The Foreign Debt: Catastrophe or Oportunity?
Our foreign debt is unpayable, but we pay it. Its weight is heavy enough to make Nicaragua unviable. There will never be development if this problem is not resolved. The situation is so serious that it will carry us into an abyss -- or else it will provide us with an opportunity and will oblige us to elaborate in joint fashion an economic plan that requires debt forgiveness and justifies it.
Nitlapán-CRIES research team
Although both Nicaragua's government and its population is aware that the country is up to its eyebrows in debt, very few understand the true magnitude of the problem.
Proportionate to its population, Nicaragua is the most indebted country on earth. According to official data, Nicaragua's total foreign debt as of December 31, 1993, was only $12.8 million short of US$11 billion, which comes to about $2,575 for every Nicaraguan man, woman and child.
This debt equivalent to over six times Nicaragua's 1993 gross domestic product (GDP is divided as follows: just under $5.93 billion is in the current loan portfolio, while the remaining $5.06 billion of principal and interest is in arrears.
The annual service just on debts coming due over the next seven years will reach an average $622 million nearly twice the annual overage of goods and services exported in the past five years. To this must be added an average of $220 million in cumulative interest on the old, unpaid debt balance, for a yearly total of $842 million 48% of the country's GDP in 1993. The interest service alone both current and that charged on the back debt equals 124% of Nicaragua's yearly exports.
The current period is characterized by a drop in the flow of donations from the international community. But even if the country could obtain enough new disbursements from the international community to simultaneously meet its interest payments on the debt and finance its trade deficit (assuming the gap could be maintained at current levels), the amount of Nicaragua's debt will continue climbing some $520 million each year, without even counting the service on the portion of those disbursements that represents loans rather than donations. The arithmetic below (expressed in US$ millions) show how this works.
The country has what is technically known as "strong debt overhang," in which the debt represents an excessive burden that provokes serious imbalances. The problem is not only that the bulk of the debt and even the service on it is unpayable, but that the looming "overhang" itself acts as a disincentive to private investment, thus shrinking the country's future payment capacity even further. It is a vicious circle from which the country must extricate itself if it is to be viable.
To say that the debt is unpayable does not mean an unwillingness to pay. Nor is it an ethical position, as when one speaks of Europe's "moral debt" also unpayable with the countries it conquered and colonized five centuries ago. The figures speak for themselves: if the debt service itself is unpayable, the debt as a whole is unpayable by definition.
The solution would be to reduce the trade gap until the country is ultimately exporting more than it imports, rather than the reverse. But increasing exports requires enormous supplementary investments, which the country is too indebted to attract. Nor can shrinking consumption, particularly of imports, be the solution in a country with a per capita GDP of $425 annually, one of the lowest in the world.
Given this panorama, private international banks are logically unwilling to provide loans, the international lending agencies become increasingly unwilling to throw good money after bad and the country's bilateral creditors, with very few exceptions, tend to line up behind that position.
Three Steps Must be TakenEscaping the debt cycle presupposes three fundamental steps:
1. Export more. The negative tendency in the trade balance obviously cannot be reversed without adequate investment levels, which translates into new imports, since Nicaragua produces very few capital or intermediate goods.
2. Import less. Appropriate policies must be designed to reduce the consumption of finished import goods and stress the import of capital and intermediate goods. Alongside that, a policy is required that systematically favors less capital intensive productive projects and activities, ones that are based more on the use of national resources (particularly its human resources) and technologies that preserve its ecological wealth.
3. Reduce the debt service. The international resources the country does receive should be reoriented toward economic growth until the country becomes viable.
Foreign investment and the repatriation of Nicaraguan capital that has fled the country are important keys to growth and the shrinking of external imbalances under any conditions, but under the present ones these are the most fragile variables of all. Although the balance of payments showed a reversal of the chronic capital flight phenomenon for the first time in 1993, it is very dangerous to make excessively optimistic assumptions such as those of the government on this basis. It is generally considered that when a country programs high debt service, this acts as a tax on the profitability that the private sector expects from its capital. In itself, reducing the foreign debt is a positive step: it stimulates private investment both directly, through the psychological factor, and indirectly, since the greater public investment levels it permits play an important role in facilitating private investment.
Despite the positive effect of both foreign investment and repatriated Nicaraguan capital on the country's balance of payments, however, a fundamental difference exists between the two. In the long run, foreign investment replaces the financial outflow of debt service with that of the foreign investor's earnings. Given the profitability investors require, there is no formal difference between foreign investment and a debt at market, or non concessionary, interest rates.
Renegotiation StrategyThe magnitude of Nicaragua's foreign debt problem requires that the country carefully design a strategy to resolve it. The following proposal for renegotiating Nicaragua's debt is based on three fundamental, closely related and interdependent ideas.
1. Renegotiate each debt from an overall strategy. Even bilateral renegotiations must be framed within this strategy, in order to mobilize the backing of the international lending agencies, increase the possibility of its favorable reception in the Club of Paris, and win the support of the nongovernmental organizations most actively involved in trying to resolve the issue of the third world debt.
2. This global strategy must include an economic reactivation plan. Carrying out this plan will be largely conditioned by the degree to which the service and overall amount of the debt can be reduced through the renegotiation.
3. Nicaragua must put its own house in order. Steps one and two will not be possible unless they have political consensus and the support of Nicaraguan society's principal economic sectors. They will also not be possible unless both the strategy and the plan are correctly and firmly made operational within every facet and at every level of the government's economic policy.
An Argument In Favor...One weighty argument favors the success of this strategy, and another, equally weighty one goes against it. The favorable argument, paradoxically, is that Nicaragua's foreign debt situation is virtually the most serious on the planet: the country has the highest per capita debt and the second highest one proportionate to its GDP in the world.
The World Bank has developed the category "Severely Indebted Low Income Country" (SILIC) and a set of criteria to define which countries belong within it. SILICs are countries with:
* a per capital GDP under $610
(Nicaragua's is $425)
* an overall debt higher than 50% of its GDP
(Nicaragua's is 630% higher)
* a debt service greater than 50% of its export of goods and
(Nicaragua's is 240%)
* interest payments higher than 20% of its export of goods FOB
(Nicaragua's is 130%)
Applying these criteria just to the debt that Nicaragua has prioritized for payment and is effectively paying puts it well into the SILIC category: service on this part of the total debt alone reaches 60% of Nicaragua's export of goods and services, and the interests alone on it represent 30% of its FOB exports.
Classifying a country as a SILIC is an advantage, because there is a certain international consensus that giving preferential treatment to SILICs does not endanger the international financial equilibrium.
...and an Argument AgainstThe argument against the success of the strategy suggested above is that Nicaragua has absorbed a tremendous amount of international aid in the past four years, the principal result of which has been the artificial maintenance of its huge imbalances. This does not exactly entice the Club of Paris countries to accept the argument that it needs even more because this time the aid will be well utilized and will trigger the growth the country so desperately needs.
Nicaragua received US$3.24 billion between 1990 and 1993, of which $660 million represented a reprogramming of the debt. Of the remaining $2.58 billion, $920 million went to debt service and the other $1.66 billion was used finance the trade deficit (together with $120 million from the government's hard currency reserves and $35 million from private capital). Final consumer goods represented $915 million of this trade gap, nearly half of the country's entire imports for the 1990 93 period.
Given this critical and very questionable situation, it is indispensable to accompany the debt renegotiation strategy with an economic plan that helps reduce the external imbalances in the medium run, encourages investment rather than consumption (without shrinking still further the squalid consumption levels of the most impoverished) and has enough social and political consensus to guarantee its viability.
If a large part of the international aid has been absorbed by debt service and consumer imports over these past four years, it is now necessary to reduce both so that the aid can be redirected toward progressively reducing the country's overall imbalances. In other words, so it can be redirected toward investment and national value added production.
Five Creditor GroupsThe renegotiation strategy should take into separate consideration each of the five types of creditors:
* foreign commercial banks
* bilateral creditors from the Club of Paris
* bilateral creditors from the former socialist bloc
* the Central American countries
* the multilateral finance institutions
With the commercial banks, the objective is to obtain enough foreign funds some $100 million to buy back all of this debt from the secondary market before its price rises due to the other negotiations, should they be successful.
With the bilateral creditors from the Club of Paris, it is advisable to wait until the December 1994 meeting with the Club before presenting a request that the entire debt contracted prior to November 1988 be pardoned. In the meantime, the second half of 1994 should be used for a strategy of seeking consensus with each country, supported by the European nongovernmental organizations directly involved in the debt issue, particularly those with the most pull in Nicaragua's major credit countries: Germany, Spain, the United States, France, Austria, Holland and Italy.
With the formerly socialist countries, it is recommendable to seek a combination of partial exoneration (especially of the accumulated back interest) and a triangulation of these countries particularly Russia with Nicaragua's main creditors in the Club of Paris. The objective of this would be for the Club of Paris countries to pardon similar amounts for those countries that pardon Nicaragua's debt. This goal should be included in the strategy of seeking sup port prior to the meeting with the Club of Paris.
With Central America, special treatment of Nicaragua's $830 million debt in the region is justified by the fact that Nicaragua, with almost half of Central America's total debt, is the region's most indebted country, and is the poorest by far. Both factors make it a major fetter on regional integration. This special treatment should include strengthening links with the regional economic cooperation and promotion bodies, including the Central American Economic Investment Bank (BCIE), which could receive European Community support.
With the multilateral finance institutions, Nicaragua should not content itself with its excessively "respectful" attitude, repeating endlessly that "no negotiation is possible," when Europe and the United States are increasingly aware that the South's debt with these institutions is becoming the international financial system's major problem.
Furthermore, the relative "solving" of the bilateral debt problem in the second half of the 1980s has made the multilateral institutions' position more fragile. This opens new opportunities for the countries of the South, particularly this year, when the International Monetary Fund and the World Bank are celebrating their 50th anniversary and the universal clamor is mounting for a profound change in these institutions born of the Bretton Woods accords. "Fifty years is enough" is the slogan of the campaign urging this institutional change.
It has become increasingly evident to the donor countries most of them also Club of Paris creditors that their aid to the underdeveloped countries is serving less to help them develop than to pay their debt to the multilateral agencies. This is leading them to rethink their cooperation policy and to advocate that the multilateral debt issue be considered in conjunction with that of aid.
Nicaragua's programmed service to the multilateral agencies during 1994 96 the period of the Extended Structural Adjustment Facility (ESAF) is $415 million, which represents 94% of the volume of liquid loans (in other words, available cash) that Nicaragua will receive with this program. But the essential part of Nicaragua's multilateral debt (about $800 million) is with the Central American Economic Investment Bank (BCIE) and the Interamerican Development Bank (IDB), and on very "hard" terms.
While the negotiation with the BCIE should be included in the Central American strategy, together with the other regional financial agencies, the IDB will require a specific strategy and the support of that bank's creditor countries, especially the United States.
This renegotiation package as a whole should be developed during the second half of 1994 and throughout 1995. Its goal should be to get 90% to 95% of the bilateral debt pardoned, together with various other mechanisms such as trading the debt for investments.
To help defend this renegotiation strategy, we have imagined four scenarios, calculating the limits that the external sector imposes on Nicaragua's economic growth from here to the year 2000, and relating that to the burden the foreign debt service represents to the economy.
Scenario One: Eternally Unpayable DebtThe situation in 1993, prior to signing the ESAF, is prolonged in 1994. In this scenario, there would be no new renegotiation of the debt and Nicaragua's Central Bank would only service the priority debt, as before the ESAF accord, based on the prospect of palpably diminishing foreign resources.
With such a strong drop in liquid foreign exchange coming into Nicaragua, the need for international private capital in order to meet desired growth rates already an unlikely $200 million in 1994 would become even more improbable, particularly given the country's domestic tensions and insecurity. Even with service limited to the priority debt, the overall debt amount would grow even more rapidly than in the past, due to the compounding of accumulated back interest. By the year 2000, it would reach some US$15.8 billion, which would represent 5.8 times the country's GDP in the first year of the 21st century. This estimate assumes that some $500 million in private resources would arrive annually by then, which would provide the basis for an economic growth at least a bit higher than that of the population growth.
Scenario Two: Relief but No ChangeThe accords with the international financial institutions are fulfilled. In this scenario, the $440 million flow of cash loans for the 1994 96 period in the ESAF context would permit a 40% greater service on the priority debt than in scenario one ($2.35 billion from now to the year 2000 instead of $1.7 billion). The reduction of the overall debt would be limited to a pardoning of the arrears with the international commercial banks and Russia.
The need for private foreign capital would, at the beginning, be much lower in this scenario than in the first one, and at least in 1994 would probably be feasible ($130 million, the same as in 1993). But it would grow rapidly, reaching some $700 million in the year 2000.
In addition to this excessive foreign capital requirement, the scenario would evolve into a very negative situation in the medium run even in favorable conditions of social stability because the relation between the debt and the economic indicators would remain at critical levels. The debt would rise to $10.7 billion four times the GDP by the year 2000, while the service on it over these same years would go from 60% of the export of goods and services to 70%. Interests would remain at 44% of FOB exports, without including the interest on the arrears balance (some $75 million annually).
Scenario Three: Some Relief in 2000The renegotiation with the bilateral creditors is successful. In this scenario, the renegotiation would take place in the terms we have proposed above, including the repurchase of the commercial debt. The liquid foreign resources agreed to in the ESAF accord would be maintained. Service on the total debt from now to the year 2000 would reach some $1.3 billion, 23% less than in the first scenario.
The level of private foreign capital required in this scenario would be much more acceptable, given that confidence in the Nicaraguan economy would be reestablished precisely due to the success of the debt reduction strategy. For the 1994 96 period, it would be equal to the amount needed in 1993, but would grow afterward, although much more slowly than in previous scenarios.
The criteria characterizing the bulk of the debt would be substantially improved: service would remain at 32% of the export of goods and service, with a relation between interest and FOB exports that would drop 15% by the year 2000, and the overall debt total would be under 106% of the GDP. In sum, Nicaragua would begin to leave the category of a SILIC starting in the year 2000, albeit slowly.
Scenario Four: Room to Breathe and DevelopService on the multilateral debt would be reduced. Everything obtained in the third scenario would also be included in this one. The need for private foreign capital would remain at 1993 levels until 1996, permitting the need for cash loans to drop to half of the ESAF in 1995 96 and continue shrinking until it actually became negative. This would allow the beginning of a linkage between increasing debt service and increasing exports.
In this case, the country would get out of the SILIC category due to a correct renegotiation, and would later continue improving its indebtedness criteria. The growth rate of the overall debt would already be negative in the year 2000, even with levels of private foreign capital lower than those of scenario three.
If the supplement of available resources were oriented to greater investment growth and this growth were directed to export activities, it would result in a higher export growth rate than in the previous scenarios.
Pandora's BoxThe success of the debt renegotiation strategy requires first assuring the country's adoption of a sustainable economic model, one that tends to shrink the amount of the overall debt in relation to the GDP and has the perspective of shrinking it in absolute terms in the longer term. Were this the case, it could be shown that:
1. The country can only get out from under its current critical indebtedness by the year 2000 if the total amount of the bilateral debt is reduced by 95% (scenario 3);
2. With a supplementary reduction of the debt service which also implies restructuring the IDB and BCIE debt, and to a lesser extent that of the World Bank a healthier situation and a faster recovery could be established from the outset;
3. Social consensus around an economic plan with the following overall goals is a key variable in this process:
* A reduction of the imported component in private consumption (a tariff and redistribution policy);
* A growth of investment over consumption, together with a growth in per capita consumption levels (an investment policy);
* A priority on exports (a sectoral promotion policy);
* A reduction of the import component of investments and exportable goods production (a technology policy).
Although there is no mention in the scenarios of rationalizing and increasing the country's capacity to execute "tied" aid, this is of paramount importance. Despite the constant official discourse about the tendency of foreign aid to become less available, there is international consensus that, in Nicaragua's case, another limitation on this aid is the government's own inability to present and execute public projects and promote and support private ones. But since this limitation is structural, largely of an institutional nature and partly due to the scarcity of human capital, optimism about its solution is limited.
In addition, the dependence on private foreign capital demarcates a frontier of uncertainty in all projections, though to a greater or lesser degree depending on the scenario. Despite this limiting factor and the one above, however, it can be estimated that the serious obstacle to Nicaragua's economic growth imposed by the foreign debt could disappear with an appropriate economic plan that enjoyed the support of all social sectors.
The problem is enormous, but it can be resolved. And the existence of a clear and consistent renegotiation strategy could provide both the foundation for the necessary social consensus and the beginnings of the design for this economic plan.
The foreign debt problem is like that magic box of Pandora's, out of which anything could spring, from a beautiful rabbit to a dangerous snake. Opening the box is risky, but leaving it alone is worse. The debt, that enormous snag on Nicaragua's path to development, could lead the country to an abyss, a catastrophe. But it could also turn into an opportunity: its staggering burden could give us a new push toward a consensus by all to rescue the country from its crisis.
THE DEBT STRUCTURE
Most of Nicaragua's debt is shared out among three major creditor groups:
* Bilateral creditors (72%)
* Private commercial banks (16%)
* Multilateral lending agencies (12%)
Bilateral Creditors: Most of the debt with individual governments is concessionary, that is, has lower than market interest rates and/or grace periods before beginning to repay the principal. The division of this debt is described below, according to geographic patterns and already concluded renegotiations, with specific countries ordered by debt size:
* 1.5% was renegotiated in December 1991 with the Club of Paris countries, four of which (Spain, US, Germany and France) hold 92% of this debt. The new conditions are a 30 year repayment
schedule for the bulk of the debt, and an average annual service of only $26.6 million for the next seven years.
* 8.6% is pending renegotiation with the Club of Paris countries, of which 48% was with DABANK, former East Germany's foreign commerce bank and has been assumed by unified Germany. Five other countries, (Spain, Germany, Holland, France and Austria) hold another 45%.
* 1.8% was contracted with the Club of Paris countries after November 1988 and, according to the December 1991 negotiation,
cannot be renegotiated. Japan, Germany and Spain hold 92% of this total. The long term repayment schedule of these loans implies an average debt service of $5.2 million annually up to the year 2000.
* 4.1% is in short term debt, and the most important bilateral creditors are Germany and Spain (18%), various Latin American
countries (11%) and Algeria and Iran (22% which was actually contracted a decade ago and is totally in arrears).
* 34.1% is with the former socialist countries (excluding the DABANK debt), of which 92% is with the ex USSR.
* 21.7% is long term debt with a variety of other countries (Central America 34%, Mexico 51% and Taiwan and Brazil 10%), and has an average repayment schedule of 24 years.
Arrears: 53.8% of the debt with the formerly socialist countries is in arrears, as is 100% of the debt contracted by the Somoza government with international private banks. Together, these two creditor groups represent 76.1% of Nicaragua's total back debt, and are the ones least likely to be serviced in the future. This reflects the low purchase value of Nicaragua's debt titles on the secondary market ($0.08 for each $1 of debt).
The weight of these two creditor groups in Nicaragua's total debt package makes the Chamorro government's frequent complaint about the "inherited debt" from the Sandinista government relative, to say the least. In fact, the revolutionary government formally
recognized the commercial bank debt it inherited from Somoza in 1979, though it made no payments and was unable to renegotiate it. The Chamorro government is paying nothing on the debts with the formerly socialist countries, but they have not been formally condoned an objective that should be included in the future strategy.