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Illegitimacy of odious and dubious debt

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By Muhammad Mahmud
Lecturer, IBA, Karachi
May 29 - June 04, 2000

The Paris Club rescheduling have proved unsuitable to many debtors

There are many reasons why the South has no moral obligation to pay back much, even most, of the debts to the North. The debt payable is a part that is genuinely incurred and has assisted the South in their development. Most of the debt is otherwise illegitimate. These arguments are not new. When the US took over Cuba 100 years ago it cancelled Cuba's debt to Spain on the grounds that the burden was "imposed upon the people of Cuba without their consent and by force of arms". Such debts became known as odious debts — not obligations for the nation but for the powers that incurred them.

Bisque clauses

A number of past debt payment agreements contained what are known as "Bisque clauses" which give the debtor government the right to unilaterally suspend or defer payments under certain conditions. Indonesia, for example, was given the option of deferring principal repayments during the first 8 years, Colombia in the early 1940s was able to limit its debt service payments to 3% of government revenue, and this is the basis of Jubilee 2000's Tegucigalpa declaration.

The 1953 London agreement on Germany's debt included such clause specifically saying that Germany should repay its debts only out of a trade surplus, and could halt payments if there was an inadequate surplus. This was based on the realisation that the German debt crisis in the 1930s was caused in part by Germany taking new loans to repay old debts. It explicitly assumes that the creditors will buy German exports in sufficient quantity to allow it to repay debts. This is particularly important in terms of poor country debts, because limitations in market access and deteriorating terms of trade mean that most debtor countries also run a trade deficit. Such a bisque clause in poor country debt might be useful to open northern markets.

Later after the Second World War, Germany would only agree to spend 3.5 per cent of its export income on debt repayments. It argued that anything higher would be "unsustainable". Today, the world's creditor nations, including Germany, are demanding that the world's poorest nations spend up to 25 per cent of their export incomes on debt repayment. The cost of this hypocrisy is devastating especially when the illegitimate debts of the Third world have soared to trillion of dollars. Some type of illegitimate debts and their reasons for illegitimacy are discussed below.

Odious debts: Odious debt refers to debt that is contracted by despotic or oppressive regimes, not in the interest of the nation, but to strengthen the power of the regime. This concept of "odious debts" has a long history, arising initially from the United States capture of Cuba from Spain in 1898. Spain demanded that the US pay Cuba's debts and the US refused, on the grounds that the debt had been "imposed upon the people of Cuba without their consent and by force of arms." Furthermore, the US argued that, in such circumstances, "the creditors, from the beginning, took the chances of the investment." Thus US Supreme Court set up a legal precedent for the odious debts in the famous case of US abrogation of debts owed by Cuba to Spain after Cuba's liberation from Spain. The concept of "odious debt" was upheld and formally entered international law in 1923. In recent times, the debts incurred by the Rhodesian Government during the time of Ian Smith, by the Government of Mozambique during Portugal's suppression of those struggling for colonial liberation, and by the apartheid regime in South Africa are all odious debts.

Dubious debts: The third world's debts in different form originate in shady conditions. Most of the debt is official i.e. it is owed by the undeveloped countries' governments to the governments of industrialised countries or to international financial institutions such as the IMF and the World Bank. In Asia and Latin America, much of the debt is commercial, owed to either banks or private enterprises.

Honorific debts: The "honorific" debts are the financial obligations incurred in fulfilment of UN resolution. Such debts are owed by the international community to the lenders and not by the regime that submitted to UN resolutions. Zambia incurred millions of dollars to follow the UN resolutions on Rhodesia, Mozambique and South Africa for over two decades. In all fairness and justice, why should the people of Zambia be responsible for meeting those expenses and pay it as "debts". In the name of justice and equity, Zambia should claim compensation from the UN for loss of life and damage to its economy in pursuing UN resolutions that were designed to bring justice and peace to peoples who were denied their human rights by colonial and racist regimes.

The Government of Zimbabwe spent about US$1 million a day for almost ten years (about US$3.6 billion) in defending the territorial integrity of the country against measures of destabilisation by the apartheid regime of South Africa in clear violation of UN resolutions. A burden of such proportions has crippled the economy of the country. Who is to blame and who is to pay for? Obviously the UN!

Debts incurred by fraud: A close scrutiny of third world debts would show that some of the debts incurred by governments, or by commercial interests backed by government guarantees, are of fraudulent character because in domestic law illegal contracts are void. Such "debts" are not payable because they are incurred for fraudulent reasons, or at least for reasons of doubtful nature. For example, a drug dealer cannot take to court his corespondent for failing to keep to terms of an illegal contract. There are cases of debts incurred, for example, for building a road or a power project which either did not materialise at all, or which fell far short of required specifications. These "debts" are actively couched by the North with conniving of borrowers in the third world resulting in deals aimed at defrauding the state or the people of the country. Further research in this area could yield valuable information on what could turn out to be massive amounts of "debt" that need to be remitted or canceled, since both the lenders and the borrowers were party to provable fraud.

Debts due to experts' fees: There are, then, "debts" that take the form of fees that The West charges for sending their "experts" and consultants in the third world whose major beneficiaries are Western governments, corporations or businesses. This implies that there are fees charged for work done by experts that are justified or legitimate. Such charges could only be justified on grounds of public welfare and lack of availability of local consultants; and at fair price and performance. However many projects in the third world do not meet these criteria. In many projects, the beneficiaries tend to be not the local people, but companies based in the home countries of the experts. This is particularly true of ex-colonies in Africa and Asia where the British and the French have tend to maintain a hold through the use of "consultants".

Debts due to accumulation of interest: All interest payments are not illegitimate, as it is part of the law of the market. However the debt rises with every rise in the interest rate without any correspondent transfer of real assets, such "debt" is hardly justified. US Treasury of the Bank of England raises the interest unilaterally more for domestic than foreign reasons--affecting the debt owed by countries of the third world adversely.

Debts due to foreign exchange volatility: Then there are "debts" that are related to changes in foreign exchange. Like in the case of unilateral increases in interest rates, some "debts" are a product of the volatility of the market for foreign exchange. The foreign exchange market generally works in the long run against the interest of the Third world countries. Frequent devaluation of their currencies often at the coercion of the International Financial Institutions (IFIs) in part fulfilment of its lending conditionalities increase the debt burden without any corresponding transfer of assets to them.

Last but not the least, there are debts incurred by the developing countries because their development policies were misguided by IMF, World Bank and lending countries could not fulfil development targets. Many IMF or World Bank designed strategies of "development" failed, exacerbating the debt burden. Many senior officials of the World Bank (such as the former vice-president of the World Bank, Joseph Stiglitz) now admit their failures due to seriously and fundamentally flawed policies. According to Joseph Stiglitz, the convergence of policy from the US Treasury, the International Monetary Fund (IMF) and the World Bank (WB) — the so-called Washington Consensus (WC) — can be misguided, misleading and neglect fundamental issues. Hence, the debts owed by countries as a result of the failure of the Bretton Wood Institutions' strategies of "development" are both illegitimate and unpayable.

UNDP's International South Group Network (ISGN) estimates that between 80 and 90 per cent of these debts belong to odious categories. Debts that are odious, honorific, fraudulent, illegitimate, unilaterally hiked by the lenders through interest rate and foreign exchange manipulations, fictitious (without corresponding transfer of real assets to the South), and due to Washington Consensus (WC) should be laid at the doorstep of the IMF and the WB as their illegitimate and unwanted baby.

Debts bondage: Whatever its odious, honorific, fraudulent, or fictitious character, the debt bondage is real. It hurts and hurts hard. The right to development, enshrined in several UN resolutions, is denied as net effect of debt because the debt serves as a means of inflating capital resource needed by the Third world to service the debt and to undertake development and social projects. The result: the South is endemically capital-starved. The more capital it raises in the West, the bigger the debt stock becomes, the more of it goes to pay interest on previous loans, and the less is available for genuine development. It is a never-ending squeezing coil of serpent of debt that becomes a means of imposing conditionalities on the borrowers.

Deceptive relief: The Paris Club rescheduling have proved unsuitable to many debtors as theirs was a problem not of liquidity but of insolvency. The Toronto terms provided aimed at reducing the value of the rescheduled debt service by up to one third benefited only 20 countries by rescheduling about $6 billion. Since their establishment, Naples terms have been granted to only 23 countries for total restructuring of $9 billion. On commercial debt, the main instrument has been the "Brady Plan" which was intended to contribute to the improvement of the debtors' "creditworthiness". Only 15 countries were able to apply it eliminating 20% of their commercial debt, equivalent to about $40 billion through choosing offers from options menu which included buy-back of outstanding loans at discount. The latest "gimmick" is the HIPC initiative meant for the heavily indebted poor countries. The aim is not to eliminate debt but to bring it down to 'sustainable debt-servicing' levels. In return, the countries have to prove a 'track record' of sustained application of IMF-WB conditionalities for six years, and then continue to do so for the future. In spite of these essentially public relations exercises, the debt burden has soared from trillions of dollars. It defies all sense of proportion, justice and credulity.


From the discussion above the following recommendations on the debt issue come to fore front:

•The United Nations should take its own responsibilities seriously and assume some of the debts incurred by debtor countries in pursuance of UN resolutions

•The World Bank, the IMF and other IFIs should take responsibility for debts incurred as a result of their misguiding developing countries on a false road to development such as the Washington Consensus

•HIPC should simply be scrapped. It is a cheap, and rather cynical, trick to create the illusion that "something" is being done for "the poor" of the world.

•The negotiating fora in which debts are discussed or negotiated should move away from the Paris consortium or any creditor-based institutions.

•The debtor governments should form regional or multi-national consortia to refuse to pay illegitimate debts. They should, however, pay the debts that have been legitimately incurred, and that have resulted in actual transfer of net assets from North to South.