The Foreign Service Journal, December 2003

and state-owned enterprises, publish details of these transactions and report them to the IMF. These pub- lished details would include a description of the purpose of the transaction, the value of the principal involved, fee amounts in both absolute terms and as a percentage of the contract value, and the terms of the transaction including effective interest rates and term to maturity. These details would be recorded in a central registry maintained by the Fund that would be open to public inspection. The IMF, the World Bank and the other multilateral development banks would also be obliged to abide by these same reporting requirements. Governments would also publish details of all official country lending, and report these details to the IMF to be similarly recorded in the central registry. By mandating disclosure of loans and forward con- tracts, PWYL can serve as a powerful instrument for blocking illegitimate use of financial markets. Countries will benefit from PWYL, but so too will international investors. This is because loans that finance corruption add to the cumulative obligation of governments, but they do nothing to increase tax revenues. Consequently, they reduce the likelihood of repayment to bona fide lenders. Reducing financial market looting will therefore benefit these lenders. At the same time it will lower interest rates for developing countries. Corrupt loans lower the likeli- hood that lenders will be repaid, causing lenders to raise interest rates to cover this increased risk. Reducing such loans will therefore cause lenders to lower their rates. Odious Debt Another important measure for guarding against loot- ing via financial markets is the legal doctrine of odious debt. The core idea is that where: (1) loans are made to illegitimate regimes, such as those that come to power undemocratically; (2) loans are not used for the benefit of the people; and (3) lenders could reasonably have known about conditions (1) and (2), then such loans can be deemed illegitimate and unenforceable. Adoption of the doctrine of odious debt would quickly reduce looting via financial markets. Lenders would have an incentive to conduct proper due diligence, write strict loan covenants, and then monitor the loans to ensure that the covenants are abided by. It would also be good for both democracy and economic development. Illegitimate, undemocratic governments that come to power by coup d’etat or civil war, and then refuse to submit to the demo- cratic process, would be frozen out of international capital markets. Side-by-side, stricter monitoring by lenders would ensure that loans are used for developmental pur- poses, rather than looted. Opponents claim that adoption of the doctrine of odi- ous debt would reduce the supply of credit to developing countries, and drive up its price. Economic logic suggests otherwise. Total lending could be less, but only because corrupt lending is reduced. Productive “good” lending would increase dramatically. Improved loan monitoring will increase the productivity of loans, as creditors will have an incentive to ensure that loans are used in accor- dance with loan agreements. These effects will also lower the cost of credit by increasing the likelihood that lenders get repaid. Corruption exerts a significant negative externality by raising overall indebtedness while doing nothing to increase a country’s capacity to repay. In effect, corrup- tion dilutes the asset protection available to other credi- tors, and they protect themselves by raising their required interest rate. By holding creditors responsible for corrupt loans in cases where lenders failed to do due diligence, corrupt loans can be diminished and honest lenders can lower their required interest rate. Lastly, the doctrine of odious debt can help starve auto- cratic kleptocratic governments out of existence by reduc- ing the amount of finance available to them. A 2002 study by economists Bruce Bueno de Mesquita and Hilton Root demonstrates how providing funds to such governments helps them stay in power by enabling them to pay off sup- porters. This is especially true of loans and foreign aid to these governments which come in the form of hard cur- rency. Reducing such funding can therefore undermine political support for these governments. Stolen Asset Recovery Another area where legal action is urgently needed concerns the recovery of stolen assets. Monies looted from developing countries are usually placed within the international banking system. Yet, all too often, it is diffi- cult for countries to recover these assets. Tougher provi- sions, that facilitate recovery and make it harder to hide assets, are needed. Just as the international community has clamped down on money laundering and terrorist financing, it must also clamp down on corruption by facil- itating the recovery of stolen assets. These assets leave behind a paper trail that can be followed, and enhanced F O C U S D E C E M B E R 2 0 0 3 / F O R E I G N S E R V I C E J O U R N A L 57