WORLD TRADE
ORGANIZATIONWT/WGTDF/W/9
12 September 2002
(02-4824)
Working Group on Trade, Debt
and Finance
THE RELATIONSHIP BETWEEN TRADE AND DEBT
A REVIEW OF SELECTED LITERATURE
Note by the Secretariat
I. INTRODUCTION
1. This Note has been prepared in response to a request from the Working Group for a review of
selected literature related to Item II of the Group's work programme.1  It focuses on ways in which a
Member’s trade and its integration into the multila teral trading system can be affected by external
debt, and how high indebtedness may in turn defeat efforts by Members to build strong export-led
economies.
II. THE LINKAGES BETWEEN INTERNATIONAL TRADE AND DEBT
2. External debt is a major issue confronting developing countries and emerging market
economies and it has an impact on their capacity to reap the benefits of their participation in the
multilateral trading system.  This is recognised by G8 leaders (2002), as well as the Bretton-Woods
Institutions and the WTO, when emphasising complementary between initiatives to reduceindebtedness and to improve market access for poor countries.
2
3. From an analytical perspective the link between trade and debt appears less straightforward
than that between trade and finance, or at least less direct.  Debt is only one of several instruments of
external financing, along with foreign direct investment and portfolio equity investment.  Economic
theory suggests that reasonable levels of foreign borrowing are likely to enhance growth, particularlyin countries at an early stage of development which have low savings rates and small stocks of capital,
and that in these countries investment returns are likely to be higher than in more advanced
economies.  Clearly, it is important that borrowed funds should be used for productive investment that
generates a return – and economic growth – that is sufficient to cover debt repayment.  Even where
that is that case, however, a number of factors may s till constrain countries’ ability to repay their debt
or to attract foreign capital for development.  Some of these factors are examined below.
                                                     
1 WT/WGTDF/M/1 and W/1.
2 See in particular the last G8's Summit Chair's conclusions at http://www.g8.utoronto.ca/g7/summit.This document has been prepared under the Secretariat's own
responsibility and without prejudice to the positions of Members
and to their rights and obligations under the WTOWT/WGTDF/W/9
Page 2
A. M ARKET ACCESS AND FOREIGN DEBT
4. One relevant factor from the WTO’s point of view is that overseas market access
restrictions can impede the ability of indebted countries to earn the foreign exchange they need to
service their external debt, and to avoid resorting to further unsustainable borrowing.3  Before the
Doha Ministerial Session, the WTO, IMF and World Bank examined market access restrictions facedby developing countries.
4  Special attention was devoted to the situation of the LDCs and highly
indebted-countries.  The studies revealed that, whil e most other developing countries had shared in
the growth of world trade in the past thirty years, the poorest countries saw their share of world trade
divided by four;  the LDCs’ share of world trade fell from 1.9 percent to 0.5 percent between 1970
and 2000.5  The studies pointed to the prevalence, in these countries’ main trading partners, of market
access barriers on their exports of agricultural and labour-intensive manufactured products (see
section III.A for a more detailed description).  Th e poorest countries comprise virtually all LDCs and
highly-indebted countries eligible for relief under the IMF-World Bank Enhanced HIPC Initiative.
Reversing the marginalization of these countries requires a broad-based strategy combining economic
growth, stability, poverty reduction and debt relief – as outlined by the Poverty Reduction Strategy
Paper (PRSP) process of the IMF and World Bank.  Nonetheless, trade policy reform and improved
market access for these countries’ exports needs to be a central part of that strategy.
5. Other studies have concluded that the gains that can be derived from eliminating trade
barriers on these countries’ exports far outweigh annual flows of ODA and debt relief .  One IMF
study calls for a more coherent approach between trade and aid policies, whereby trade policies would
create market access opportunities for developing countries, and concessional financing of
development policies would enable them to build the capacity necessary to respond to theseopportunities.
6  Key components of such an approach include:  more generous and predictable market
access, especially for the poorest countries;  actions by industrialised countries to reform their
agricultural policies;  and open, outward-looking trade policies in developing countries themselves.
B. TRADE LIBERALIZATION AND DEBT
6. While lack of access to markets can be a major reason why developing countries may not be
able to exploit their comparative advantage,  lack of trade liberalization by these countries can also
play an important role .  Inward-looking, restrictive trade policies raise the cost of imports, and
hence exports, and tend to divert labour and capital from their most efficient uses, thereby leading to a
sub-optimal mix of production, investment and consumption.7  The Monterrey International
Conference on Financing for Development highlighted in its conclusions (the so-called "Monterrey
Consensus") that "meaningful trade liberalization is an important element in the sustainable
development strategy of a country".8
7. All general equilibrium simulations indicate that the largest gains for a country from
further liberalisation of trade – around two-thirds of the total – accrue from the removal of its
own trade restrictions .  The removal of trade barriers by its trading partners are typically of
secondary importance, although they account nonetheless for around one-third of total gains.  The
largest gains stem in each country or region from liberalising the most protected sectors.9  T r a d e
regimes in poor areas, in particular Africa, which remain more restrictive than in other parts of the
                                                     
3 An elaboration of this link is available in WT/GC/W/356/Add.1.
4 See WTO 2001(a) and IMF and World Bank 2001(a).  An update of the IMF and World Bank paper
will be available shortly.
5 See in particular WT/COMTD/W/100 of 19 June 2002 – "Participation of the Developing Countries
in the Global Trading System.
6 IMF 2002.
7 UNCTAD 2001 (b).
8 Paragraph 27 of the "Monterrey Consensus".
9 Hertel 2000;  Department of Foreign Affairs and Trade, Australia 1999.WT/WGTDF/W/9
Page 3
world are likely to be the among the biggest beneficiaries of further trade liberalisation, particularly
multilateral liberalisation which combines the liberalisation of a country’s own trade restrictions with
the liberalisation of those of its main trading partners.10
8. At the world level, estimates of the gains from further liberalisation of merchandise trade
range from US$250-550 billion, roughly one-third of which would accrue to developing
countries .  This is well in excess of annual aid and debt relief flows, as noted above.11  Model
calculations show that in nominal (absolute) term s, industrial countries reap the largest gains from
liberalization (notably as a result of the elimination of their own barriers to agricultural trade), but
because developing countries’ economies are on average more protected that those of industrial
countries, they gain more from global trade liberalization as a per centage of their GDP.
9. Gains from trade typically stem from increased income for domestic consumers and industrial
users of imported inputs.   Liberalising trade restrictions can therefore have a positive impact on
external debt and debt servicing, as it tends to boost domestic growth, productivity and exports.  A
recent study found that the level of openness to trade had positive effects on the debt structure of
countries, by attracting foreign direct investment (a cheaper source of foreign capital than debt) and
hence foreign exchange reserves, which in turn en abled countries to finance technology transfer and
hence improve productivity, and to shift towards production with higher income-elasticity and betterterms-of-trade.
12
C. TRADE BALANCE , BALANCE -OF-PAYMENTS AND EXTERNAL DEBT
10. Recent economic literature identifies other (direct or less direct) links through which debt,
fiscal policy, the balance-of-payments and trade are intertwined.
11. The impact of declining terms of trade .  The problem of the structural decline in the terms-
of-trade and its impact on commodity-dependent export ers, in particular their greater vulnerability to
trade and current account imbalances and indebtedness, is recognized internationally.13  A paper by
Birsdall and Hamoudi (2002) provides evidence that declining export prices affect fiscal and external
accounts negatively, contribute to reduced public consumption and investment, and force private
companies, due to lack of export receipts, to reduce imports of productive inputs, thereby preventingthe diversification of local production.  UNCTAD (2001 (a)) suggests that declining terms-of-trade in
sub-Saharan Africa have led in the past thirty years to a drying up of domestic investment resources.
For each dollar of net capital inflow into the region from the rest of the world, more than half leaks
out of the balance-of-payments through losses in the terms-of-trade, a quarter goes to debt servicing,
and the rest is lost through other capital outflows.
12. Deteriorating terms-of-trade and access to capital markets .  Poor market access prospects
or deterioration of the terms-of-trade were cited as a factor undermining a country's ability to accessinternational markets on attractive terms.
14  In practice, countries with a low level of development and
of integration in world trade lack credibility in inte rnational capital markets, thereby failing to attract
private capital flows and becoming reliant on extern al public debt.  UNCTAD (2001 (a)) suggests that
at such a level of development, the low level of both domestic savings and investment (respectively
                                                     
10 Sharer, 1999.
11 IMF and World Bank 2001 (a).
12 Lane, Milesi-Ferretti, 2000.
13 See paragraph 37 of the Monterrey Consensus:  "multilateral assistance is needed to mitigate the
consequences of depressed export revenues of countries that still depend heavily on commodity exports".
14 Document  WT/GC/W/356/Add.1 says: "A country's trade balance […] will affect the types and
terms of external borrowing to which it has access, and th us the structure, maturity and servicing costs of its
external debt. A country suffering from declines in its export prices or restrictions on market access will
experience considerable difficulties in access to international financial markets".WT/WGTDF/W/9
Page 4
15 percent and 18 percent in Sub-Saharan Africa) a nd continued mis-match between the two calls for
external public financing for an extended period of time.15
13. Countries having access to capital markets (in general middle-income developing
countries) have become vulnerable to change in market sentiment and the increased costs of
borrowing . As seen in WT/WGTDF/W/4 on the relationship between trade and finance, large inflows
of private capital have turned into outflows at times of changing market sentiment (such as during the
Asian crisis), leading to major collateral damage s on the financial system, trade, investment and
employment.  In a recent paper, Ajayi and Khan (2002) argue that such outflows, responsible for
major drains on foreign exchange reserves, require governments to substitute for the private sector,
and hence to borrow to match balance-of-payments gaps generated by private outflows.  At the end of
the crisis, government and private debt would have increased considerably, with negative spill-overs
on international ratings and cost of debt.
14. Trade, efficiency of the financial system and debt . In this vein, it has been argued that the
expansion of trade depends on efficient sources of financing, which in turn requires an efficient,
sound and well-managed domestic banking system. An important issue in this respect is balancing the
advantages that can accrue from liberalising trade in  financial services with the need to ensure that
liberalisation is properly timed, sequenced and prudentially managed so that it does not become asource of financial instability in its own right.
16 Another issue is the need to modernize domestic
banking systems and government budget financing in low-income countries, in order to avoid
resorting to foreign financing (Beaugrand, Loko, Mlach ila, 2002). It has been argued that the absence
of efforts in some low-income countries to create liquid markets for long-term, fixed interest
government debt and the unavailability of adequate instruments to hedge against exchange rate riskled also to risky external borrowing (Mello, Hussein, 2001).
15. The "fiscal channel" is key to the link between trade and debt .  One aspect is the impact
of trade liberalization on fiscal revenues, that some African countries regard as being negative.  A
study by Ebrill, Stotsky and Gropp (1999) indicates that well sequenced tariff reforms can be revenue-
neutral (or in some successful cases, revenue-enhancing) if part of an overall fiscal reform, whichwould include, on the one hand, the offsetting of the negative effect on public finances of the lowering
of average tariffs by the elimination of tariff peaks and of tariff exemptions, and on the other hand,
and the introduction of internal taxes (such as the value-added tax).  Another aspect is the fiscal
impact of deteriorating terms of trade. The lowering of export prices (generally expressed in dollars)does not necessarily lead to reduced incomes of local producers, whose prices are expressed in local
currency. However, it may affect public finances, for example in case of taxes levied on exports. On
the other hand, the deterioration in the terms of trade may have a positive effect on public revenues iftaxes drawn from the increase in import values outweigh fiscal effects of the reduction in export
prices.
16. Nonetheless, some authors make the case that dur ing the Asian crisis the loss in the terms of
trade due to the devaluation and its related domestic income effects had a negative impact on
government revenues (Hussain, Mlambo, Oshikoya, 2001). L.A. Winters (2000) further cautions that
trade liberalization, when reducing government revenues, curtails expenditure on poverty and social
policies, or forces governments to levy taxes on goods consumed by the poor. He advises
governments to display care in liberalizing trade and suggests pro-poor expenditure that would offset
the effects of liberalization.
                                                     
15 Paragraph 39 of the "Monterrey Consensus" states that "for many countries in Africa, least-
developed countries, small island developing States and landlocked developing countries, ODA is still the
largest source of external financing and is critical to the achievement of the development goals and targets of theMillennium Declaration and other internationally agreed development targets".
16 WT/WGTDF/W/4, p. 2.WT/WGTDF/W/9
Page 5
17. A third fiscal issue, is the fiscal impact of the cost of debt, which is addressed, for poor
countries, in the context of the HIPC Initiative (section IV.B).
III. TRADE AND DEBT
A. WTO, M ARKET ACCESS AND INDEBTEDNESS
18. Initiatives to improve access of LDC's exports to industrial countries' markets are likely
to result in significant benefits for these countries .  The integration of developing countries in
world trade is core to the mandate of the WTO. The terms of its preamble and the 145 Special and
Differentiated Treatment provisions contained in the various WTO Agreements are testimony to it.17
Still, soon after the end of the Uruguay Round, when it appeared that the least-developed countriescontinued to loose market shares, the then Director-General of the WTO, called, at the Group of
Seven Summit in Lyon in 1996, for exports from the poorest countries to be granted across-the-board,
bound, duty-free, and quota-free access to industrial country markets, a proposal subsequentlyendorsed by the Managing Director of the IMF and the President of the World Bank.
18 Although
multilateral negotiations were the best route for maximizing the economic effects of liberalization, the
proposal was made on the grounds that gaining open access to industrial markets on a more
permanent basis would significantly enhance trade ince ntives for Africa, and lead them to more active
participation in future rounds.
19. In response to this call, several industrial and transition economies decided to grant LDCs
similar treatment than that promoted by the Director-General (one the most significant being the
"Everything but Arms Initiative" by the European Union), or improved preferences under their GSP
system.19 20 These measures, no doubt, constitute progress relative to existing unilateral trade
preferences for developing countries (GSP, GSTP), which had been criticized in part because of theirlack of transparency, permanency, complexity of ru les of origin (Sharer (2001)) which limited their
benefits and use.
20. A recent paper by the World Bank measured th e incidence of the recent initiatives to
improve market access for the poorest countries  that have been announced by the European Union,
the United States, Japan and other countries on a sub-set of 37 Sub-Saharan African countries. Itfound that unrestricted access to the Quad's markets would produce substantial gains for the
beneficiary countries, leading to a 14% increase in non-oil exports (in the order of US$2.5 billion) and
boosting real incomes by around 1 percent, with negligible trade diversion costs for the rest of the
world. Most of the gains would come from preferential access to the Japanese and European
agricultural markets (Ianchovichina, E., A. Mattoo and M. Olarreaga, 2001)
21. However, while increased preferences for LDCs are a step in the right direction, all recent
studies measuring the gains of a global, non-disc riminatory reduction of trade barriers, in the
context of a new multilateral round of negotiations, point to much larger gains for all countries ,
including developing countries.  These calculations are based on the current patterns of protection in
industrialized and developing countries which have recently been outlined by the WTO (2001):
                                                     
17 The Preamble of the Marrakesh Agreement states: "Recognizing further that there is need for
positive efforts designed to ensure that developing countries, and especially the least developed among them,
secure a share in the growth of international trade co mmensurate with the needs of their economic development,
…".
18 This endorsement is for example to be found in the tripartite Declaration of the Heads of the three
agencies on the occasion of the third WTO Ministerial Conference.
19 A review of such initiative is found in WTO (2001), Overview of Development in the International
Trading Environment, Geneva".
20 The Monterrey Consensus called on "developed countries that have not already do so to work
towards the objective of duty-free and quota-free access for all least-developed countries, as envisaged in theProgramme of Action for the Least Developed Countries adopted in Brussels".WT/WGTDF/W/9
Page 6
• Developed countries, and Quad countries in particular, display much lower bound and applied
average tariffs than developing countries, although tariff peaks exist in selected industries (foodand footwear in the European Union and Japan;  textiles and clothing, footwear, glass and
electrical parts in the United States and Canada; while tariff escalation also exist for these
countries, it is also a common feature many WTO Members, including developing countries, in
relatively similar categories of products. Therefore, possibly contrary to common belief, there isample scope for further liberalization in industrial products (details in WTO, 2001 (b), p.27-31).
• For developed countries, the average bound and applied rates for agricultural products is four to
nine times higher than that on industrial products (depending on countries and on methodology
used), and for developing countries the average is two to three times higher than that for industrial
products (WTO, 2001 (b), op. cit. p.30; and IMF and World Bank, 2001 (a), p.18).
22. Subsequently, and keeping in mind that countries benefit most from liberalizing sectors for
which they have higher trade barriers, in nominal terms developed countries would gain more
from the elimination of trade barriers, but in terms of GDP, developing countries' gains could
be as much as two and half times as much as for the industrial countries  (Hertel (2000)).
Developing countries would in principle gain more from the liberalization of the manufacturing
sector, while developed countries benefit most from agricultural liberalization. However, looking at
Hertel's calculation (which results are broadly similar to those published by the Government of
Australia), developing countries would account for 46% of total trade liberalization across bothagriculture and manufacturing, developed countries taking up the remaining 54%.  Looking at more
detailed calculations (Anderson, 2000), LDCs would gain most from agricultural liberalization in
developed countries because of greater relative importance of agriculture in their economies, while
higher income developing countries gain most from liberalization in industrial products because of the
greater importance of manufacturing in their GDP  and exports.  In any calculation, income gains
generated by total liberalization of trade barriers would by far outweigh total savings from the HIPC
Initiative.
Benefits from Post-Uruguay Round Liberalization, 2005  
Benefits from:
Agriculture Manufacturing Total ($ billions)
Developing countries 44 90 134
Industrial countries 120 40 160
Total 164 130 294
Source: Hertel, Thomas (2000), "Potential gains from reducing trade barriers",
Federal  Reserve Bank of Saint-Louis Economic Review, July/August 2000.WT/WGTDF/W/9
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B. DOMESTIC TRADE POLICIES MUST BE SUPPORTIVE OF TRADE INTEGRATION AND DEBT
REDUCTION EFFORTS
23. Outward-oriented trade policies at country  level help to maximize the gains of an
international open trading environment . However, special attention should be paid to the proper
phasing and sequencing of trade liberalization to prevent an unequal distribution of benefits.According to Reimer (2002), while total effects of liberalization are positive economy-wise, the
distribution of additional income among household groups may be uneven due to the reallocation of
resources and factors of production triggered by the process of liberalization. Bannister and Thugge
(2001) conclude in their study that the larger the number of sectors liberalized, the more individual
groups will perceive the benefits of such liberalization and the more the cost of liberalization will be
spread among sectors, age and gender groups. Although trade liberalization raises the average
standard of living in the medium-term, groups that have been favoured by protection will see theirincome decline temporarily, and the resulting restructuring of the economy may create economic
dislocations in the short-term.
24. Trade policies should be supported by policies aimed at raising domestic private savings
and foreign direct investment.  Standard economic theory teaches that in the absence of full mobility
of factors of production (such as land, labour and capital) countries will obtain these factors byexchanging goods intensive in the factors in which they are well endowed against goods intensive in
scarce factors (countries well endowed in labour would exchange labour-intensive goods against
capital intensive goods) (Hecksher;
21 Ohlin).  As seen above, obstacles to this process are the lack of
market access and/or deteriorating terms of trade for labour-intensive goods exporters, are creating
external imbalances preventing the acquisition of imported capital goods.  Another conditions is thattrade policy be supported by policies aimed at mobilizing private and international savings, notably in
the form of foreign direct investment.
25. The importance of foreign direct investment in indebted countries is emphasized in the
literature and policy conferences on developmen t, such as in the conclusions of the recent
conference on financing for development held in Monterrey .
22  The WTO Working Group on
Trade and Investment has on numerous occasions emphasized the positive contribution of FDI for
development, in particular its stability relative to other forms of financing, its positive spill-overs on
the technical development of host countries, and it absence of financial cost (no capital or interest to
pay back). A recent study by Lehmann, (2002), em phasizes that the positive impact of FDI on the
balance of payments of developing countries and on capital formation, is not so much explained by
the amount of the initial investment, but because of re-invested earnings (on average three-quarters of
investment incomes are reinvested in the host country).
26. The mobilization of private savings in LDCs is problematic in many ways , because of
poor macroeconomic management (inflation, crowding -out of private investment), unsound banking
sectors and lack of perceived investment oppor tunities in the LDCs: Ajayi and Khan (2002)
examined, from the point of view of investors, the risk of investing into the local economy by
residents. They found that LDC nationals often prefer to invest their assets abroad where risks is
                                                     
21 See in particular Hecksher, E. (1919), The Effect  of Foreign Trade on the Distribution of Income,
Ekonomisk Tidskriff, 497-512 (translated in chapter 13 of American Economic Association's Readings in the
Theory on International Trade, Philadelphia: Blakiston, 1949, 272-300.
22 In paragraph 20 of the "Monterrey Consensus", it is said that "private international capital flows,
particularly foreign direct investment, along with in ternational financial stability, are vital complements to
national and international development efforts.  Foreign direct investment contributes toward financingsustained economic growth in the long term. […] A central challenge, therefore, is to create the necessary
domestic and international conditions to facilitate dir ect investment flows [..] to developing countries,
particularly Africa and least developed countries[…].  Paragraph 21 emphasizes the need for countries to
achieve a transparent, stable and predictable investment climate, while paragraph 22 calls on relevantinternational and regional institutions to increase their support for private investment in priority areas.WT/WGTDF/W/9
Page 8
perceived as neglictible, whereas they perceive assets invested into the national economy as more
risky because they are prone to nationalization, taxation or expropriation.  Other factors such as
inflation, large fiscal deficits, fraudulent trade invoicing, lack of domestic credits and unfavourable
terms of trade are found to be the main factors discouraging the investment of private savings into
domestic investment.  Lack of private savings, inefficient financial intermediation and crowding outfrom fiscal deficits explain the unavailability or high cost of credit for small and medium size
enterprises, according to the authors.
27. Trade liberalization and fiscal policies must also play their part in the mobilization of
savings .  According to Go and Mitra (1998), trade liberalization may have, in the first instance, a
negative effect on public revenues and public savings. However, as imports are also inputs in the
production process, a tariff reduction has a favourable effect on output, private sector income, and
hence private savings.  But since just a fraction of the private sector finds its way to private savings,the increase in the latter does not completely offset  the decline in public savings.  Restoration in the
savings-investment balance requires an increase in domestic savings, which can come either through
an increase in the average tax rates or a reduction in government consumption.  Depreciation of the
real exchange rate also helps to restore the internal balance by boosting exports. Availability of
external financing reduces the need for fiscal adjustment to make up for the shortfall in domesticsavings arising out of tariff reduction.
IV. DEBT AND TRADE
A. D
EBT AS A BURDEN TO THE ECONOMY
28. One concern also expressed by a Member is that high levels of external indebtedness
reduce the capacity of developing countries to take full advantage of improved export market
access opportunities  because of insufficient new investment in productive capacity in their
economies, particularly in their export sectors. The fact of being labelled as "indebted" deters new
investors, while debt service obligations absorb available capital and foreign exchange to pay for
imports.23
29. Some of these concerns are supported by empirical evidence found in the literature . In a
recent paper by Pattillo, Poirson and Ricci (2002), the authors try to answer to the question of why
large levels of accumulated debt lead to lower growth and under which conditions. They test the "debt
overhang" theory, referred to above, which shows th at if there is some likelihood, in the future, that
debt will be larger than the country's ability to repay, expected debt-service costs will discourage
further domestic and foreign investment and thus harm growth. Potential investors will fear that the
more a country produces, the more it will be "taxed" by creditors to service the external debt, and thus
they will be less willing to incur costs today for the sake of increased output in the future. On this
basis, the authors drew a "Laffer" curve for de bt, which posit that large debt stocks tend to be
associated with lower probabilities of debt repayment. It appears from calculations held on 100
countries that the overall contribution of debt to growth appears to become negative  at 160-170% of
exports and 35-40% of GDP, while emphasizing that  reasonable levels of debt (much below those
levels)  have a positive impact on growth.
30. While this above paper emphasizes the "investment channel" as eroding growth and
diversification of exports, the "external debt trap" may also work its way through the external
                                                     
23 The proposal in WT/GC/W/445 is: "In many developing countries, particularly low-income
countries, the heavy debt burden reduces their ability to develop an adequate supply response…The debt burdencan work through several different channels to reduce su pply capacity. First, a large debt overhang discourages
private (foreign and domestic) investment which would help alleviate the financing constraint. Second, heavy
debt servicing requirements can create foreign exchange  liquidity problems because of the draft on foreign
exchange reserves,…At the same time, high levels of debt service weaken the supply capacities of debtors asresources are diverted away from productive investments".WT/WGTDF/W/9
Page 9
sector , by maintaining a high level of vulnerability to balance-of-payments shocks.  The mechanisms
described by Beugrand, Loko and Mlachila (2002), associate high debt, responses to external shocks
through currency depreciation or further borrowing, which in turn lead to an increase in the cost of
existing debt expressed in local currency, with poss ible implication on the stability of local financial
intermediaries.
31. In extreme cases, countries may default on their external debt .  In such cases, the impact
of default may vary widely according to countries.  In cases where default is followed by a debt
restructuring plan (such as the Brady Plan) coupled with the restoration of macroeconomic stability
under the sponsorship of international agencies, default may not necessarily have long-term effects on
a country's capacity to integrate in international trade and attract foreign direct investment as a
substitute to bank loans (Brazil, Mexico, Bulgaria).  Rose (2002) shows that the longer the debt
renegotiation process lags and restoration of macroeconomic stability is delayed, the deeper the effecton the export capacity of the countries concerned will be (examples are essentially drawn from
African experiences).  Defaults not only cut off borrowing but also inflows of foreign direct
investment, which are deterred by poor credit ratings.
32. Measures to address supply-side constraints of developing countries are at the center of
concerns of the international community. In its section on international trade, the "Monterrey
Consensus" (paragraph 36) clearly invites multilateral, bilateral financial and development institutions
to "expand and coordinate their efforts, with increased resources, for gradually removing supply-side
constraints (of developing countries)". Members of the Conference emphasized the need to, inter alia,
improve trade infrastructures, diversify export capacity and support the technological content of
exports; and strengthen infrastructural development and enhance overall productivity andcompetitiveness. To that end, the "Consensus" calls on relevant institutions, amongst which the WTO,
to reinforce support for trade-related training, capacity and institution building, and trade supporting
services.
B. D
EBT RELIEF , POVERTY REDUCTION AND TRADE
33. After a succession of debt crises in middle-income and poor countries in the 1980's and
1990's, international creditors launched several debt restructuring and relief initiatives or
mechanisms,  under the auspices of the Paris Club (for bilateral ODA debt), the London Club for
private debt, or international financial institutions for multilateral debt (the HIPC Initiative).
34. The HIPC (Highly Indebted Poor Countries) Initiative  represents a framework designed
by the IMF and the World Bank, along with other multilateral creditors, to provide special assistance
for heavily indebted poor countries that pursue IMF and World Bank-supported programs to reduce
the external debt burden to more sustainable levels and strengthen the links between debt relief andpoverty reduction policies (see IMF and World Bank (2002). A first version of the HIPC Initiative
was introduced in 1996, and an Enhanced Initiative, aimed at providing deeper and faster relief to a
large number of countries, has been introduced in 1999. To be considered for the HIPC Initiative, a
country must meet a set of criteria: facing an unsustainable level of debt, after application of existing
“traditional” debt relief mechanisms (Paris Club for example), having a good record in implementingIMF and World Bank supported programs, and adopting Poverty Reduction Strategies (PRSP),
through a broad-based participatory process involving civil society in the beneficiary country.
24
                                                     
24 The process takes place in two stages.  First, countries must reach the Decision Point, the point at
which the Executive Boards of the IMF and World Bank will determine the overall amount of debt reliefavailable to which the countries in question are entitled; and thus, upon completion by countries of the
additional conditions that the IMF and World Bank may request at the Decision Point, countries would be
qualified for the Completion Point, point at which relief would be delivered (between the Decision andCompletion Points, which may take between 6 months and three years, countries may receive "interim relief",that is a portion of the final amount of debt relief for which they qualified).WT/WGTDF/W/9
Page 10
Thanks to PRSP, debt relief is fully integrated in a broad strategy to combat poverty that also involves
integration through trade and trade liberalization.
35. The Enhanced HIPC Initiative results in significant reductions in debt stocks and
service.   According to a recent report by the World Bank (2002), the stock of external debt of the first
26 eligible countries will fall from US$62 billion to US$27 billion before and  after relief in netpresent value terms, that is, from 60% to 24% of GDP (or 10 percentage points lower than the average
of developing countries); debt service will decline immediately from 1/3 to half depending on
countries.
36. Some authors pointed to the positive impact of debt relief on development . While savings
from HIPC relief must be allocated to social and poverty reduction-related spending (health,
education), the high standards required by the IMF and World Bank in the areas of macroeconomic
management, good governance, public spending plan ning and poverty reduction, are likely to promote
growth and improve the private investors' perception of the country risk in the eligible countries
(Botchwey, 2000).WT/WGTDF/W/9
Page 11
ANNEX 1
Grouping of HIPCs Under the Enhanced HIPC Initiative: Status as of July 2002
HEAVILY INDEBTED POOR COUNTRIES
Angola* Congo, Dem.
Rep.*Honduras Mozambique Somalia*
Benin Congo, Rep. of* Kenya Myanmar* Sudan*
Bolivia Côte d'Ivoire Lao P.D.R. Nicaragua Tanzania
Burkina Faso Ethiopia Liberia* Niger Togo
Burundi * The Gambia Madagascar Rwanda* Uganda
Cameroon Ghana Malawi Sao Tome and
PrincipeVietnam
Central African
Republic*Guinea Mali Senegal Yemen
Chad Guinea-Bissau* Mauritania Sierra Leone* Zambia
Comoros Guyana
HIPC RELIEF APPROVED AT
DECESION POINT (26)DECISION POINT NOT YET
REACHED (12)POTENTIALLY
SUSTAINABLECASES (4)
Benin Guinea-Bissau Niger Burundi Lao
P.D.R.Angola
Bolivia 1/ Guyana Rwanda Central African Rep Liberia Kenya
Burkina Faso 1/ Honduras Sao Tome and
PrincipeComoros Myanmar Vietnam
Cameroon Madagascar Senegal Congo, Dem. Rep. Somalia Yemen
Chad Malawi Sierra Leone Congo, Rep. of Sudan
Ethiopia Mali Tanzania 1/ Côte d'Ivoire Togo
The Gambia Mauritania 1/ Uganda 1/
Ghana Mozambique 1/ Zambia
Guinea Nicaragua
* Conflict-affected countries.
1/ Completion-point countries.
Sources:  World Bank (July 2002), Financial Impact of the HIPC Initiative, First 26 Country Cases , HIPC
documents and IMF and World Bank staff estimates.WT/WGTDF/W/9
Page 12
ANNEX 2
Enhanced HIPC Initiative: Committed Debt Relief and Outlook
(Status as of July 2002)
(in millions of US dollars)1/
Reduction in NPV Terms Nominal Debt Service Relief
Original
HIPC
InitiativeEnhanced
HIPC
InitiativeTotal Original
HIPC
InitiativeEnhanced
HIPC
InitiativeTotal Date of
Approval
Countries that have reached their Completion Points (6)
TOTAL          2,740        4,788        7,528    5,510        7,830    13,340
Bolivia             448           854        1,302       760        1,300      2,060 Jun-01
Burkina Faso             229           324           553       400           530         930 May-02
Mauritania                -           622           622          -        1,100      1,100 Jun-02
Mozambique          1,716           306        2,022    3,700           600      4,300 Sep-01
Tanzania                -        2,026        2,026          -        3,000      3,000 Nov-01
Uganda             347 656        1,003       650        1,300      1,950 May-00
TOTAL             377      16,851      17,228       660      26,720    27,380
Benin                -           265           265          -           460         460 Jul-00
Cameroon                -        1,260        1,260          -        2,000      2,000 Oct-00
Chad                -           170           170          -           260         260 May-01
Ethiopia                -        1,275        1,275          -        1,930      1,930 Nov-01
The Gambia                -             67             67          -             90           90 Dec-00
Ghana                -        2,186        2,186          -        3,700      3,700 Feb-02
Guinea                -           545           545          -           800         800 Dec-00
Guinea-Bissau                -           416           416          -           790         790 Dec-00
Guyana             256           329           585       440           590      1,030 Nov-00
Honduras                -           556           556          -           900         900 Jul-00
Madagascar                -           814           814          -        1,500      1,500 Dec-00
Malawi                -           643           643          -        1,000      1,000 Dec-00
Mali             121           401           522       220           650         870 Sep-00
Nicaragua                -        3,267        3,267          -        4,500      4,500 Dec-00
Niger                -           521           521          -           900         900 Dec-00
Rwanda                -           452           452          -           800         800 Dec-00
Sao Tome and Principe                -             97             97          -           200         200 Dec-00
Senegal                -           488           488          -           850         850 Jun-00
Sierra Leone                -           600           600          -           950         950 Mar-02
Zambia                -        2,499        2,499          -        3,850      3,850 Dec-00
Countries still to be considered (12)
Côte d'Ivoire             345             -           345       800              -         800 Mar-98 2/
Burundi                -             -             -          -              -            -
Central African Republic                -             -             -          -              -            -
Comoros                -             -             -          -              -            -
Congo, Dem. Rep. of                -        5,773        5,773          -        9,800      9,800 Jun-02 3/
Congo, Rep. of                -             -             -          -              -            -WT/WGTDF/W/9
Page 13
Reduction in NPV Terms Nominal Debt Service Relief
Original
HIPC
InitiativeEnhanced
HIPC
InitiativeTotal Original
HIPC
InitiativeEnhanced
HIPC
InitiativeTotal Date of
Approval
Lao PDR                -             -             -          -              -            -
Liberia                -             -             -          -              -            -
Myanmar                -             -             -          -              -            -
Somalia                -             -             -          -              -            -
Sudan                -             -             -          -              -            -
Togo                -             -             -          -              -            -
Memorandum item:
Debt relief committed 4/          3,462      21,639      25,101    6,970      34,550    41,520
1/ In net present value (NPV) terms of the decision point year.
2/ Approved debt relief under original framework.
3/ Preliminary document issued.
4/ By mid-Feb 2002, incl. Côte d'Ivoire.
Source:  World Bank (July 2002), Financial Impact of the HIPC Initiative, First 26 Country CasesWT/WGTDF/W/9
Page 14
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