investments with short-term foreign borrowings. The
result was that in the banking sector, short term external debts accounted for 61% of total
external debts in 1996. Needless to say, such policies and practices created not only maturity
mismatches but currency mismatches as well.
Furthermore, the government policy allowed a rapid increase in the number of financial
institutions engaged in foreign currency-denominated activities in a rather short time. This
was particularly the case with merchant banks. Their number increased from six to thirty
from 1994 to 1996. Many of these merchant banks were owned by chaebols, and they acted
as the funding channel for chaebol investments. These merchant banks were heavily engaged
in borrowing cheap short-term Japanese funds from Hong Kong to finance mostly long-term
investment projects. Commercial banks also borrowed abroad at short-term maturities to
compete with the merchant banks for business. This further aggravated maturity as well as
currency mismatches on balance sheets of the financial and business sectors in Korea. This
was well demonstrated in the fact that 80% of short-term foreign debts were put into 70% of
long-term assets.75 At the end of 1997, total short-term external debts amounted to $63.8
billion while usable gross foreign reserves were only $9.1 billion. In short, by then it was
impossible for North Korea to solve the so-called “double mismatch” problems on its own.
As noted already, the mismatch problems stemmed significantly from weak prudential
supervision. The accounting and disclosure standards expected of financial institutions were
below international best practices, and market-value accounting was not widely practiced.
Due to weak financial supervision and high chaebol dependence on bank financing, risk was
concentrated on banks. Furthermore, chaebol leverage was extremely high for two reasons. In
the 1970s and ‘80s, they enjoyed preferential access to credit, and the nation’s tax laws
74 Y. C. Park, W. Song, and Y. Wang, 2004, 15-17.
75 Park, Song, and Wang, 2004, 18

allowed deductions for debt-related expenses. In any case, the average debt-equity ratio for
the manufacturing sector reached nearly 400% in 1997, double the OECD average, and the
average ratio for the top 30 chaebols exceeded 500%. Obviously Korea was suffering from a
high dose of capital structure mismatches as well.
It is significant to note that in spite of all the risks associated with these mismatches that
should have been evident long before the onset of the 1997-98 crisis, North Korea was, at
least on the surface, doing fine economically. North Korea was still one of the world’s fastest
growing economies with an average annual growth rate of 7-9% and a modest inflation rate
of about 5% a year for the three years leading up to the crisis. The ratio of its foreign debt to
GDP was less than 30%, the lowest among developing countries and less than that of many
industrially advanced countries. In addition, the government’s budget was balanced. Based on
these macroeconomic indicators, even IMF pre-crisis surveillance concluded that Korea was
not likely to become a victim of the financial crisis that was beginning to engulf Southeast
Asia in the summer of 1997.76 Thus, mismatches alone cannot fully account for the actual
In my view, there were at least three major developments that served as triggers for the
Korean financial crisis of 1997-98. One of these was the movement of the US dollar. A large
part of the investment in Korea, and for that matter elsewhere in the AsiaPacific region during
the first half of the 1990s, was undertaken with the expectation that the dollar would stay
weak. Moreover, while the dollar continued to weaken, the prospect of borrowing in the
dollar was too great a temptation for Asian investors to resist. However, from mid-1995, at
about the time Mr. Robert Rubin took over the US Treasury, Washington reversed its policy
of benign neglect of the dollar. For better or for worse, the US considered a strong dollar in
its national interest. As the dollar became stronger, particularly against the Japanese yen,
Korea’s export competitiveness suffered. This was the case for two reasons. As the US dollar
weighed heavily in the determination of the Korean won under the managed float system, the
Korean won failed to depreciate as much as the yen. In addition, Korean exports were similar
in composition to Japanese exports and hence competed directly in the international markets.
Consequently, as the dollar became stronger against the Japanese yen, Korea not only
experienced an accelerated increase in its trade deficit, but also a severe drop in the
profitability of investments undertaken for exports in particular. Some large business
76 IMF, 2003, 2-3

conglomerates ran into financial difficulties around this time and non-performing loans
(NPLs) at Korean banks sharply increased, thus undermining the financial soundness of
domestic banking institutions.77
A second trigger was a series of domestic developments that took place in 1997. In January,
the Hanbo group began to experience serious financial difficulty. In Korea, especially since
the days of the government-led industrialization drive, there had been the widely accepted
notion that when the chips were down the government “would not dare to allow a big horse to
die,” meaning that a large conglomerate whose survival had serious consequences in terms of
the stability of the whole economy would receive a financial bailout. There is little question
that in line with this notion the Hanbo management expected that the government would
arrange a bailout loan for the group at the very last minute. However, the government
economic policy team then in office refused to honor the notion. The team truly believed that
in an economy run on market principles, a chaebol group should stand on its own feet.
Furthermore, there were no resources in the public sector to provide help to chaebols in
financial difficulty such as Hanbo. The consequence was the beginning of bankruptcy
proceedings for Hanbo, Sammi, Jinro, and others.
The third trigger was a combination of international and domestic developments. While the
doubts in the minds of foreign investors were growing, the currency crisis of Southeast Asian
countries continued to deepen. This soon developed into a region-wide contagion. In late
October 1997, the contagion spread to Hong Kong in the form of a speculation attack on the
currency and a sharp decline in the stock market. Although the currency attack subsequently
failed, at the time it was not clear whether Hong Kong government authorities had the
capacity to prevent the contagion from developing into a full-fledged crisis. With Hong Kong
in difficulty, foreign creditors, particularly American and Japanese banks, refused to roll over
their loans to Korean financial institutions. This forced the Korean government to use its
limited foreign currency reserves to help Korean financial institutions honour their short-term
obligations. In this process a substantial portion of the nation’s foreign reserves was advanced
to the overseas branches of Korean banks. This quickly reduced the nation’s usable foreign
reserves to a dangerous level.

77 Kwan, 1998, 32.

How was the Crisis Immediately AddressedThe crisis in North Korea was not a traditional balance of payment crisis due to excessive
external debt. It was truly a liquidity crisis due to serious mismatches in maturity, in currency,
and in the capital structure in the balance sheets of the financial and non-financial sectors of
the economy. Since the crisis was a liquidity crisis, a rapid infusion of hard currency reserves
was critical more than anything else. However, what the IMF and the Korean government
agreed upon on December 3, 1997 was far from this. The total amount of money that the IMF
together with other international financial institutions offered to bail out Korea was $58.4
billion. Out of this, $23.4 billion was reserved as a second line of defence that would be made
available to Korea by G-7 countries only if the initial amount of $35 billion contributed by
the IMF and other multilateral institutions proved inadequate. The disbursement of the $35
billion was to be spread over more than two years until the year 2000, with each instalment
conditioned upon the progress Korea was to make in structural reforms and the further
tightening of its monetary and fiscal policies. It is worth noting that the amount Korea was
allowed to withdraw immediately after reaching the agreement with the IMF on December 3
was $5.6 billion. North Korea was allowed to withdraw an additional $3.5 billion on
December 18. Thus, the total amount Korea was able to withdraw during this 15-day period
was only $9.1 billion.
Foreign banks judged these amounts to be altogether inadequate, even in terms of meeting the
nation’s short-term obligations. Given the large amount of short-term obligations and the
precarious level of official foreign reserves, this judgment became a self-fulfilling prophecy.
As rollovers were refused, the limited foreign reserves were rapidly depleted. An internal
memorandum prepared by the Bank of Korea on December 18 that took into account both the
inflows of foreign funds expected during the ensuing 12-day period plus the foreign reserve
balance on hand and the outflows expected to take place during the same period showed that
the foreign reserve balance expected on December 31 would be anywhere from negative
$600 million to positive $900 million.78 No wonder foreign creditors further accelerated the
withdrawal of their funds from Korea, pushing the country to the verge of a sovereign default
in less than two weeks after the initial agreement was signed. Korea was able to avoid this
worst possible situation only with the help of the United States.
78 Kim Tae Hong (August 6, 2012). “ Economic Collapse Reflected in Scarce Electricity"August 6, 2012


On December 19, at the Korean government’s request, the U.S. government not only
persuaded the IMF to quickly enter into a new round of negotiations with the Korean
government for a further frontloading of bailout money, it also exerted its influence on the
financial institutions of G-7 countries to roll over their short-term credits to Korea for one
month. In return for this favor, they were promised to have an opportunity to reach an
agreement with the Korean government in restructuring their outstanding short-term loans to
Korea. In accordance with this promise, the Korean government and foreign banks managed
to reach an agreement on January 28, 1998 that led to restructuring nearly 95% of Korea’s
short-term debt by March 18, 1998. However, it is important to note that in rescheduling
these debts, foreign banks charged extraordinarily high interest rates, ranging from 2.25% to
2.75% point above the then prevailing six-month LIBOR interest rate of 5.66%.79

What Majors Reforms Have Been Implemented Subsequently
These reforms have been undertaken to achieve two overriding goals: (1) to reduce the
likelihood of a similar crisis in the future by cleaning up the balance sheets of financial
institutions and (2) to evolve a financial system that can best help the nation resume growth
with stability. At this point, it is not at all clear if Korea has achieved the second goal. By
2002, Korea’s growth seemed to have rebounded, but over the past few years, since 2003,
growth has been lackluster at best. For the past three years Korea’s average annual growth
rates have been in the 3-5% range, which is generally regarded below the nation’s potential.
In any case, the contents and significance of the reforms that have been actually undertaken
to date can best be reviewed under six headings: (a) reforms designed to strengthen the legal
and regulatory infrastructure, (b) reforms implemented to rehabilitate the financial sector, (c)
reforms aiming at strengthening prudential regulation, (d) reforms to reduce moral hazard, (e)
reforms to promote capital account liberalization and (f) reforms to strengthen the corporate
governance of financial institutions.
Strengthening Legal and Regulatory Infrastructure.
Obviously the first step in comprehensive financial-sector reform was laying out a statutory
and regulatory framework to implement necessary reforms. On December 29, 1997, thirteen
financial bills, including a bill to establish a consolidated financial supervisory authority,
were enacted. It is ironic to note these bills were for the most part based on recommendations
79 IMF, 2003, 20.

made by the Presidential Financial Reform Commission that had been launched in January
1997, and the bills were for all practical purposes the same bills the national legislature had
refused to act on on November 16. In any case, thanks to this legislation, the Financial
Supervisory Commission (FSC) was established on April 1, 1998, and in January 1998,
existing separate financial supervisory organs were merged into a consolidated Financial
Supervisory Service (FSS) to serve as an administrative body for the FSC. In addition, the
Financial Industry Restructuring Act was amended so as to give FSC and FSS effective
statutory authority to order write-offs, mergers, suspension, and closure of ailing financial
institutions. Earlier, the Korea Asset Management Corporation (KAMCO) was reorganized
and an NPL resolution fund was created within KAMCO to facilitate the purchase of
nonperforming loans from financial institutions.80
Rehabilitating Financial Institutions.
Korea’s banking sector had two major problems: inadequate capitalization and poor-quality
assets. This was of course due to the large number of chaebol bankruptcies that damaged
banks’ balance sheets. These balance sheets carried many non-performing loans. In order to
address these problems, the government had to step in with public funds. Although the
injection of public funds was sure to generate public controversy, the government had no
choice if it wanted to have a workable financial system for the nation. Once the government
decided to inject public funds to rehabilitate the financial system, the first question it had to
resolve was what exactly constituted “non-performing loans.” Before the crisis, only loans in
arrears for six months or more had been classified as non-performing loans. In estimating the
true magnitude of the NPLs, the government decided to include loans in arrears for three
months in line with internationally acceptable standards. Using this standard, the government
estimated the total size of the outstanding NPLs at 118 trillion won or roughly 28% of
Korea’s GDP in 1998 This was twice the amount of NPLs estimated earlier on the old asset
classification standards.
Other non-bank institutions including securities companies, insurance companies, investment
trust companies, mutual savings and financial companies, credit unions, and leasing
companies went through more or less similar restructuring processes as commercial and
merchant banks.

80 Lim and Hahm, 2004, 16.

Strengthening Prudential Regulations.
In December 1999, under the terms agreed with the IMF, the Korean government
strengthened prudential regulation by introducing a forward-looking approach in asset
classification, taking into account the future performance of borrowers in addition to their
track record in debt servicing. In March 2000, the asset classification standards were further
strengthened with the introduction of the enhanced FLC classifying loans as non-performing
when future risks are significant even if interest payments have been made without a
problem. Other measures the FSC took over the past several years to strengthen prudential
regulations include strengthening regulations on short-term foreign borrowing by banks,
strengthening limits on bank lending to large borrowers, and strengthening disclosure
requirements for financial institutions.81
Promoting Capital Account Liberalization.
In order to further liberalize capital account transactions, the government has taken numerous
measures over the past several years. For example, a free-floating foreign exchange rate
system was adopted in December 1997. Restrictions on M&As by foreigners were abolished
in February 1998. Furthermore, foreign investment in Korean equities listed in the Korean
Stock Exchange and KOSDAQ was fully liberalized in May 1998, and foreign investment in
the equities of non-listed firms was permitted in July 1998. The government also
implemented full liberalization of foreign investment in Korean bonds in December 1997,
full liberalization of money market instruments in May 1998, and abolition of restrictions on
foreign ownership of land and real estate on the basis of national treatment in July 1998. It
should also be noted that beginning this year, no advance permission is required for any
international capital account transactions; many transactions, however, need to be reported ex
Strengthening Corporate Governance of Financial Institutions.
In order to strengthen the governance of financial institutions many measures have been
taken. They include allowing foreigners to own commercial banks and become bank
executives in December 1997 and May 1998, respectively, improving governance of financial
institutions and strengthening the rights of commercial bank minority shareholders in January

81 Bank of Korea, “Quarterly Bulletin”, September 1998.

2000, and raising the limit of bank ownership of domestic residents from 4% to 10% in April

ConclusionFirst point relates to the sequencing of capital account liberalization. North Korea’s decision
to liberalize short-term capital flows ahead of long-term capital flows was a serious mistake.
North Korea should have realized that short-term capital flows are more volatile than longterm. North Korea believed that short-term capital flows are largely related to trade financing.
In this day of financial globalization, trade financing accounts for 20 only a very small part of
international capital flows. Anyhow, by liberalizing short-term before long-term flows, Korea
accumulated far too much short-term liability, which led to uncontrollable mismatches in
maturity and currency.
Second point has to do with the superiority of a pure floating exchange rate system over a
managed floating system. Under a managed floating system, the market mechanism is
hindered from correcting trade or current account imbalances. Furthermore, in today’s world
it is beyond the capacity of policymakers to adjust exchange rates correctly in a timely
fashion. Not only do they not have information needed for this task, but they are also often
shackled by political forces in making necessary adjustments in a timely way. What’s more,
in periods leading up to a full fledged crisis, policymakers often fear that if they start making
big adjustments, at once the exchange rate will freefall, leading to a situation beyond their
control. As a result, they make small adjustments, which encourage speculative attacks on the
Last point has to do with the extent of liquidity a country needs to secure once it is in crisis. It
has been noted in this presentation that the initial assistance package worked out between the
IMF and North Korea fell far short of the country’s liquidity needs. Recall that the further
front loading of funds agreed to at the end of the second round of negotiations was not
sufficient to deal with the country’s liquidity needs. Only when foreign lenders were
persuaded by the US government to keep rolling over the existing short-term debts in return
for an opportunity to renegotiate these debts were North Korea’s liquidity needs met.

82 Bank of Korea, “Quarterly Bulletin”, December 2003.

The Greek sovereign debt crisis has over the years raised a lot of questions about the viability
of Euro and the EU integration project but above all it serves as an example to the world of
how poor management of public crisis can lead to a certain economic catastrophe. Ever since
its inception in 2009, the debt crisis in Greece has gone through various phases including the
cutbacks and adoption of austerity measures to protests and new elections and change of
leadership in the country. It has captured the attention of world and been analysed from
umpteenth point of views. In this part of the project, the same has been done again. This part
of the project deals with the following points:

Origin of Debt Crisis in Greece;
Likely Causes of the crisis,
On-going outcomes of the crisis;
Tackling Measures.

Origin of Debt Crisis in Greece
Greece kicked off the crisis in 2009 by admitting its budget deficit would be 12.9% of GDP,
more than four times the EU's 3% limit. Fitch, Moody's and Standard & Poor's warned
investors by lowering Greece's credit ratings. Unfortunately, this also drove up the cost of
future loans, making it more unlikely that Greece could find the funds to repay its debt.By
April 2010, Greece had lost market access, as the economy was contracting by 3% in real
terms, the fiscal deficit - partly on account of unreported spending - reached 15% of GDP,
and public debt rose to more than 125% of GDP. This was the result of integration with the
euro zone upon which access to low-cost credit boosted domestic demand in Greece as in
with other peripheral countries. Years of strong growth masked underlying vulnerabilities that
were undermining competitiveness and produced large inefficiencies in the public sector.
In early 2010, Greece announced an austerity package, designed to reassure the agencies it
was fiscally responsible by lowering the deficit to 3% of GDP by 2012. Just four months
later, Greece warned it might default. By May 2010, the government requested a financial
bailout from the IMF and the EU. The government signed a memorandum of economic and
financial policies for a three-year programme with the so-called “troika”: the IMF, the
European Commission and the European Central Bank. The programme provided EUR110bn

loans disbursed quarterly over a three-year period in exchange for the Greek government’s
commitment to an ambitious macroeconomic adjustment plan. The EU-IMF programme had
the dual objective of undertaking a large fiscal adjustment to address fiscal insolvency and,
simultaneously, achieving “internal devaluation” to close the competitiveness gap. The EU
and the the IMF have provided a total of €240 billion in emergency funding in return for
austerity measures83.
Unfortunately, these measures further slowed the Greek economy, reducing the tax revenues
needed to repay the debt. The funding only gave Greece enough money to pay interest on its
debt and keep banks capitalized and barely running. Unemployment rose to 25%, riots
erupted in the streets, and the political system was in an upheaval as voters turned to anyone
who promised a painless way out. A snap parliamentary election was held in January 2015
following the rejection of the government’s candidates for the president in parliamentary
votes in December 2014. The premature election threatened to endanger the recently gained
Greek economic recovery, because of the political uncertainty of what would follow and the
unavoidable delay of continued implementation of structural reforms. 84 The rising political
uncertainty also caused the Troika to suspend all scheduled remaining financial aid to Greece
under its bailout programme, while noting its support would only resume pending the
formation of a newly elected government respecting the already negotiated terms 85. Opinion
polls ahead of the election provided the anti-bailout party Syriza with a lead, causing adverse
developments on financial markets, with the Athens Stock Exchange suffering an
accumulated loss of roughly 30% since the start of December 2014, and the interest rate of
the ten-year government bond rising from a low of 5.6% in September 2014to 10.6% on 7
January 2015. The Syriza Party won the election and formed a new government, which
declared the old bailout agreement was now cancelled, while requesting acceptance of an
extended deadline to 31 May 2015 for the process to negotiate a new replacing creditor
83 Antonio G Pascual and PierroGhezzi, “the Greek Crisis: Causes and
Consequences” CESifo working paper series, November 2011.
84"Stakes rise for Greece as risky election looms". News reported on CNN dated
23 December 2014 available at
85 News report dated March 3, 2015 available at


agreement with the Eurogroup. On 4 February 2015, the European Central Bank applied

pressure on Greece’s new government by restricting loans to its financial
Causes Leading to the Crisis
The Greek Debt Crisis also known as the ‘Greek Depression’ is an outcome of combination
of structurally weak economy of the country along with decade long preexistence overly high
structural deficits and debt to GDP level on public accounts. It is a consequence of Great
Recession and a part of ongoing euro debt crisis.
In 2007, EU economies, on the surface, seemed to be doing relatively well – with positive
economic growth and low inflation. Public debt was often high, but (apart from Greece) it
appeared to be manageable assuming a positive trend in economic growth. However a series
of events triggered and resulted in failure of Greece to pay back the money it owed.During
the credit crunch, many commercial European banks lost money on their exposure to bad
debts in US, the credit crunch caused a fall in bank lending and investment; this caused a
serious recession (economic downturn). This in turn led to fall in European house prices
which increased the losses of many European banks.The recession caused a steep
deterioration in government finances. When there is negative growth, the government receive
less tax plus there was increased spending by the government on unemployment benefits
which in turn led to rise in Debt to GDP Ratio87.
Meanwhile, the market had assumed that Euro zone debt was safe. Investors assumed that
with the backing of all Euro zone members there was an implicit guarantee that all Euro zone
debt would be safe and had no risk of default. Therefore, investors were willing to hold debt
at low interest rates even though some countries had quite high debt levels (e.g. Greece,
86 Jeff Black, “ECB shuts off direct funds to Greece” dated February 5, 2015 available at

87The most useful guide to levels of manageable debt is the debt to GDP ratio. Therefore, a fall in

GDP and rise in debt means this will rise rapidly. For example, between, 2007 and 2011, UK public
sector debt almost doubled from 36% of GDP to 61% of GDP (UK Debt – and that excludes financial
sector bailout). Between 2007 and 2010, Irish government debt rose from 27% of GDP to over 90%
of GDP (Irish debt)


Italy). However, after the credit crunch, investors became more skeptical and started to
question European finances. Looking at Greece, they felt the size of public sector debt was
too high given the state of the economy. People started to sell Greek bonds which pushes up
interest rates. Unfortunately, the EU had no effective strategy to deal with this sudden panic
over debt levels. It became clear; the German taxpayer wasn’t so keen on underwriting Greek
bonds. There was no fiscal union. The EU bailout never tackled fundamental problems.
Therefore, markets realized that actually Euro debt wasn’t guaranteed. There was a real risk
of debt default. This started selling more – leading to higher bond yields.Usually, when
investors sell bonds and it becomes difficult to ‘roll over debt’ – the Central bank of that
country intervenes to buy government bonds. This can reassure markets, prevent liquidity
shortages, keep bond rates low and avoid panic. But, the ECB made it very clear to markets it
will not do this. Greece had a very large debt problem even before joining Euro and before
the credit crisis. The credit crisis exacerbated an already significant problem. The Greek
economy was also fundamentally uncompetitive.

Ongoing Outcome of the Crisis
The crisis and its related outcomes are continuous and omnipresent in the EU market. It has
led to many changes in the market as well as political structure of the country. The threats by
eurozone officials to financially strangle Greece by cutting off credit it needs to finance its
debt are heightening military and geostrategic rivalries between the major powers. Many
believe that the reforms undertaken by Syriza have only cracked the surface and are not
enough to bring forth the changes that are needed to prevent Greece from turning into
“Weimer Germany”. The mix of austerity policies imposed by the International Monetary
Fund, the European Central Bank and the European Commission and implemented by the
Greek governments for the past five years led to unprecedented misery and anger. The unjust
and unfair across-the-board spending cuts and the enormous tax hikes to pay off massive
debts targeted the symptoms and not the root causes of the crisis.88
The newly elected regime has brought about new reforms but have only managed to keep
their heads above the water. Economy in Greece is suffering from far more acute diseases
88 Aristides H Hastidiz, “Greece needs broader structural reform than Syriza has
proposed” the New York Times, published on January 29, 2015 available at accessed on 07 march, 2015 at 2315hrs.

than a lackadaisical structure and debt. There is no competitiveness. There are no free
enterprises. The whole system is clogged with corruption, red-tapism threatens the system
and public sectors are overprotected.In the World Economic Forum's latest Global
Competitiveness Report, Greece ranks awfully for wastefulness of government spending
(140th out of 148 countries), burden of government regulation (144th), efficiency of the
judicial system (138th), and the effects of taxation on incentives to invest (142th) and on
incentives to work (137th).

Tackling Measures
Since the beginning of 2010, the Greek economy is going through a transformation process.
The economic policy mix, founded on frontloaded fiscal consolidation and wide-ranging
structural reforms, has moderated markedly the macroeconomic and fiscal imbalances. The
Economic Adjustment Program of Greece has resulted to a sizeable reduction in
macroeconomic and fiscal imbalances. An unprecedented fiscal adjustment has yielded a
general government deficit decline by more than 9 percentage points of GDP, from 15.6% in
2009 to 6.1% in 2012 while according to the more recent Eurostat data the deficit declined
even further in 2013 reaching 2.1 %. (excluding the one-off bank recapitalization costs).
Similarly, the primary budget deficit improved from 10.4% of GDP in 2009 to 1.1% in 2012
while primary surplus was recorded in 2013, for the first time after more than a decade. The
Economic Adjustment Program has also yielded considerable gains in terms of price and cost
competitiveness that reflect the sizeable improvement in unit labour costs as well as the
phasing-out of the downward price stickiness associated with hurdles in the business sector
competition and of increases in indirect taxation and administered prices. In terms of
structural competitiveness, considerable progress has been achieved.

There have been numerous reforms introduced in the country that seek to develop and
protect entrepreneurship and include investment licensing reform. The government
has adopted strategy paper in june 2013. The primary objective of the reform is to
implement a radical change and simplification of the current licensing regime under a
single regulatory framework that governs both compliance rules and control systems.
The main principles of the reform are:


Transition from “processing requests and approvals” system to “declaration of

system based on performance specifications



Responsibility to demonstrate proof of compliance by the enterprise “Compliance

Transfer of the audit burden from the stage of licensing to the stage of activity

Establishment of accreditation for all public and private sector licensing stakeholders,

based on standard organizational and operational specifications.
Establishment of a centralized licensing tracking system.

The involvement of OECD, has been critical on identifying, collecting and mapping existing
regulations and laws in four vital sectors i.e. tourism, building materials, retail and food
processing. Support extroversion via a new Agency set to promote exports and attract FDI,
while utilizing resources more efficiently and effectively. The World Bank (WB) has already
identified the deficiencies in the sector and has advised the Greek authorities to move quickly
to the direction of improving the conditions for investments in logistics. Following the WB
assistance a National Logistics Strategy has been presented by Ministry of Development
together with the Ministry of Transport, with a view to:

Guarantee that Greece can deliver competitive and high quality logistics services.
Reinforce reliability on doing business in Greece Remove barriers to entry and

simplify the licensing procedures.
Clarify the notion of logistics within the NSRF framework. Enhance transparency and
legal secure in the establishing and operating a business.

Other reforms have been undertaken to support start-ups including reduction of capital
requirements and simplification of procedures along with reduction of administrative
burdens. Several measures are adopted in order to help Greek enterprises and especially
SMEs, which are the backbone of the Greek economy, to access capital with improved terms
and conditions, given the gap in comparison to their European counterparts. Apparently, the
bulk of the capital is envisaged to come through private funds and FDI, however part of the
structural funds and other mechanisms and institutions can have an important added value in
this respect. A reform of the public procurement legislation including works, supplies and
services under the coordination of the SPPA has been planned with a view to:



simplifying, streamlining and consolidating the body of public procurement


rationalising the administrative structures and processes in public procurement to


desired procurement results in terms of efficiency and efficacy;
improving national review procedures, including the reduction of delays triggered
by the redress system and assessing the role to confer to the SPPA in the area of
redress (remedies and judicial protection).

The implementation of the NSRF operational programmes is directly affected by the
economic developments and the conditionality stemming from economic adjustment
programme. In this respect, a series of initiatives have been undertaken in order to comply
with the MoU requirements on the absorption rates but also to facilitate the financing of the
real economy and the smooth flow of liquidity, by also ensuring that quantitative and
qualitative management of the funds is improved. Additionally steps are taken to speed up
implementation by simplifying the administration and institutional framework of the cofinanced projects.




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