Highlights from the OECD Sovereign Borrowing Outlook

OECD governments are facing unprecedented challenges in the markets for government securities as a result of continued strong borrowing amid a highly uncertain environment with growing concerns about the pace of recovery, surging borrowing costs, sovereign risk and contagion pressures. The fourth OECD Sovereign Borrowing Outlook provides estimates of sovereign borrowing needs for 2011 and projections for 2012. In comparison with pre-crisis levels, gross borrowing by OECD governments is expected to remain at the elevated level of USD 10.4 trillion in 2011. In 2012, the borrowing needs are projected to reach USD 10.5 trillion, with a strong increase in longer-term redemptions. Against this backdrop net borrowing is estimated to fall to USD 2.1 trillion in 2012, while government debt ratios are expected to remain at high levels.

Raising large volumes of funds at lowest cost, with acceptable roll-over risk, remains therefore a great challenge for a wide range of governments, with most OECD debt managers continuing to rebalance the profile of debt portfolios by issuing more long-term instruments and moderating bill issuance.

Additional challenges for government (and corporate) issuers are the complications generated by the pressures of a rapid increase in sovereign risk, whereby “the market” suddenly perceives the debt of some sovereigns as “risky”, as well as euro area-induced contagion effects. Growing concerns.

Hans J. Blommestein, Ahmet Keskinler and Perla Ibarlucea Flores. “Systemically Important Banks and Capital Regulation Challenges”, OECD Economics Department Working Papers, No. 916, OECD Publishing".The OECD Sovereign Borrowing Outlook provides regular updates of trends and developments associated with sovereign borrowing requirements and debt levels from the perspective of debt managers.Governments need efficient and timely access to markets to finance their deficits and debt service operations. Debt managers’ principal task is to borrow at lowest possible costs and to manage the outstanding sovereign debt. First published in 2009, the OECD Sovereign Borrowing Outlook provides regular updates of trends and developments associated with sovereign borrowing requirements and debt levels.

Highlights from the OECD Sovereign Borrowing Outlook

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Stress-testing croatian households with debt.Implications for financial stability

The purpose of this paper is to stress test the resilience of Croatian households with debt to economic shocks. The shocks not only impact a household's welfare, but also increase the probability of loan default. As a result, there is a direct link between these stress-testing exercises and financial stability risks. The authors find that very few households are at risk as a result of the shocks experienced over the past few years; new vulnerable households represent about 2 percent of all households, 6 percent of households with debt, and 2-3 percent of aggregate banking system assets. This suggests that household over-indebtedness in Croatia is unlikely to become a drag on aggregate economic activity and that financial stability risks remain manageable.

One caveat should be noted. Some 27-31 percent of households with debt, representing 8-9 of banking system assets, are vulnerable even before being subjected to an economic shock. Since NPLs were low before the global financial crisis, it can be argued that banks knew something about some of these households that is not captured by household budget surveys. It follows that the calculations in this paper should primarily focus on the increased vulnerability of households as a result of shocks and are likely to represent an upper bound to the financial stability risks faced by Croatia on account of household indebtedness.

This paper assesses the financial stability risks that arise from the high debt levels accumulated by Croatian households in the pre-crisis period. As opposed to relying on banking sector data, this paper puts forward a methodology that uses household budget surveys (HBS). In particular, the vulnerability of indebted households to changes in economic conditions is explored. This includes shocks that impact only some households (or household members), such as the loss of income that arises as a result of becoming unemployed, as well as shocks that arise from changes to the terms in which loans have been extended. The latter includes changes in exchange rates and their impact on the debt service of foreign currency (or foreign currency linked) loans and changes in interest rates and their impact on the debt service of variable interest rate loans. The effect of these shocks on households’ vulnerability depends not only on the size of the shocks simulated, but also on the risk thresholds that are used to tag a household as vulnerable.

The use of HBS has limitations. To begin, they cover only a small subset of all households―0.2 percent. But the sampling methodology involved limits the concerns that arise from small samples. Another limitation is that the coverage of these surveys has some weak aspects. For example, while incomes, expenditures and household characteristics are covered in detail, information on financial assets is largely absent. But these limitations should be gauged against the alternative; namely, detailed loan-by-loan borrower information is lacking in macroeconomic data and this also hampers a thorough assessment of household vulnerability. Also, the lack of data on the stocks of household financial assets suggests that the risks identified in this paper are likely to be upper bounds to concerns about household over-indebtedness and its potential implications for financial stability. Finally, the use of HBS allows a distinction between households with and without debt and the characteristics of those that do hold debt, thus enabling an assessment of the impact of debt on aggregate economic activity (Albacete and Fessler, 2010).

The vulnerability exercises carried out highlight that low income households are particularly vulnerable. However, the financial distress of these households appears to precede the economic shocks that Croatian households might be going through as a result of the global financial crisis—what this paper refers to as risk loans at origination. The economic shocks, be these through increased unemployment, changes in interest rates, or changes in exchange rates appear to have limited additionality in terms of new vulnerable households. That so many households are at risk at loan origination raises questions as to what banks know about their borrowers that is not captured in Croatia’s HBS—a subject to which the paper devotes some attention. The primary focus of this paper is, however, the impact of plausible crisis-related economic shocks on financial stability; i.e., new vulnerable households.

A second conclusion is that household debt is concentrated in few households and largely in upper income quintiles. In part this is because credit growth took place from low levels and was brought to an abrupt and early end by the financial crisis. For example, only 7 percent of all households in Croatia have mortgage debt; the equivalent figure for France, Germany, the UK, Sweden and Italy averages 40 percent (EBRD and World Bank, 2011). Since in the worst case only 1 of every 10 households faces financial distress, this is unlikely to result in a drag on aggregate economic activity. Moreover, two-thirds of these households are at risk at loan origination and, as discussed later, this results in an upward bias on household vulnerability.

On the whole, the risks to financial stability arising from household debt appear to be manageable despite Croatia’s large increase in household debt in the years preceding the financial crisis. To reach this conclusion, this paper begins by describing household debt developments over the past decade. It then presents a methodology to tag indebted households as vulnerable to financial distress and further stress tests the balance sheets of households to changes in economic conditions. The implications for financial stability are then discussed by assessing the impact of household debt problems on banks’ loan portfolio.

World Bank.Author:Sugawara,Naotaka;Zalduendo,Juan.Document Date:2011/12/01.Document Type:Policy Research Working Paper.Report Number:WPS5906.Volume No:1 of 1

Stress-testing croatian households with debt -- implications for financial stability

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Report Highlights Progress on Debt Relief in Highly Indebted Poor Countries,but Challenges Remain

IDA.IMF.World Bank.Press Release No:2012/190/PREM. WASHINGTON, December 7, 2011. A joint World Bank-IMF report released today shows significant progress in reducing the debt burdens of some of the world’s poorest countries.

The report, Heavily Indebted Poor Countries (HIPC) Initiative and Multilateral Debt Relief Initiative (MDRI) –Status of Implementation and Proposals for the Future of the HIPC Initiative, shows that 36 out of 40 HIPCs have reached the debt relief decision point, the stage in which they qualify for debt relief, and 32 of them have reached the completion point, where debt is irrevocably cancelled, and also benefited from debt relief under the MDRI.

“These initiatives have been successful --there’s been a lot of progress on debt relief for very poor countries,” said Jeffrey D. Lewis, World Bank Director for Economic Policy and Debt. “Debt burdens have been lowered and more resources made available to fight poverty.”

The report, which was discussed by Board of Executive Directors of the World Bank and the Board of the IMF last week, notes that debt relief under the initiatives to the 36 post-decision point countries represents almost 35 percent of their 2010 GDP. Together with debt relief under traditional mechanisms and additional relief from Paris Club creditors, this assistance is estimated to reduce the debt burden for these countries by about 90 percent relative to pre-decision point levels. In addition, poverty reducing spending increased by more than three percentage points of GDP, on average, between 2001 and 2010, while debt service payments declined.

Nevertheless, some challenges remain. Progress toward the Millennium Development Goals (MDGs) has been uneven -- only a quarter of completion point HIPC countries are on track to meeting the MDG1 to eradicate extreme poverty and hunger. Other challenges include providing debt relief to countries that are still at the pre-decision point stage, encouraging full participation of all creditors, ensuring the full financing of both HIPC and the MDRI, and addressing the issue of commercial creditor litigation.

In addition, the report recommends streamlining future reporting on debt relief and modifying the requirements for eligibility by adding end-2010 income and indebtedness criteria. With this modification, endorsed by the Board, countries like Eritrea, Somalia and Sudan would be able to access debt relief on a timetable suitable to their individual circumstances, while others like Bhutan, the Kyrgyz Republic, and Lao PDR would no longer be eligible, reflecting their improved debt outlook and decision not to pursue HIPC debt relief options.

The total cost of already committed HIPC Initiative debt relief to creditors is estimated at US$76 billion in end-2010 present value (PV) terms, while the total cost of the MDRI for the four participating multilateral creditors is estimated at US$33.8 billion in end-2010 PV terms.

The HIPC Initiative was launched by the World Bank and IMF in 1996 as a comprehensive effort to help the world's poorest, most heavily-indebted countries. It was enhanced in the fall of 1999 to provide for faster, deeper, and broader debt relief. The MDRI followed in 2005 to further reduce the debts of qualifying low-income countries and provide them with additional resources to help meet the Millennium Developments Goals (MDGs). Under the MDRI, four multilateral institutions, including the IMF and the World Bank, provide 100 percent debt relief on eligible claims of countries that reach the completion point under the enhanced HIPC Initiative.

EXECUTIVE SUMMARY

This report aims to accomplish three objectives: (a) it provides an update on the status of implementation, impact, and costs of the Heavily Indebted Poor Country (HIPC) Initiative and the Multilateral Debt Relief Initiative (MDRI); (b) it proposes a modification of the reporting of progress under the initiatives, including the discontinuation of the annual status of implementation reports, and the preparation of periodic reports on debt vulnerabilities in low income countries (LICs), including HIPCs; and (c) it proposes a further ring-fencing of the list of countries eligible or potentially eligible for debt relief under the HIPC Initiative based on end-2010 income and indebtedness criteria.

Although some challenges remain, the objectives of the HIPC Initiative have largely been reached:

As a result of progress in the last few years, 36 out of 40 HIPCs have reached the decision point, and 32 have reached the completion point and also benefited from debt relief under the MDRI, the last two, Guinea-Bissau and Togo, in December 2010.

Of the four countries between the decision and completion points (―interim HIPCs‖)—Comoros, Cote d’Ivoire and Guinea are expected to reach their respective completion points within the next 15 months, while prospects for Chad remain uncertain.

Only three potentially eligible countries—Eritrea, Somalia and Sudan—are yet to start the process of qualifying for debt relief under the Initiative (i.e. they are pre-decision point countries).

Four additional countries remain potentially eligible for HIPC debt relief. For Bhutan, Lao PDR and Nepal, their governments have indicated that they did not wish to avail themselves of HIPC Initiative assistance. While the government of the Kyrgyz Republic has not fully clarified its willingness to avail itself of debt relief under the initiatives, its external debt burden is assessed to be well below the HIPC qualification thresholds.

Some issues require continued attention in order to implement the initiatives fully:

Some of the eight countries that have not yet reached the completion point and, particularly the pre-decision-point HIPCs, face especially difficult challenges.

Overcoming these challenges will require sustained domestic efforts and continued support from the international community.

Full participation of all creditors, particularly a number of smaller multilateral, non-Paris Club bilateral, and private creditors, remains to be secured.

Additional funds will be needed to provide debt relief to the few HIPCs having protracted arrears to international financial institutions.

The incidence of litigation against HIPCs, albeit diminished in recent years, can be costly for HIPCs. National and multilateral initiatives have sought to respond to the risks associated with creditor litigation. In addition, by helping settle commercial creditors’ claims on HIPCs, the IDA-managed Debt Reduction Facility (DRF) has also helped reduce the risk of litigation.

While recognizing the need to continue monitoring the implementation of the initiatives, IMF and IDA staffs propose further streamlining HIPC Initiative and MDRI progress reporting, with updated information regularly posted on the IMF and World Banks websites rather than in an annual status of implementation report. While there are few indications of a significant intensification of debt vulnerabilities among LICs over the last 18 months, one-third of LICs and one-quarter of HIPCs face high debt vulnerabilities. To monitor the development of debt vulnerabilities in LICs, the staffs propose the preparation of periodic joint IMF-World Bank reports on debt vulnerabilities in LICs, including HIPCs.

The HIPC Initiative was not intended to be a permanent mechanism to relieve the external debts of LICs and the Initiative was effectively closed to new entrants in 2006 when the sunset clause was allowed to take effect and the list of potentially eligible HIPCs was ring-fenced.

As the HIPC Initiative has largely achieved its objectives, now is an opportune time for the IMF and IDA Executive Boards to consider options for its future. At informal sessions of the Boards in late February and early March, two options for the future of the HIPC Initiative appeared to have the most support: (i) maintaining the Initiative as it is; and (ii) modifying the framework by adding end-2010 income and indebtedness criteria for eligibility and further ring-fencing potentially eligible countries.

Under the latter option, three countries—Bhutan, the Kyrgyz Republic, and Lao PDR—would not meet the indebtedness criterion at end-2010, while four—Eritrea, Nepal, Somalia, and Sudan—would. This option, which IMF and IDA staffs propose be implemented, would reduce moral hazard. With the exception of Nepal, it would also be aligned with the wishes of countries whose governments have indicated that they do not wish to avail themselves of debt relief under the initiatives.

Heavily Indebted Poor Countries (HIPC) Initiative and Multilateral Debt Relief Initiative (MDRI) –Status of Implementation and Proposals for the Future of the HIPC Initiative

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How Costly Are Debt Crises?

The aim of this paper is to assess the short- and medium-term impact of debt crises on GDP. Using an unbalanced panel of 154 countries from 1970 to 2008, the paper shows that debt crises produce significant and long-lasting output losses, reducing output by about 10 percent after eight years.

The results also suggest that debt crises tend to be more detrimental than banking and currency crises. The significance of the results is robust to different specifications, identification and endogeneity checks, and datasets.

IMF.Series:Working Paper.No.11/280.

Author/Editor:Furceri,Davide;Zdzienicka,Aleksandra.Authorized for Distribution:December 01, 2011.

This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate

How Costly Are Debt Crises?

The Problem that Wasn’t: Coordination Failures in Sovereign Debt Restructurings

Contrary to widespread expectation, debt renegotiations in the era of bond finance have generally been quick and involved little litigation. We present a model that rationalizes the initial fears and offers interpretations for why they did not materialize.

When the exchange offer is sufficiently attractive vis-à-vis holding out, full participation can be an equilibrium. Legal innovations such as minimum participation thresholds and defensive exit consents helped coordinate creditors and avoid litigation.

Unlike CACs, exit consents can be exploited to force high haircuts on creditors, but the ability of creditors to coordinate to block exit consents can limit overly aggressive use

International Monetary Found. Author/Editor: Bi,Ran;Chamon,Marcos;Zettelmeyer,JerominAuthorized for Distribution:November 01, 2011.Working Paper No. 11/265. This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate

The Problem that Wasn’t: Coordination Failures in Sovereign Debt Restructurings