09 January 2004	Friday	16 Ziqa'ad 1424

ISLAMABAD, Jan 8: High levels of debt can depress economic growth in low-income countries like Pakistan through its effect on the efficiency of resource use, says a latest study of the International Monetary Fund (IMF).

"Debt appears to affect growth via its effect on the efficiency of resource use, rather than through its depressing effect on private investment," says the study co-authored by Benedict Clements, Rina Bhattacharya and Toan Quoc Nguyen.

It says that debt has a deleterious effect on growth only after it reaches a threshold level. This threshold level is estimated at around 50 per cent of the GDP for the face value of external debt, and at around 20-25 per cent of the GDP for its estimated net present value.

Pakistan's current (end-June 2003) debt is around 90.2 per cent of the GDP, which is estimated to come down to 66 per cent of the GDP by 2007-08. The results of the study suggest that the substantial reduction in the stock of external debt projected for highly indebted poor countries (HIPCs) would directly increase per capita income growth by about one percentage point per annum.

Reductions in external debt service could also provide an indirect boost to growth through their effects on public investment. If half of all debt-service relief were channelled for such purposes without increasing the budget deficit, the growth could accelerate in some HIPCs by an additional 0.5 percentage point per annum.

The results with the external debt indicators expressed as a ratio to exports are somewhat weaker, but indicate a threshold level for the net present value of external debt at around 100- 105 per cent of exports.

The results implied that the substantial reduction in external debt projected for the HIPCs by the time most of them reach their completion points in 2005 would, directly add 0.8-1.1 per cent to their per capita GDP growth rates.

Indeed, the positive effects of debt relief may already be reflected in some of the healthier growth experienced by HIPCs in the past few years relative to their poor performance of the 1990s.

External debt also has indirect effects on growth through its effects on public investment. While the stock of public debt does not appear to depress public investment, debt service does. The relationship is non-linear, with the crowding-out effect intensifying as the ratio of debt service to GDP rises.

On average, every one percentage point increase in debt service as a share of GDP reduces public investment by about 0.2 percentage point. This implies that a reduction in debt service of about six percentage points of GDP would raise investment by 0.75-1 percentage point of the GDP, raising growth modestly by about 0.2 percentage point. However, if a more sizable share of this debt relief were channelled into public investment-say about half-growth could increase by 0.5 percentage point per annum.

While the use of debt relief is determined by each country in the context of its poverty reduction strategy paper (PRSP), the results of the IMF study suggest that one viable option for country authorities to raise growth and combat poverty would be to allocate a substantial share of debt relief for public investment.