George Melloan
The Wall Street Journal
October 28, 2003

Saddam Hussein boasted in 1991 that his army was preparing to fight the “mother of all battles.” Not quite. But if the butcher of Baghdad is still lurking somewhere, he can console himself with the knowledge that Iraq is about to be engaged in the mother of all debt workouts, thanks to the tab he ran up during his 24 years in power.

In an article last week, the Journal’s Susan Lee wrote that the grand total of Iraqi debt could range between $150 billion and $200 billion. Whichever amount you choose, it is beyond any reasonable measure of sustainable debt. So, despite the pledge of $33 billion in loans and grants by a “donors” conference of finance ministers in Madrid last week, creditors probably will take what bankers wryly term a “haircut.” Translation: They won’t get all their money back.

Haircuts are a normal feature of the “workout” plans negotiated when a nation goes head-over-heels into debt and can’t pay. It happens all the time. Creditors and debtors agree to “restructure” the loans with stretch-outs of the repayment period, lowered principal, or other means to reduce or postpone the payments for the indisposed borrower. The International Monetary Fund and World Bank, for better and for worse, usually step in with some financing to nudge the two sides into an agreement.

Very often the lenders come out not much worse off than would have been the case if the loan hadn’t gone sour. Getting their money might take longer, but they at least can return the loan to “performing” status, meaning interest is being paid – from non-performing, meaning it isn’t. This, plus the fact that bankers often are a bit careless when in dire need of sources of interest income, helps explain why banks so often find themselves going to the barber.

But there are other reasons why a madman like Saddam could attract so much credit. It should be noted that only a small part of Iraq’s debt, about $3 billion, is owed to private creditors, according to Ms. Lee. Saddam was, after all, under United Nations sanctions for 13 years, and that was enough to drive away private lenders who might otherwise have been well-disposed toward lending to an oil-rich nation. So in this one case, private lenders are largely free of sin.

A big chunk of Iraqi debt, about $100 billion according to Ms. Lee, is owed in reparations to the victims of Saddam’s invasion of Kuwait in 1990 and his scorched earth policy when he withdrew in 1991. So the voluntary lending, amount to as much as $100 billion, perhaps was done mainly by sovereign nations, including Russia, France, Germany and the U.S. All of it had to do with politics, in one way or another. A great deal could be explained by Saddam’s fondness for lethal weapons.

Even the U.S. supplied him with weapons in the 1980s when he was fighting Iran, a country on the U.S. hit list after the hostage crisis of the late 1970s. Saddam was running up a tab to other big weapons suppliers as well, including an $8 billion debt to Russia.

Coalitions forces have found an incredible supply of weapons and ammunition stored in arms caches, including schools, all over Iraq. Suppliers who were shipping Saddam arms in violation of the U.N. embargo during the 1990s are not coming forward with confessions. Yet the London Daily Mail reported early this month that four brand new French anti-aircraft missiles have been found in Iraq by Polish troops. France hotly denied that it had broken the embargo, which could be true, since it would have been no great trick for Saddam to get the missiles through a third country. But with France, who knows?

The U.S. last March publicly charged two Russian firms with selling antitank missiles, night-vision goggles, electronic jamming equipment and other military gear to Saddam even as coalition forces were on the attack. Russia, of course, also denied the charges. But if Russia and France were violating the U.N. arms embargo, their claims on Iraq for repayment of debts would have a ring of hypocrisy. It might also explain why those two countries were so reluctant to see Saddam fall.

The Iraq workout problem is huge, but by no means unique. Argentina is in default on some $95 billion in foreign debt, and its private creditors face a big haircut when they start negotiating a restructuring next year. The IMF already has rescheduled $21.6 billion owed international financial institutions, leaving the private creditors to shift for themselves.

The IMF and World Bank in 1996 launched something called the Heavily Indebted Poor Countries (HIPC) initiative. With a price tag of about $50 billion, it is intended to ensure that no poor country “faces a debt burden it cannot manage.” So far, 27 countries, 23 of which are in Africa, have signed up for “hippic” packages.

International lenders have come up with something called “collective action clauses” in sovereign bond contracts that allow for revision of the contract if the country gets into trouble and a specified percentage of bondholders agree. Of course, bonds with such clauses are likely to be less attractive to investors, but at least it is a way to handle workouts without IMF intercession.

IMF midwifery is billed as way to help poor countries stay in the credit markets. But the old charge of “moral hazard” that has so often been hurled at the IMF comes into play with all its efforts to become a nanny to badly run nations. The prospect of IMF aid reduces the risk for both lender and borrower, thereby increasing their propensity to doo foolish things.

Iraq was hardly a poor country. It was wallowing in oil. Argentina was one of the richest countries in the world before it fell afoul of Juan Peron and the Peronista boodlers who rule Argentina to this day. The much-lamented poor countries of Africa include such paragons of good government as Zimbabwe and Rwanda. Many “poor countries” spend heavily on weapons. A Congressional Research Service report shows that developing nations are the biggest market for arms. Will there be more workouts after Iraq and Argentina? Take a guess.