1 Multilateral Debt Relief Initiative: Implications for IDA Resource Transfers Multilateral Development Bank Meeting on Debt Issues Washington, DC, June 21-22, 2006

2 Plan of Presentation Overview. Impact on IDA’s Resource Allocations. Impact on IDA’s Assistance Volumes. Impact on IDA’s Financing Terms.

3 Overview

4 Key Features of MDRI Relief in IDA Modality of Relief: Debt forgiveness provided as irrevocable cancellation of payment obligations (principal and charges) under eligible credits. Financing: IDA’s costs under MDRI to be covered through replenishment of IDA’s resources. Contribution baseline introduced to establish additionality of donor financing. Key Dates of Debt Relief: Cutoff date: December 31, Implementation date: July 1, 2006.

5 Credit and Country Coverage Credit coverage: stock of eligible debt based on debt outstanding and disbursed (DOD), as of cutoff date. Countries expected to become eligible: HIPC countries once they reach completion point. Total cost estimate for IDA: about SDR 25 billion (USD 37 billion).

6 Impact on IDA’s Resource Allocations

7 MDRI and IDA Resource Allocations MDRI will affect IDA resource allocations through two avenues: Its impact on IDA assistance volumes. Its impact on IDA financing terms. Both issues will be briefly dealt with in this presentation.

8 Impact on IDA’s Assistance Volumes

9 Impact on IDA Allocations Net Allocations affected by: Netting-out of forgone reflows from “gross” allocations for MDRI recipients. Reallocation of compensatory donor resources across all IDA-only countries. Debt relief would thus have an impact on: IDA’s total assistance flows (new IDA commitments plus debt service forgiven); and IDA’s operational and financial presence in eligible countries, as measured by new IDA commitments.

10 The “Netting Out” Mechanism ‘Netting out” mechanism of the MDRI: New IDA commitments = “Gross” PBA-Based Allocations – Debt Service Forgiven + Share in Compensatory Resources Outcome depends on which countries will benefit from such reallocation. Reallocation will be limited to IDA- only countries (excluding “gap” ones).

11 Projecting Future IDA Commitments Debt service relief numbers largely a known quantity. But future “gross” PBA allocations are much less so. They depend on: Size of IDA envelope Relative country performance Grant eligibility status Possible graduations

12 Simulated Outcomes for 18 Post-Completion Point HIPCs Upper panel: Flat IDA envelope and flat “gross” allocations. Composition, but not total volume, of IDA assistance flows changes. Lower panel: IDA envelope and “gross” allocations grow by 2% per annum. Consistent with agreed donor contribution baseline.

13 Key Outcomes No MDRI recipient worse-off in terms of total IDA assistance flows. Composition of total IDA assistance would change. Part of it would be delivered as debt relief rather than “fresh money”. New IDA allocations could decline over time for some MDRI recipients. Declining trend in new IDA allocations for some MDRI recipients would be reversed if graduations are factored in.

14 Impact on IDA Financing Terms

15 MDRI and IDA Grants Eligibility for MDRI does not automatically disqualify countries for access to IDA grants. If MDRI-recipients are at moderate or high even after debt relief, they would still be eligible for 50 percent or 100 percent grants. Continued post-MDRI debt-distress risk would need to be confirmed by DSAs that take MDRI explicitly into account.

16 Post-MDRI “Traffic Lights”: Ethiopia After the MDRI, the baseline of the NPV of debt-to-exports ratio falls well below the threshold (150 percent). Moderate risk rating (= “yellow light”), however, driven by stress testing: Vulnerability to export shocks: “Most extreme” stress test leads to substantial breach of the threshold. The NPV of debt-to-exports ratio in this scenario stays above the threshold from 2009 until about 2016, before slowly declining thereafter.

17 Preliminary FY07 “Traffic Lights” for MDRI Countries FY07 “traffic lights” for most MDRI recipients to be determined by DSAs. Preliminary outcomes: “Red light” countries: Niger & Rwanda. “Yellow light” countries: Ethiopia, Guyana & Nicaragua. “Green light” countries: Burkina Faso, Benin, Cameroon, Ghana, Madagascar, Mali, Mozambique, Senegal, Tanzania, Uganda & Zambia.

18 Challenges Ahead Ensuring additionality of financing. Without it, debt relief would be tantamount to changing the composition of external assistance – leaving overall aid volumes unchanged. Realizing the benefits of debt relief. Irrevocable debt stock cancellation broadly equivalent to 40 years of unconditional budget support. Need for strong public financial management systems. Containing post-relief non-concessional borrowing. Critical to ensure debt sustainability going forward. Need for a policy on “free riding”.