Did You Know? • It is actually often cheaper to borrow money from a lender in another country • Loans are taken out for specific purposes that promote the growth of a country’s economy • Old core countries have economies that are active enough that they can afford the interest and principal costs of their loans so total debt loads do not grow over time. • There is no clear way for a country to declare bankrupty
Risky Business • There are two main reasons why banks feel that loans to regions like sub-Saharan Africa are too risky because • it is the poorest region of the world and there is a question of whether or this region’s nations can pay of substantial loans • the region has a reputation for political instability (civil wars and violent overthrows)
What are the effects of debt? • Affects social development (quality of life, adult literacy rate, etc.) • The importance of the debt/export ratio (the relationship between the amount of debt and the size of a country’s exports that provide hard currencies for debt repayment)
How the Debt Crisis Happened • Loans, not grants In 1957, the US changed the model and began giving out loans instead of grants and other countries followed suit
Sky rocketing oil prices In the early 1970’s, OPEC (Organization of Petroleum Exporting Countries) felt that the lower value of the US dollar was costing them a lot of money as the value of oil is expressed in US dollars and therefore, they increased the price of oil
High inflation The world experienced high inflation rates that drove up interest rates
Falling commodity prices HIPCs (Highly Indebted Poor Countries) rely on the export of agricultural, forestry, and mining commodities to earn foreign currency but for a number of reasons, the price of many of these commodities declined during the 1970s and 1980s, resulting in less earnings from their exports
Declining exchange rates The value of most African and other very poor nations has declined significantly compared to major currencies like the US dollar and the Euro
Dealing with the Debt Crisis Threat of Defaults Sovereign default - when a country refuses to pay for all, or more likely, some of their loans (this does not occur very often) If they do this, the country opens itself up to lawsuits, etc.
Debt restructuring - Banks in North America, Europe and Japan had loaned so much money to other countries that their very existence would be threatened if defaults occurred and some of these banks can go bankrupt. “If you owe the bank a 1000 dollars and cannot pay, you have a problem. If you owe the bank 1 000 000 dollars, and cannot pay, the bank has a problem”. So one solution is to extend the amount of time a nation has to repay a loan or give additional loans.
Aid from NGOs such as IMF (International Monetary Fund) There are strings attached when a nation takes aid from these NGOS: • Had to reduce the value of their currencies in order to discourage imports and encourage exports • Increasing export earnings can result in an acceleration of the destruction of forests, overuse of agricultural resources, etc.
3) Required to restrict their social and educational spending so that they would have more money available for loan payments 4) Not allowed to use foreign currencies to import necessities like food and medicine
Debt Relief for Developing Countries What to do? Debt relief – the debt would have to be “written off the books” Critics of this say it says the entirely wrong message to both debtors (there is no real consequence) and creditors (don’t make loans to poor countries because of the perception of high risk)
HIPC Initiative(Highly Indebted Poor Countries) • This program created by the World Bank and the IMF was the first serious international attempt to reduce the debt faced by the poorest countries of the world • However, the program has many demands on the debtor country
The country must prepare an acceptable PRSP (Poverty Reduction Strategy Paper) that details what plans the country has for economic, structural and social reforms that will both promote the economy and reduce poverty