International Debt Situation Paper

2

THE NEW SCHOOL

Milano School of International Affairs, Management and Urban Policy

“Public Finance and Debt in Development”

Fall 2014

Final Exam

Ground rules: you are allowed, even encouraged, to study together and talk to each other in preparing your responses but please write your own answers. I will be available for email and personal consultation. Don’t hesitate to ask questions.

I. The debt situation of Grenada

The Caribbean island of Grenada is in a sovereign debt crisis. It has been working with the IMF to resolve its crisis. Grenada is in default on its obligations to most of its creditors. A year ago October, the Conference of Churches of Grenada met with the government and presented a set of four recommendations, which are attached. Your assignment is to analyze them using the latest IMF Grenada report and what you know about public finance and debt from the course; don’t waste time searching for other materials on the Internet (the IMF report is on line at http://www.imf.org/external/pubs/ft/scr/2014/cr14196.pdf; the “background” and “recent developments” sections will give you context, but you will also need to look deeper into the report). In particular, please answer the following:

A. [40 points] The churches called for a reduction of the government’s debt to 50% of GDP, requiring a two-thirds reduction of the debt. Referring to the IMF report, let us examine the situation and the outlook for Grenada’s debt ratio without debt reduction (hint: the debt sustainability analysis begins on page 58).

a. [10 points] How much did Grenada owe to its domestic and foreign creditors at the end of 2013 (measured as share of GDP) and what classes of foreign creditors were the main lenders to Grenada?

b. [10 points] IMF undertakes its Grenadian sustainability analysis in terms of the present value of the government’s external debt relative to GDP; how much does that differ from the nominal external debt to GDP ratio? The difference does not seem large. Why?

c. [20 points] Describe how the ratio of the present value of external debt to GDP is projected by the IMF Staff to change over the projection period, mentioning first the “baseline”, how it differs from the “historical” scenario and why. Then, identify the stress test with the most extreme impact (shocks are referred to as “bound tests” in table A3a) and what that shock would do to worsen the debt ratio.

d. Are you convinced the country needs debt reduction? You should be!

B. [20 points] In their second recommendation, the churches proposed the government take a different approach to the debt workout from the standard processes. In fact, Grenada is following the standard approach. Briefly describe what negotiations will be required to restructure its external sovereign debts.

C. [20 points] The third recommendation seeks transparency and public approval of the package of economic reform measures that are expected to accompany the debt restructuring. The fourth recommendation looks to the future to engage public oversight to prevent a recurrence. You have seen recommendations of this sort before in the course. Describe one such approach.

II. Proposals for sovereign debt workout reform

[20 points] Choose one of the many proposals that have been suggested for reform of how sovereign debt crises might be resolved (choose ONE and only one from among the proposals described in the syllabus readings) and explain how it would organize a workout that is more effective for the debtor and fair to the debtor and its different creditors.