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Mozambique's debt burden in historical perspective
afrol News / IMF- In relation to the approaching Mozambican completion of the enhanced Initiative for Heavily Indebted Poor Countries (HIPC), Alessandro Rebucci of the International Monetary Foundation has analyzed the Mozambican debt burden in historical perspective. In an IMF study, Alessandro Rebucci asks why and how Mozambique accumulated unsustainable debt. Attempting to answer this question, Alessandro Rebucci draws on three basic pieces of information; a chronology of the main political and economic events in the history of Mozambique since independence; an estimated balance of payments from 1973 to 1998; and an account of traditional debt-relief mechanisms.
Mozambique's external debt burden
The earliest official estimate of Mozambique's nominal stock of public gross external debt exists for 1984, putting the debt at about US$ 2.4 billion, more than ten times the total value of export of goods and services in that year, or 50 percent of GDP. In order to understand the causes of the sharp buildup of debt, a balance of payment table from 1973 to 1998 was compiled based on the IMF's background papers on recent economic developments (REDs) on Mozambique. A measure of the total nominal stock of net external debt was then obtained by cumulating net debt-creating balance of payments flows from 1975 onward.
A net rather than a gross concept of dept is usually analyzed when a country is known to have both assets and liabilities. While the precise figures are not known, this appears to have been Mozambique's position at the time of independence. More generally, other sources of balance of payments financing than external debt may have been used while the debt was building up, so that looking only at gross debt may lead to over- or underestimating the underlying imbalances. A set of internally consistent figures within a well-defined accounting framework should also be more reliable than the analysis of a single series in isolation.
Studying the constructed figure of nominal net external debt in percent of exports of goods and services and GDP, two important facts emerge. First, it was not until 1978-79 that Mozambique started to accumulate substantial amounts of external liabilities, as the drawdown of foreign reserves was sufficient to finance the current account deficit during the years immediately after independence. Second, while the nominal stock of net debt kept rising throughout the period considered, net debt in percent of exports of goods and services peaked as early as 1986-87, and in relation to GDP in 1993-94. Mozambique's debt burden, therefore, was accumulated primarily during the period 1978-93 - the period of civil war.
The civil war, however, may not have been the only cause of the rise in Mozambique's debt burden, and other demand and supply factors might have contributed to the buildup of debt. Brooks and others (1998) and Baltazar and Associates (1999), for instance, find that, in addition to political factors such as civil war and social strife, external (terms of trade and weather-related) shocks, lack of adjustment and reforms, and creditors' financing and refinancing policies all help explain the buildup of debt observed in many low-income developing countries over basically the same period. The next paragraphs analyze each of these potential explanatory factors, after a brief discussion of the initial conditions at the time of independence.
Mozambique's war of independence started in 1964, and independence was reached in June 1975, after the Portuguese revolution left the colonial administration in disarray in April 1974. The level of economic development in colonial Mozambique was low even by African standards (Bruck, 1997). GDP per capita is estimated at US$ 200 in 1973 - the last year of colonial rule (Leite and others, 1998).
The stock of gross debt owed to Portugal was reportedly positive, albeit small in relation to exports, at the end of the 1960s. Miscellaneous press reports put the nominal stock of gross debt at less than US$ 100 million in 1975, while the stock of foreign reserves inherited from the Portuguese administration is estimated at more than US$ 500 million in 1975.
Neither the war of independence nor the status of the public finances inherited from the Portuguese administration, therefore, appear to be good candidates to explain the sharp buildup of debt during the first few years after independence. Independence, however, brought about a first major shock that affected Mozambique's economy and balance of payments for many years to come: a large loss of human capital due to the sudden departure of the Portuguese settlers who were occupying the vast majority of the qualified positions in the economy, including in the important service sector, which traditionally had been in surplus.
Terms of trade shocks
Sudden terms of trade changes and poor macroeconomic policy responses to these shocks are widely regarded as major a source of external vulnerability and imbalance for low- and middle-income developing countries because of their dependence on the export of primary commodities.
A terms of trade decline totaling about 10 percent between 1975 and 1980 affected Mozambique's balance of payments and real income negatively during the period. However, developments in subsequent years suggest that terms of trade were not the main driving force behind the buildup of debt. The debt burden rose almost fourfold between 1982 and 1986 despite a 40 percent improvement in the terms of trade over the same period, equally split between higher export prices and lower import prices. Hence, the sharp decline of export values from 1981 to 1985 reflects the collapse of export volume rather than exogenous price shocks.
Indeed, during this period, the collapse of foreign revenues deriving from tourism, transit trade, and border workers was in part, if not mainly, affected by the civil war and the external political factors ultimately explaining the local conflict. The sharp contraction in agricultural output, amply documented by CNP (1985) for both cash and subsistence crops, however, was related also to the lack of protection of property rights - brought about by land nationalization immediately after independence - and the distortions of price incentives imposed by economic planning - formally endorsed in 1977 (Hall and Young, 1997).
Separate estimates of the balance of payments impact of the floods and droughts that periodically afflicted Mozambique during the period of strongest debt buildup are not available. However, a simple account of the main events is enough to appreciate the contribution of this erratic factor:
The Limpopo and Incomati rivers flooded in early 1977 - the worst flood in living memory - at that time - making some 400,000 people homeless and causing some US$ 34 million worth of damage. The Zambezi flooded in early 1978, resulting in some US$ 60 million worth of damage and affecting some of Mozambique's most fertile zones. Serious water shortages in some parts of the country (especially Inhambane) turned into full-scale drought in 1980, leading the government to make an urgent appeal for international food aid. By the end of 1980 the drought was seriously affecting about 1.5 million people in six of the country's ten provinces (Hall and Young, 1997, p. 106).
The 1980 drought, which reportedly lasted until 1983, was followed by floods in 1984-1985 and two other severe droughts in 1986-1987 and 1991-92, respectively.
As a partial result of these natural shocks, but also, as noted above, because of other factors negatively affecting agricultural domestic supply, Mozambique's food balance soon went into structural deficit and did not recover until very recently, forcing the country to rely on food import to feed its people, and thereby continuing to add pressure to the balance of payments. It is estimated, for example, that imports of foodstuff averaged more than US$ 100 million a year during the period 1980-84, as compared to imports of other consumer goods of about US$ 60 million per year over the same period.
While it is difficult to distinguish the contributions of terms of trade and weather-related shocks to the initial buildup of debt from those of other contributors, such as political or economic policy factors, the evidence suggests quite clearly that adverse weather conditions have been more important than adverse relative price movements in international commodity markets.
An opposition group to the Frente de Libertação de Moçambique (Frelimo) - which was to become Resistência Nacional Moçambicana (Renamo) in 1978 - was set up in Mozambique. In March 1976, nine months after independence, Mozambique adhered to the UN embargo against the former Rhodesia and closed its northern borders at an estimated cost - resulting from the loss of transit trade, tourism, and migrant labor revenues - of about £ 250 million (Hall and Young, 1997, p. 106). An agreement with South Africa, whereby 60 percent of miners' remittances were transferred directly to the central bank in gold valued at the 1973 official price, was discontinued in 1978, depriving the government of a stable source of foreign exchange that had provided essential balance of payments financing during the previous years.
Zimbabwe's independence ended the UN embargo in 1979 but marked the beginning of a new phase of the civil war in Mozambique, which escalated in 1981-82 with major disruptions to the country's infrastructure, including particularly in the transport and communications sectors. Notwithstanding a nonaggression treaty signed with South Africa in 1984, the war saw its worst times in 1985-86. The holding of peace talks was announced only in 1989. The talks began in Rome, eventually leading to a cease-fire accord in 1992.
The civil war and the external political factors related to the conflicts are probably the most important contributors to Mozambique's accumulation of external debt. Mozambique's conflict, a low-intensity one from a military point of view but nonetheless a highly disruptive one from an economic and social point of view (Bruck, 1997), lasted almost 20 years, taking a heavy toll on the country's human and physical capital, disrupting export capacity, increasing import requirements, and damaging an already weakened social tissue (Hall and Young, 1997; Bruck, 1997; and Bruck, Fitzgerald and Crigsby, 2000).
In order to give a partial view of the quantitative importance of the impact of the war on the dept buildup, military expenditures in percent of GDP and as a share of total expenditure have been plotted. Cumulative military expenditure between 1980 - the first year for which data are available - and 1992 amount to about 120 percent of GDP, as compared to a net stock of debt at the end of 1992 of about 200 percent of GDP. As discussed below, the availability of foreign financing from both the eastern and western blocs of the cold war may have actually fueled the conflict and thus supported military expenditures. In any case, the association between military expenditure and debt is striking, and confirms the quantitative significance of the former for the rise of Mozambique's debt burden over and above the indirect economic costs of the conflict.
Domestic economic politics
Mozambique's macroeconomic performance since independence has undergone four distinct phases: (i) the decolonization period (1974-76), characterized by a sharp output contraction without a major external imbalance; (ii) the period of strict adherence to economic planning (1977-81), in which output rebounded somewhat from the earlier decline and internal and external imbalances first developed; (iii) a period of economic crisis and financial collapse (1982-86); and finally (iv) a period of more lasting recovery (1987-98), characterized by the resumption of growth, the gradual decline of inflation, and an improvement in the external balance after grants.
Following the postindependence turmoil and consequent decline, the government, which up to that point had not pursued a systematic transformation of Mozambique into a centrally planned economy, embraced formally Marxism-Leninism and economic planning at Frelimo's Third National Congress in February 1977; by 1981, most large-scale economic activities had been brought under the state's control through successive waves of nationalizations (Hall and Young, 1997). At the same time, public investment projects reportedly worth about US$ 800 million had been effected under the direction of the National Planning Commission in agriculture, industry, transport and communications, and construction.
Growth resumed during the period 1977-81, rebounding from its postindependence slump, supported by good weather conditions in 1979-80 after two years of floods, and further stimulated by public investments. However, domestic absorption soon hit capacity constraints, inflation accelerated, and an import growth of more than 30 percent per year pushed the current account into large deficits despite the recovery of exports. Hit by a severe drought and the intensification of the civil war, the economy slowed in 1981 and contracted sharply in 1982. Meanwhile, it was becoming apparent that state-owned enterprises and farms were draining budgetary resources and undermining productivity, especially in agriculture and services. More important, from the narrow point of view of the sustainability of the debt, it was also becoming clear that the rate of return on investments previously financed by foreign borrowing was insufficient to repay the credits drawn.
The government reacted to deteriorating economic conditions by departing, as early as 1980, from strict adherence to economic planning, on the one hand - including by denationalizing small-scale activities - and by trying to strengthen its relationship with the east, on the other hand - that is, by redirecting trade toward the former Soviet bloc and by applying for accession to the Council for Mutual Economic Assistance (CMEA). CMEA countries, however, were facing economic difficulties of their own at the turn of the decade, and Mozambique's application to the CMEA was refused in mid-1981.
After failing to obtain substantial support from eastern countries and facing a large projected cereals deficit (due to the 1980-83 drought), a shortage of consumer goods more generally, a lack of equipment to wage the war, and fast-rising debt-service payments, the government introduced a rationing system in Maputo in 1981 and turned to the west for financial assistance. It launched a series of international appeals for food aid, applied for membership of the IMF and the World Bank in 1982, and requested its first rescheduling from the Paris Club of Creditors, which it was eventually granted in 1984. Meanwhile, the government also took its first steps toward embracing the principles of the market economy at the Fourth National Congress of Frelimo in 1983.
The limited emergency financial assistance, however, was not sufficient to avert an economic crisis that was going far beyond the inability to meet immediate food needs and debt-service payments, as evidenced by the government's action to tighten the rationing system in Maputo in 1983 and broaden it to cover the city of Beira in 1986. During the period 1982-86, GDP declined markedly, and the current account of the balance of payments kept registering enormous deficits; meanwhile inflation remained subdued until prices started to be liberalized in 1987.
The government's response to the economic crisis came in the form of a comprehensive program of economic reforms, the Economic Rehabilitation Program, presented to the national assembly in 1987 with the financial support of the Bretton Woods institutions; a rescheduling agreement with the London Club of Creditors; and the second Paris Club rescheduling.
The economy responded quickly to this strong reform effort, and growth resumed during 1987-93, accompanied by a sharp export recovery. This trend accelerated after the war ended in 1993. Meanwhile, much higher grant financing (close to 20 percent of GDP on average during 1987-93) was allowing even larger current account deficits without adding to the debt burden. Interestingly, while the 1977-81 recovery had taken place only after the postindependence turmoil had subsided, the 1987 expansion began much before the end of the civil war, thus providing evidence of the positive effects of reforms on economic performance ahead of the postwar rebound effect.
Creditor financing and refinancing policies
Neither western nor eastern countries ever expressed unequivocal support for Mozambique's postindependence development plans (Hall and Young, 1997). Judging with the benefit of hindsight, however, both sides of the cold war lent money to Mozambique well beyond any realistic expectation of the country's ability to repay. Between 1978 and 1982, creditors lent Mozambique in excess of US$ 2 billion, on relatively short and market rates; by the beginning of 1983, Mozambique had run out of foreign exchange reserves and started to accumulate arrears, eventually having to request its first Paris Club debt rescheduling.
Initially, until the early 1980s, the supply of easy credits came primarily from the eastern bloc and from oil-exporting countries, whose joint share of Mozambique's debt reached almost 60 percent in 1984 (55 percent of which was owed to centrally planned economies); later, after the government's strategic change of direction in foreign and economic policy, multilateral institutions, including particularly the World Bank and the IMF, became main lenders. As a result, multilateral debt was representing 40 percent of total debt at the end of 1998, with Organization for Economic Cooperation and Development (OECD) countries and other bilateral creditors each accounting for about 30 percent of the total.
The marked change in the pattern of international trade and financial relations is evident also from looking at the composition of imports by country of origin: the share of imports from centrally planned economies in total imports dropped from just under 20 percent on average at the beginning of the 1980s to virtually zero at the end of the 1990s.
After the first agreement with Paris Club creditors in 1984, Mozambique obtained further debt relief through five more reschedulings, a rescheduling from Organization of Petroleum Exporting Countries (OPEC) countries, and a London Club rescheduling before reaching the completion point under the original HIPC Initiative in July 1999, and the decision point under the enhanced HIPC Initiative in March 2000.
The agreements provided Mozambique substantial cash flow relief as evidenced by the fact that debt service paid has been about 20 percent of exports of goods and services, on average, since 1983 - exceeding 30 percent only in 1988. They also helped Mozambique maintain constructive relations with all its creditors and obtain further cash flow relief from commercial creditors, suppliers, and non-Paris Club creditors. However, these rescheduling agreements did not have a significant positive impact on the stock of debt because of their overall degree of concessionality. Indeed, the first two Paris Club reschedulings were at market terms.
Some debt forgiveness started to accrue to Mozambique in 1990, with the third rescheduling under Toronto terms - which provided for the cancellation of one-third of the amounts consolidated. But the overall contribution of debt forgiveness to the stabilization of the debt rations was small: it is estimated that total debt forgiveness under traditional debt-relief mechanisms amounted to about US$ 1 billion in nominal terms during 1990-98, delivered through a progressive increase of the share of cancelled debt in the amounts consolidated. Furthermore, the stock of debt owed to multilateral institutions, which was not subject to rescheduling under traditional debt-relief mechanisms, rose sharply during this period, even though it was serviced regularly, because of outright new borrowing.
A much more important contributor to the stabilization of the debt burden in the second half of the 1980s was grant financing, amounting to more than US$ 5 billion in nominal terms, cumulatively during 1984-98. For instance, Mozambique did not receive aid from the European Community until 1982, when it signed the Lomé Convention, and it was receiving only humanitarian aid from the United States in the early 1980s. Official grants, which had been less than 3 percent of GDP until 1982, picked up in 1983, reaching more than US$ 500 million in 1993 - the equivalent of about 25 percent of GDP, or almost 150 percent of exports of goods and services, and approximately five times the debt service in that year. After 1993, grant financing declined only partially, compensated by further debt forgiveness, perhaps reflecting a perception of decreased official financing requirements.
In sum, creditor's financing and refinancing policies contributed to the sharp rise, and, more recently, the fall of Mozambique's debt burden. The overall contribution, therefore, is difficult to assess. In the late 1970s and early 1980s, creditors lent to Mozambique excessively, paying little attention to the country's ability to repay or even to the quality of the projects financed.
Since the economic and financial crisis of the early 1980s, however, they have engaged in a close dialogue with Mozambique through successive rescheduling agreements under terms progressively more concessional, eventually leading to the HIPC Initiative. Total net financial assistance provided by the international community under the framework of traditional rescheduling mechanisms failed to stabilize Mozambique's debt burden at a sustainable level, but, together with Mozambique's own strong policy effort, it had contributed by the end of the 1990s to a radical change in the composition of the country's foreign financing: the share of net debt-creating instruments in total foreign financing requirements fell to about 40 percent (on average) during the period 1994-98, as compared to 90 percent during 1980-84.
Conclusions and policy implications
The facts presented on the origin and evolution of Mozambique's external debt indicate that external shocks, political factors, domestic policies, and creditors' financing and refinancing policies all played a role in explaining the country's debt burden. A quantification of the relative contribution of each of them is difficult and has not been attempted.
The evidence presented, however, suggests that the civil war and the related external political factors and domestic economic policies are probably the most important contributors. The war has inflicted a very large loss of human and physical capital on the economy; nationalization and economic planning has deteriorated agents' incentives and behavior. Both the war and the planning experiment have disrupted productive and export capacity, increased financing requirements, and weakened property rights. Different from many other low-income countries, terms of trade shocks did not play a major role in Mozambique's external imbalance, while weather-related shocks contributed to large deficits in the food balance, which put the balance of payments under almost continuous pressure.
Financial assistance made available to Mozambique under the framework of traditional debt-rescheduling mechanisms provided for significant amounts of cash-flow relief but failed to bring the debt burden down to sustainable levels. Furthermore, both Mozambique and its creditors seem to have overestimated the country's ability to repay the debt, and the attempt to increase the capital stock rapidly through large investments in a short period of time may have further reduced the economic and social return of the projects financed.
Several lessons may be learned from Mozambique's experience:
• Fears of excessive dependence on revenue deriving from the export of primary commodities are perhaps misplaced. Therefore, the government might promote more actively the recovery of production and investment in traditional export sectors, and the development of new activities related to the extraction and export of natural resources. To reduce aid dependency, as well as the associated vulnerability to exogenous political development, any medium-term poverty-reducing growth strategy must be also strongly outward oriented.
• Weather-related natural disasters are a constant source of risk, as demonstrated by the devastating effects of the most recent floods; the ongoing reconstruction effort should aim at rebuilding public infrastructure and damaged private sector property to higher and safer standards. The government should also promote the development of a domestic insurance market enabling the private sector to share risk originating from weather-related shocks.
• More external financial resources, delivered earlier, would have been needed to stabilize Mozambique's debt burden at a sustainable level within the framework of traditional debt-relief initiatives. Nevertheless, the assistance provided to Mozambique allowed the government to carry an unsustainable debt burden over an extended period of time because the debt relief that was given was accompanied by higher grants and more - and more - concessional credits. Grant financing, in particular, allowed much larger current account deficits to accumulate that debt sustainability considerations would have warranted, thereby permitting a smoother adjustment toward external viability.
• Mozambique's financing requirements are likely to remain large in the medium term, and aid dependency can be reduced only gradually. It is thus important that the debt forgiveness under the HIPC Initiative continue to be complemented but appropriate levels of grant financing. It is also important that Mozambique make effective use of this assistance to spur growth and fight poverty.
• Thanks to Mozambique's reform efforts, which started more than a decade ago, economic growth has long since taken off, domestic macroeconomic stability and external viability have been restored, and the debt burden is being permanently alleviated by forthcoming assistance under the HIPC Initiative. However, much remains to be done to fight poverty and restore room for maneuver in policymaking. To this end, further development of an environment conducive to large inflows of foreign direct investments should be high on the government's policy agenda.
• Last but not least, the evidence presented strongly suggests that peace is the most important public good the government is providing to its people, and all efforts should be made to preserve it.
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By Alessandro Rebucci, IMF
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