WASHINGTON: The International Monetary Fund (IMF) said, on Friday, it had overhauled its lending rules for heavily indebted countries including a rule created in 2010 to allow it to aid Greece.

Last week, the IMF abandoned the ‘systemic exemption’ rule which it used to justify giving Greece a massive bailout despite doubts about the sustainability of the country’s sovereign debt.

At the time, the crisis lender decided that a Greek debt restructuring could pose severe negative spill overs on the rest of the Eurozone, thus the need for the exemption.

In a report published Friday, the IMF acknowledged that this controversial rule did not prove reliable in mitigating contagion and posed substantial costs and risks for the IMF and member countries.

“It could encourage creditors to over-lend to a country on easier terms because they believed the country would likely receive a public bailout in a crisis,” said the report.

The measure stirred criticism, notably from some emerging-market countries that saw it as giving favourable treatment to European states; it was also under fire from US Republican lawmakers who called for its end.

The new rules drop that exemption and now focus on a ‘gray zone’ in which a country’s debt has not been deemed sustainable with high probability (one of the IMF’s core lending rules) and restructuring of its sovereign debt is considered too risky.

In this case, the IMF can offer financing on condition that the country receives in parallel, from public or private creditors, sufficient funds to allow it to return to debt sustainability and ensure the crisis lender will be repaid. The new policy does not automatically presume a restructuring of sovereign debt at the outset of aid when debt is in the gray zone.

If the country loses access to financial markets, a ‘reprofiling’ of debt would typically be appropriate and would give the country more breathing room in adjusting to conditions of the loan.

In cases where debt restructuring would be too risky for financial stability, the IMF could lend under the condition that other public creditors ease their conditions for repayment.

This last measure reflects the current negotiations on the European Union’s third bailout for Greece, under which the IMF will only participate financially if the Europeans ease Greece’s debt burden.

Some member states of the 28-nation EU have rejected that option, arguing that European treaties prevent them from erasing debt.

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