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Dictators and debt

Joseph Hanlon
November 1998

1. Introduction

One-fifth of all developing country debt consists of loans given to prop up compliant dictators. Mobutu, Marcos, Suharto and other notorious dictators were propped up by massive loans. Even when they committed gross human rights violations, were notoriously corrupt, and blatantly transferred money to Swiss banks, the flow of loans continued.

But when these dictators fall, it is expected that their democratically elected successors should repay those debts. Must the victims of oppression be expected to pay the cost of their own torture and imprisonment?

The lenders and not the borrowers should take the responsibility for loans to dictators. There are two reasons why these debts should not be repaid:

  • First, these are “odious debts” as defined in international law, and cannot be the responsibility of those who did not take them on and who suffered as a result of those loans.
  • Second, is the issue of “moral hazard”. By forcing repayment of these loans, we say that it is acceptable to lend to corrupt and oppressive dictators. If we want integrity in lending, and if we do not want loans to prop up oppressive regimes, then creditors must understand that such lending is economically unwise and morally unacceptable.

2. How the debt happened

Much of poor country debt is related to the Cold War, when both sides pushed money at their supporters. Zaire's ruler, Mobutu Sese Seko, was one of the world's most corrupt leaders and it was for his government that the word “kleptocracy” was first coined. Mobutu became one of the world's richest men, with a personal fortune estimated at more than $10 billion and palaces in Europe and Zaire. But the West saw Mobutu as a loyal ally in the Cold War (in part for his support of the US, in its backing for Unita in Angola). In 1978 the IMF appointed their own man, Edwin Blumenthal, to a key post in the central bank. He resigned two years later, complaining of “sordid and pernicious corruption” that was so serious that “there is no chance, I repeat no chance, that Zaire's numerous creditors will ever recover their loans.”

Shortly after Blumenthal's report to the IMF, it gave Zaire the largest ever loan given to an African country. [1] When Blumenthal wrote his report, Zaire's debt was $5 billion; by the time Mobutu was overthrown and died in 1998, the debt was over $13 billion. In the six years after Blumenthal's report, the IMF lent Zaire $600 million and the World Bank $650 million. In those six years Western governments lent Mobutu nearly $3 billion. Commercial banks refused to lend more to Mobutu during that period.

Patricia Adams in her book Odious Debts [2] estimates the Philippines dictator, Ferdinand Marcos, and his wife Imelda, pocketed literally one-third of the Philippines' entire borrowing – much of it in the form of kickbacks and commissions on aid and loan-funded projects. His personal wealth when he was overthrown was $10 billion.

The British role

The British government has been an active participant in lending to dictators, mainly lending them money in the form of export credits so they can buy British goods. More than one-third of all debt owed to the British government is owed by Nigeria. The 3 billion was lent entirely after 1985 and all during the era of military dictatorship. Sudan has been in the news repeatedly for a famine caused by decades of government repression; Sudan is Britain's fourth largest debtor, owing 382 million. Britain only started to lend to Algeria after the government there annulled democratic elections; Algeria now owes 166 million. Britain stepped up its lending to Mobutu in Zaire after 1985, when it was well known that he was siphoning off the country's wealth; the new Democratic Republic of the Congo still owes 134 million to the UK.

The political importance of lending can be shown by South Africa. In 1976, just months after the Soweto uprising put apartheid on the world's television screens, the IMF – with British and US backing -- gave South Africa a large loan. This was widely seen as political rather than economic support for apartheid, and the white regime remained entrenched for another 15 years.

In the past, British banks have been major lenders to dictators; many people will remember the campaigns against British banks, which were the biggest lenders to the apartheid regime in South Africa in the 1970s and 1980s. In 1990, apartheid South Africa owed $14 billion to international banks, including $3.8 billion to British banks, $2.6 billion to German banks, and $2.3 billion to French banks.

Most of the credit given to dictators has been provided by the western governments and by the financial institutions they control. However, as part of the Cold War, the Soviet Union gave major loans to dictatorships in Afghanistan (not included in any world debt tables), Ethiopia and Somalia. [3]

Economic roots of excessive debt

Many loans to dictators are made for purely economic reasons, particularly to support exports. Virtually all poor country debt to Britain is in the form of export credits – money advanced by the British government to allow poor countries to buy British goods. Many countries give export credits to encourage arms sales; 18% of British export credits in 1994-97 were for arms. [4]

The US Treasury estimated that in 1993 the US provided $1.5 billion to multilateral development banks, such as the World Bank, but US firms won $2.7 billion of contracts on projects funded by those banks. That created 54,000 jobs in the US, the Treasury said. [5] Of the Philippines debt of $29 billion, 10% is accounted for by a single project – a nuclear reactor built by the US company Westinghouse.

Finally, there is the issue of loan “pushing”. In 1973, well before the debt crisis was obvious, the US Federal Reserve Governor, Andrew Brimmer, noted that “the main explanation” for the sharp rise in lending to less developed countries is the “failure of demand for loans from borrowers in developed countries to keep pace with the expansion of credit availability.” Even the IMF admits to an `irrational exuberance' that led investors and banks to underestimate the risks in emerging market countries.” [6]

Brimmer explained that faced with a surplus of cash, many European banks “pushed loans to developing countries” by offering incentives such as very low interest rates. [7] Indeed, in the mid-1970s, real interest rates were negative, meaning countries could pay less than they borrowed. But the hidden sting was that these loans had variable interest rates and, once poor countries were hooked on loans, real interest rates were raised by an incredible 15%. Countries could not pay and defaulted. [8]

In summary, the industrialised nations pushed dictators to take loans they did not need, and then the lenders looked the other way when the money was squandered.

3. Odious debt

In 1982, at the height of lending to apartheid South Africa, two lawyers from the First National Bank of Chicago wrote an article in the University of Illinois Law Review [9] in which they warned their employers and other banks of “the consequences of a change of sovereignty for loan agreements”. They noted that “if the debt of the predecessor is deemed to be `odious', i.e. the debt proceeds are used against the interests of the local populace, then the debt may not be chargeable to the successor.”

This concept of “odious debts” has a long history, arising initially from the United States capture of Cuba from Spain in 1898. [10] Spain demanded that the US pay Cuba's debts and the US refused, on the grounds that the debt had been “imposed upon the people of Cuba without their consent and by force of arms.” Furthermore, the US argued that, in such circumstances, “the creditors, from the beginning, took the chances of the investment.” The concept of “odious debt” was upheld and formally entered international law in the 1923 judgement of US Chief Justice Taft in the case of Great Britain vs. Costa Rica.

The Archbishop of Cape Town, Njongonkulu Ndungane, made the case for writing off the odious debts of apartheid-era South Africa, speaking in Southwark Cathedral in April 1997. He said, “South Africa is a prime example of a country that has had governments that systematically oppressed the majority of its people. In 1973 the United Nations began to describe apartheid as a crime against humanity. Nevertheless, the international financial community, aided and abetted by the Nationalist Party government, continued to make loans to Pretoria, particularly in the critical 1980s, for which the new government is now held responsible. Clearly such loans were not in the interests of the majority of the people of South Africa.” Ndungane concluded, “as we approach the new millennium, the time has come to invoke the Doctrine of Odious Debt. In the case of South Africa, its foreign and domestic debt was incurred, by and large, under the apartheid regime, and should ... be declared odious and written off.” [11]

The concept of “odious debt” was recognised by the British House of Commons International Development Committee in its May 1998 report on Debt Relief (paragraphs 11 & 57). It notes that “the bulk of Rwanda's external debt was incurred by the genocidal regime which preceded the current administration. ... Some argue that loans were used by the genocidal regime to purchase weapons and that the current administration and, ultimately, the people of Rwanda, should not have to repay these `odious' debts. ... We further recommend that the [UK] Government urge all bilateral creditors, in particular France, to cancel debt incurred by the previous regime.”

4. Moral hazard

“Moral hazard exists when the provision of insurance against a risk encourages a behaviour that makes that risk more likely to occur. In the case of IMF lending, the concern about moral hazard stems from perceptions that the availability of financial assistance may weaken policy discipline, encourage international investors to take on greater risks in the belief that they will only partially suffer the consequences, or both.”

International Monetary Fund, World Economic Outlook 1998, page 8

International lenders, including the IMF itself, have lent to pariah states like apartheid South Africa or to corrupt regimes like Mobutu's or Suharto's, knowing that the money will not be productively invested. They are confident that the international community will force the repayment of those loans. This is a classic case of moral hazard – banks, governments and multi-lateral institutions can lend to the most heinous dictators with impunity and be sure that the loans will be repaid, even when those dictators were overthrown.

The “moral hazard” is that those who lend to dictators are rewarded. Banks lent to apartheid South Africa, despite the most massive sanctions campaign in history. If those loans are repaid, then lenders in future will argue that it is profitable and sensible to ignore and evade sanctions. Bad lending will be discouraged only if it is penalised. Thus, the only way to avoid “moral hazard” and prevent bad lending in the future is to ensure that past immoral loans are not repaid. Teaching this lesson to lenders is critical in avoiding future debt crises. It should be seen as a priority and must take precedence over questions of who benefits if debts are not repaid.

The real moral hazard

The British International Development Committee in its May 1998 report (paragraph 60) also notes that “the issue of moral hazard in the case of Rwanda has been raised. IMF officials in Rwanda explained that the conflict should not be `rewarded'” and that rapid debt cancellation would be seen to reward genocide. The Committee rejects this view, noting that “the international community failed to act when genocide took place” and that the present government is not the one which committed the genocide.

Creditors and the international financial community all too easily see the issue of moral hazard through the wrong end of the telescope. Rather than accept their own share of responsibility for the build-up of odious debt, they instead stress that debt cancellation carries with it the “moral hazard” that if debtors are let off without having to pay, they will quickly get into debt again, on the assumption that future debts will also be cancelled. Even the IMF questions that: “From a borrower's perspective, it is hard to believe that a country would deliberately risk a financial crisis simply because it can count on IMF assistance.” [12]

This is not to deny the possible “moral hazard” with respect to debt relief itself. The biggest debt relief package, before the current crisis, was given to General Suharto in Indonesia in 1970 and it was widely seen as a “reward” for his overthrow of the leftist government of President Sukarno and subsequent massacre of 700,000 alleged communists. The moral hazard of rewarding such behaviour was made clear in 1975 when Suharto occupied the newly independent East Timor. But instead of being punished, he was further rewarded by more than $100 billion in loans over the next two decades, as well as substantial arms sales. This underlines the importance of not using debt relief and new lending to reward misconduct.

Nevertheless, the real moral hazard is that if “odious” loans to pariah regimes, such as apartheid South Africa, or a genocidal government in Rwanda, are forced to be repaid by the victims, it will “reward” those who make odious loans and encourage them to do so in future.

The new moral hazard

Developing country debt crises occur roughly every 50 years: 1830s, 1870s, 1930s, and now the 1980s-90s. In previous debt crises borrowers defaulted on all, or part of, their loan and the lender carried the responsibility. [13] Indeed, bankers are supposed to set interest rates to include a certain risk component so that, even after defaults, the bank still makes a profit. What is different about the current debt crisis is that the international financial institutions, the IMF and the World Bank, have become global debt collectors; aid and debt relief requires their stamp of approval and they have imposed adjustment programmes, to ensure the highest rate of debt servicing. Debts to commercial banks have been taken over by the multilateral institutions. Thus, in the current debt crisis, lenders assume a lower risk than in the past. This has created a serious moral hazard, which, if it is not redressed, will encourage future risky lending.

Thus, to encourage the moral and proper conduct of international financial affairs, it should be a priority to discourage odious and immoral lending and that can best be done by making lenders bear the cost of past odious and immoral loans. As the United States argued when it first introduced the concept of “odious debt” in 1898, “the creditors, from the beginning, took the chances of the investment.” For the international community to enforce such loans sends exactly the wrong message to lenders.

Banks who lent to apartheid South Africa must carry the cost. If France lent to a genocidal regime in Rwanda it cannot now collect from the survivors of the genocide. There is strong evidence that the IMF and World Bank lent to Mobutu in Zaire on political grounds – so that he would back the US in the Cold War – against their own best fiscal advice. Those lenders may try to collect from the US or from Mobutu's Swiss bank accounts. They should not ask the people of new Democratic Republic of the Congo, already the victims of Mobutu's regime, to pay again for the darkest period in their recent history.

Only if lenders are forced to genuinely take the chance of their loans will odious loans be made uneconomic, as well as immoral. Much the same applies to loan pushing and even to export credits. We can only discourage governments from pushing questionable export credits, particularly for luxury projects and arms, if governments see there is a real chance that they may not be repaid.

The first international meeting of Jubilee 2000, in Rome on 17 November 1998, specifically called for the cancellation of “odious debt and debt incurred by repressive regimes.”

5. Moving forward

Debtor countries, and civil societies within them, are looking to the future and want to ensure that they are not quickly burdened with new unpayable debt. They want to ensure that banks, governments and international institutions do not make new loans for white elephant projects, or to fill the foreign bank accounts of compliant dictators.

Thus, there is concern that mechanisms for debt “relief” should carry with them the seeds of a better system. In particular, this requires a new degree of transparency but also requires a different kind of creditor-debtor partnership.

It is beyond the scope of this paper to put forward detailed prescriptions. But what is clear is that debtors and creditors must share the responsibility for past bad loans and that a new relationship is needed for future loans.

The most serious “moral hazard” is that lenders will feel that they can make new loans with impunity and need not consider political, moral, or fiscal risk; and that the international community will ensure that loans made to the most corrupt and brutal dictators will be repaid by the successor governments. Future lending can only be controlled if lenders exercise some caution.

Various proposals have been made for international regulations, for example, for insurance schemes, for arbitration panels involving both creditors and debtors (including civil society) and for an international insolvency system, which would allow the national governments the same protection against creditors that local governments have in many countries.

In all cases, this involves some independent judgement, both of payability of debt service and of the legitimacy of past loans. Thus, for example, allowing a ruling that odious debts cannot be enforced. Most importantly, this would end the total dominance of corrupt and immoral lenders.

Morality and common sense demand a change in the power relationships. North and south, working together, can change that relationship – to prevent the moral hazard that the north can lend with impunity and to ensure that debt relief and future lending really benefits the poorest.

Table 1: Dictators' debts, by country

CountryDictatorIn powerDebt $ billionDictators debts
fromtostart(1)end(2)1996$ billion% of total
Algeriamilitary1991present28.233.333.35.115%
Argentinamilitary197619849.348.993.839.642%
Boliviamilitary1962198002.75.22.752%
Brazilmilitary196419845.1105.1179.0100.056%
ChilePinochet197419895.21827.412.847%
El Salvadormilitary197919940.92.22.21.359%
EthiopiaMariam197719910.54.210.03.737%
HaitiDuvalier1971198600.70.90.778%
IndonesiaSuharto196719983129.0129.0126.098%
IranShah1953197904.521.24.521%
KenyaMoi1979present2.76.96.94.261%
LiberiaDoe197919900.61.92.11.362%
MalawiBanda196419940.12.02.31.983%
NigeriaBuhari/Abacha1984199817.831.431.413.643%
Pakistan(3)Zia-ul Haq197719887.617.0
military1990present20.629.929.918.763%
ParaguayStroessner195419890.12.42.12.3110%
PhilippinesMarcos196519861.528.341.226.865%
SomaliaSiad Barre1969199102.42.62.492%
South Africaapartheid199218.723.618.779%
SudanNimeiry/al-Mahdi1969present0.317.017.016.798%
SyriaAssad1970present0.221.421.421.299%
Thailandmilitary19501983013.990.813.915%
Zaire/CongoMobutu196519970.312.812.812.598%
TOTAL78645157%
Indonesia + Brazil30822673%
Marcos + Mobutu543973%
Total of others42418544%
Total developing country debt209522%
Notes:(1) Debt at takeover by dictatorship; earliest data published by the World Bank is for 1970
(2) Debt at end of dictatorship (or 1996, most recent date for World Bank data)
(3) Pakistan had two periods of military dictatorship.

Table 2: Dictators debts, by size, $ billion

IndonesiaSuharto126
Brazilmilitary100
Argentinamilitary40
PhilippinesMarcos27
SyriaAssad21
South Africaapartheid19
Pakistanmilitary19
SudanNimeiry/al-Mahdi17
Thailandmilitary14
NigeriaBuhari/Abacha14
ChilePinochet13
Zaire/CongoMobutu13
Algeriamilitary5
IranShah5
KenyaMoi4
EthiopiaMariam4
Boliviamilitary3
SomaliaSiad Barre2
ParaguayStroessner2
MalawiBanda2
El Salvadormilitary1
LiberiaDoe1
HaitiDuvalier1

Footnotes

[1] Cheryl Payer, Lent and Lost, Zed, London, 1991; p 110

[2] Patricia Adams, Odious Debts, Earthscan, London, 1991

[3] Reducing Sub-Saharan Africa's Debt to Non-OECD Official Creditors, UNCTAD/GID/Misc.42, 13 Sept 96, p 52, gives a total of $49 billion due to the Russian Federation, of which $ 8.6 billion by Afghanistan, $3.7 billion by Ethiopia (suggesting Ethiopia's debt in World Bank tables was underestimated), and $475 million by Somalia.

[4] “WDM calls for unilateral debt cancellation”, World Developmetn Movement, London, 31 March 1998.

[5] “The Multilateral Development Banks: Increasing US Exports and Creating US Jobs”, US Treasury, May 1994

[6] International Monetary Fund, World Economic Outlook, May 1998.

[7] cited in William Darity & Bobbie Horn, The loan pushers, Ballanger, Cambridge, 1989; pp 8,15.

[8] Joseph Hanlon, “We've been here before”, Jubilee 2000, London, 1998.

[9] James L Foorman & Michael E Jehle, University of Illinois Law Review, 1982 no 1.

[10] Covered in detail in Patricia Adams, Odious Debts, Earthscan, London, 1991.

[11] “Paying for apartheid twice”, World Development Movement & ACTSA, London, 4 May 1998.

[12] IMF World Economic Outlook p 9.

[13] Hanlon, We've been here before