Drop Haiti’s debt? Why lend in the first place?

My friend Dan has written a really interesting piece for the HuffPo on the incentives for lending to poor countries.

From the donor perspective, he points out that a loan spread out over a long period allows donors to provide more in nominal terms than a one-off or shorter term donation in the form of a grant. What’s more:

Governments in rich countries liked this arrangement [lending], too, as it seemed to suggest that the poor countries could become responsible citizens in the global economy, receiving credit rather than just handouts.

From the point of view of the borrowing Government, the incentives are relatively clear:

… the chances may be pretty low that 1) the same government will be around when the loan needs to be repaid and/or 2) the government will actually be able to repay it. So, for the current government, there is much more incentive to take the loan — it’s another $17 million [in the example he cites] to play with, with almost no strings attached.

Dan makes the very important point that while debt relief or cancellation is a one-off benefit, it does nothing to change the underlying incentives that make lending an attractive option to so many development actors.

I was in Malawi when the Government reached the HIPC Completion Point, which qualified them for major debt relief and cancellation. In addition to the reduced burden of interest payments, the other major benefit that allowed the Government was increased flexibility in borrowing – the IMF would allow them to borrow more per year, on slightly worse terms. While the technocrats in Government were committed to maintaining prudence in its borrowing practices by setting internal ceilings on borrowing and undertaking stringent Debt Sustainability Analyses regularly as in much of Sub-Saharan Africa, what the President or Minister says, goes. And that may mean compromising these principles.

In the first post-HIPC years, initial indications seem to be that developing country Governments are sliding slowly back into unsustainable debt. I’ve spoken about incentives before, and I continue to hold that until we address the incentives at work in the development system, many of the worst problems we encounter will prove resilient to our attempts to change them.

2 thoughts on “Drop Haiti’s debt? Why lend in the first place?

  1. D. Watson

    February 11, 2010 at 8:36pm

    Hypothesis model: I would really like to donate, not lend. Unfortunately, the people I get money from are tight-fisted and will only lend. So I agree to pass on loans instead until the situation forces them to forgive the loans. It’s more costly (particularly in time and capacity) than donations would be, but more money gets there.

  2. Ranil Dissanayake

    February 14, 2010 at 9:38am

    the problem with your hypothesis is that the main concessional lending institutions to the developing world (African, Asian Development Banks, World Bank, JBIC) all source their money from Governments that provide development aid in the form of grants bilaterally. So the people they get money from do donate, and donate more individually than they lend through proxies.

    There’s a genuine incentive problem at work, and there’s a genuine risk from lending as a result.

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