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In their letter, the coalition lays out how the existing repayment system for federal student loans provides insufficient opportunity for struggling borrowers to manage their debts. As many as one in five federal student loan borrowers are in default. Options for student borrowers to obtain relief have also proven to be inadequate. Only two-percent of borrowers who applied for loan discharges under the Public Service Loan Forgiveness program have been granted a discharge, and efforts by state attorneys general to obtain student loan discharges for students defrauded by for-profit schools have been stymied by the U.S. Department of Education under the Trump Administration.

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Additionally, Attorney General James obtained multistate agreements to provide more than $7.5 million in debt relief to nearly 900 former ITT Tech students in New York after investigations found that ITT Tech, Student CU Connect CUSO, and PEAKS Trust preyed on students by deceiving them into taking out student loans.

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Twenty-eight heavily indebted poor countries (HIPCs) were receiving debt relief under the HIPC Initiative by mid-2004, eight years after the Initiative was launched by the IMF and the World Bank and endorsed by governments around the world, and about four years after it was enhanced to provide more substantial and faster debt relief.

Analysts have extensively studied the effect of foreign debt on growth, but few of these studies have focused on low-income countries. However, differences between emerging market countries and low-income countries make it likely that foreign debt affects the two groups of countries differently. Unlike emerging market countries, for example, very poor countries have limited access to international capital markets. And their dissimilar economic structures and public sectors may mean that debt affects growth differently in the two groups. Finally, the aid that donors provide to low-income countries could mitigate any negative effects debt service obligations might have on their economic activity. An analysis of the debt/growth relationship in low-income countries could therefore be especially useful in assessing the effectiveness of the HIPC Initiative in enhancing growth.

Debt overhang also depresses growth by increasing investors' uncertainty about actions the government might take to meet its onerous debt-servicing obligations. As the stock of public sector debt rises, investors may worry that the government will finance its debt-service obligations through distortionary measures, such as rapidly increasing the money supply (which causes inflation). Amid such uncertainty, wary would-be private investors tend to remain on the sidelines. And even when they do invest, they are more likely to opt for projects with quick returns rather than for projects that enhance growth on a sustainable basis over the long run.

Moreover, debt overhang may also discourage efforts by the government to carry out structural and fiscal reforms that could strengthen the country's economic growth and fiscal position, because a government whose financial position is improving almost inevitably finds itself under increasing pressure to repay foreign creditors. This disincentive to reform would exist in any country with a heavy external debt burden, but it is of special concern in low-income countries, where structural reforms are essential to sustain higher growth.

Of course, not all foreign borrowing dampens investment and growth. At low levels of debt, additional foreign borrowing could stimulate growth, to the extent that the additional capital financed by this new borrowing enhances the country's productive capacity. Higher output, in turn, would make it easier for a country to service its debt. As debt and the capital stock increase, however, the marginal productivity of investment falls. Some analysts have argued that only above a certain threshold will additional foreign loans have a negative impact on growth, owing to the debt-overhang considerations explained above. That is, up to a certain threshold, increased borrowing makes repayment of debt more likely. But, beyond that threshold, further increases in foreign debt reduce the prospects of creditors being repaid. As a country's access to loans drops, its ability to accumulate capital suffers, and growth may slow. In short, the negative effects of debt overhang are likely to take effect only after a certain threshold level has been reached.

The empirical literature has found mixed support for the debt-overhang hypothesis. Most models of the determinants of growth have presumed that the stock of debt affects growth both directly (by reducing a government's incentives to undertake structural reforms) and indirectly (by dampening investment). But relatively few studies have assessed the direct effects of the debt stock on investment in low-income countries econometrically. A 2001 review of studies on the debt-overhang hypothesis by Geske Dijkstra and Niels Hermes found the empirical evidence on this issue to be inconclusive ("The Uncertainty of Debt Service Payments and Economic Growth of Highly Indebted Poor Countries: Is There a Case for Debt Relief?" (unpublished; Helsinki: United Nations University)). And few studies have been able to determine how large the stock of external debt has to be, relative to GDP, for the debt overhang to have an effect.

Debt service, in contrast with the stock of debt, has no direct effect on growth, perhaps because its influence is realized through its impact on investment, which is also included as an explanatory variable in the model and is thus held constant. Gross investment has a significant positive impact on growth. Lagged GDP has a statistically significant negative impact. The central government's fiscal balance has a significant positive effect, consistent with recent research that found links between sound fiscal policy and economic growth, while population growth and terms of trade shocks are statistically significant and negative. Openness and secondary school enrollment have no discernible effect. The insignificance of the latter could be due to the modest range of educational attainment levels in our sample of low-income countries. Thus, despite the fact that a relationship between education and growth may exist for developing countries as a group, it was not possible to quantify such a relationship for the low-income countries chosen for this study.

These findings imply a more powerful relationship between debt and growth in poor countries than researchers have found in developing countries generally. And the effect of debt on growth is greater when the effects of debt on public investment and the central government's fiscal balance, both of which influence growth, are taken into account.

Analysts have as yet done relatively little research on the determinants of public investment in low-income developing countries. In 2001, Jan-Egbert Sturm at the University of Kostanz in Germany modeled public investment in developing countries using three sets of determinants: (1) structural variables such as urbanization and population growth; (2) economic variables such as real GDP growth, government debt, budget deficits, and foreign aid; and (3) politico-institutional variables to measure, for example, political stability. Sturm found the politico-institutional variables less significant than the structural and economic variables. (We did not include them in our empirical analysis of public investment, not only because institutional variables have not been found to be significant in explaining public investment in developing countries but also, and more important, because of lack of data.) We model public investment as being a function of (1) urbanization, (2) total debt service as a share of GDP, (3) foreign aid, (4) openness, (5) lagged real per capita income, and (6) the same four indicators of the stock of external debt used in the growth model.

We measured total debt service as a percentage of GDP rather than as a share of exports because this appears, at least intuitively, to be the measure that would most affect government decisions about public investment. However, the relationship between debt service and public investment is not necessarily a linear one. It is plausible that low debt-service payments have no perceptible impact on public investment, but that, as debt service absorbs a growing share of national income, it begins to crowd out public investment. It could be that crowding-out occurs only after debt service exceeds a certain threshold.

The stock of external debt has no significant effect on public investment; public investment seems to be driven more by the gov-ernment's current fiscal position and the availability of resources than by factors that affect fiscal sustainability over the longer term. However, the results support the hypothesis that higher debt service (as opposed to the stock of external debt) crowds out public investment. The relationship is nonlinear, with the crowding-out effect intensifying as the ratio of debt service to GDP rises. On average, for every percentage point of GDP increase in debt service, public investment declines by about 0.2 percentage point of GDP. In some sense, the modest magnitude of this decline is surprising, indicating that large debt burdens have not seriously hampered public investment in low-income countries. More important, it implies that, all things being equal, debt relief by itself cannot be expected to lead to large increases in public investment. In most cases, debt relief leads either to greater public consumption or, if used to reduce government deficits or to lower taxes, to greater private consumption and investment.

While each low-income country participating in the HIPC Initiative determines its use of debt relief in the context of its own poverty reduction strategy, the findings here suggest that one way for country authorities to raise growth and combat poverty would be to allocate a substantial share of debt relief to public investment. As noted earlier, the full benefits of higher public investment will be reaped only if greater public spending on capital outlays is not associated with increasing budget deficits. 041b061a72


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