Nonconcessional Borrowing

Managing Risks Associated with Nonconcessional Borrowing in IDA14 Grant-Recipient and Post-MDRI Countries

The provision of grants and debt relief creates significant benefits for recipient countries in the form of strengthened debt sustainability prospects and increased resources for development, including MDGs. However, grants and debt relief have also considerably increased borrowing space in low-income countries, and increase the risk that IDA’s debt relief or grants could potentially cross-subsidize lenders that offer non-concessional loans to recipient countries. If borrowing and lending do not take place at a pace consistent with countries’ debt-carrying capacity, it would contribute to the risk of unsustainable debt burdens in the beneficiary countries within a few years.

This risk is created by a collective action problem vis-à-vis creditors, and a moral hazard problem vis-à-vis borrowers. From a creditor standpoint, there are key differences between collective and individual interests: IDA and its donors aim to lower the risk of debt distress in low-income countries by providing new financial assistance on appropriately concessional terms; in contrast, other creditors may gain from non-concessional lending following large-scale debt relief or in conjunction with grants provided by IDA (also known as a potential cross-subsidization problem). From a borrower standpoint, IDA grants and debt relief may introduce an incentive for countries to over-borrow from other creditors, which would force IDA to continue to increase the grant share of its assistance and/or defeat the original purpose of the MDRI.

IDA’s policy on nonconcessional borrowingoutlines IDA’s proposed response to the risks associated with nonconcessional borrowing after grants and debt relief. The two-pronged strategy on nonconcessional borrowing contemplates both the collective action and the moral hazard facets of the problem.

In order to identify instances of non-concessional borrowing, IDA is using a definition of minimum concessionality that is based on a minimum grant element of at least 35 percent or higher if a higher minimum concessionality level is required as part of a country’s ongoing IMF arrangement. The paper stresses the importance of annual and quarterly debt reporting as well as a new IDA advance-reporting requirement of intentions to contract non-concessional debt. A grant element calculatoris provided that can facilitate the assessment of whether an individual loan meets the minimum concessionality threshold.  The list of countries to which the non-concessional borrowing policy would apply is updated regularly.