from Follow the Money

The Paris Club and Indonesia

January 13, 2005

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An extremely esoteric topic: Paris Club comparability.

When the Paris Club grants debt relief to a country like Iraq, it typically requires that the country seek "comparable" debt relief from its other creditors. Iraq consequently is seeking to get both Saudi Arabia (and a bunch of other countries that are not members of the Paris Club) and private investors who bought its old syndicated bank loans (along with its other private creditors)to follow the Paris Club’s lead, and to agree to reduce their claims on Iraq.

The underlying logic of comparability is simple: when say the US grants Iraq debt relief, it wants that relief to help Iraq, not to help Iraq pay either Saudi Arabia or a private investor who happened to take a punt on Iraq’s old syndicated bank loans.

The question: should this principle apply if a country hit by the recent tsunami accepts the Paris Club’s offer to let it defer debt payments?

Lex Reiffel more or less says no in Friday’s FT.

I say, yes, the principle still holds, but be flexible in its application.

There is one important difference between Iraq and Indonesia that is worth noting. As far as I can tell, the Paris Club is willing to let Indonesia defer payments, not to permanently forgive Indonesia’s debt: money not paid now still has to be paid later. That is not determinative though: private creditors can agree to defer payments too.

But should they? In general terms, yes. The goal of the Paris Club’s offer is to make sure than Indonesia (and Sri Lanka) has more money to spend helping the tsunami’s victims, not to provide funds to repay other creditors.

But there is no reason to be too rigid either. Indonesia does not -- I think -- have any bonds coming due in 2005, and going through the trouble of restructuring Indonesia’s bond to get a tiny bit of relief on coupon payments is not worth the effort. The fees and the damage to Indonesia’s reputation would outweigh the potential benefits. The Paris Club’s goal should be to make sure private creditors are not taking funds out, not to cause needless stress or a problem where there is not one. I agree with Reiffel on this.

I suspect, however, that the government of Indonesia has some commercial bank loans coming due in 2005 (unless something has changed in the last few years, most of these loans will be from Japanese banks). Postponing payment of principal on these loans is an easy way to provide Indonesia with a bit of relief. The loans can be rescheduled formally. Or alternatively, Indonesia could get commitments from its existing creditors to provide enough new financing to assure that there is no net payment of principal this year.

That a) is not too hard to do and b) makes sure that Tsunami aid is not used (in some very small way) to pay back commercial banks. An aside: It is true that emerging economies are now attracting substantial private capital flows, as Lex Reiffel notes. But it the aggregate macroeconomic sense, they don’t rely on this capital to fuel their growth. Savings in emerging economies right now exceeds investment in emerging economies, so emerging economies are lending their surplus savings to the developed world (read the US). Capital inflows from abroad effectively finance reserve accumulation, not more investment. FDI plays an important role in diffusing technology and best practices and all that. But, on net, private capital inflows into emerging economies are recycled back to the United States and used to fund the US current account deficit (i.e. US investment in excess of national savings), not to fund investment in emerging economies.

Look at Table 25 of the statistical appendix of IMF’s World Economic Outlook. "Emerging economies and other developing countries" have been running current account surpluses (lending to the rest of the world) since 1999 -- and their surplus is growing, not shrinking ...

The net flow of capital is from the developing world to the developed world. The "Bretton Woods Two" hypothesis that Asia’s defense of pegged exchange rates will finance the US, so large US current account deficits are not a problem goes a bit too far, but at least the Bretton Woods two thesis -- unlike much writing about globalization -- is consistent with the observed global flow of funds.

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