A major debt crisis is brewing in the Global South. The IMF had already expressed concern over the growing debt sustainability problem in many low-income countries before the coronavirus crisis. For more than two years after the epidemic, the debt situation has worsened significantly. According to the IMF, 60 percent of low-income countries are now at high risk or are already in a debt crisis. Moreover, a growing number of middle-income countries are also suffering from high credit services. The number of emerging markets with sovereign debt trading at a miserable level – yielding more than 10 percentage points on top US Treasuries of similar maturity – has more than doubled in the last six months. Fiscal austerity in the United States and other developed economies is increasing the cost of debt and making international refinancing more difficult for countries that still maintain access to international capital markets. The combination of financing is evolving toward new, more expensive sources.
Russia’s aggression in Ukraine has exacerbated the situation, creating a perfect storm. The war has sent shockwaves into the world economy and pushed the biggest commodity since the 1970s. Where oil, gas and grain exporters can find temporary relief in the short term, many developing and emerging market countries সাব including sub-Saharan Africa নি are net importers of fossil fuels and grains. The effects of the war in Ukraine could significantly worsen the social and economic situation in many developing and emerging market countries, further reducing debt stability.
High levels of public debt services and inadequate financial and financial space have already limited the response to the crisis in most low- and middle-income economies. Although developed countries were able to implement highly expansive monetary and monetary policies in response to the epidemic crisis, few countries in the Global South had this option.
The uncertain debt situation has not only threatened recovery. It has also hampered much-needed investment in climate resilience. These investments are essential and urgent: governments must climate-proof their economies and public finances or tackle a growing spiral of understanding of climate vulnerability and unstable debt. In a number of empirical studies replicated by the IMF and others, we have shown that physical climate vulnerability is exacerbating the capital expenditures of climate-protected developing countries. As financial markets raise the price of increasing climate risk, and global warming accelerates, the risk premium of these countries, which is already high, may increase further. There is a risk that at-risk developing countries will enter a vicious circle where greater climate vulnerability will increase borrowing costs and reduce the financial space to invest in climate resilience.
Figure 1. Vicious cycle of climate vulnerability and capital expenditure
Source: Volge, “Climate Change and Capital Expenditure in Developing Countries”, Presentation at the Understanding Risk Finance Pacific Forum 2018 organized by the Vanuatu Government and the World Bank Group Disaster Risk Financing and Insurance Program in Port Vila from 16-19 October 2018.
The impact of COVID-19 on public finance strengthens this vicious circle. In many countries, including many small island developing states, high public debt services are crowding out important investments needed for a climate-proof economy and to enable a green, resilient, and equitable recovery. As the effects of the climate crisis become economically detrimental, there is an urgent need to tackle sovereign debt problems and keep countries in a position to respond to the short-term needs caused by the epidemic and food price crisis, but much-needed climate resilience investment.
There is a risk that at-risk developing countries will enter a vicious circle where greater climate vulnerability will increase borrowing costs and reduce the financial space to invest in climate resilience.
In 2020, as an ambitious, integrated and comprehensive debt relief initiative, we will present a debt relief proposal for a green and inclusive recovery that frees up resources to support recovery in a sustainable way and allows governments to invest in development strategies, including climate change. Tolerant infrastructure, health, education, digitization and cheap and sustainable energy. A key principle of this proposal is that debt relief should not only provide temporary breathing space. It should empower the government to lay the foundation for sustainable, climate-tolerant development. As part of our proposal, indebted countries that receive debt relief will be committed to reforms that align their policies and budgets with Agenda 2030 and the Paris Agreement. The country’s commitments will be designed by the governments of the country under the involvement of the parliaments and in consultation with the concerned stakeholders.
Ahead of the 2021 United Nations Climate Change Conference in Glasgow, V20 finance ministers – representing 55 climate-risk countries with a total population of 1.4 billion – issued a statement on restructuring debt for climate-vulnerable countries based on our proposal. In a statement, the V20 finance ministers called for “a major debt restructuring initiative for debt-ridden countries – a kind of grand-scale climate-debt swap where developing countries’ debt and credit services are reduced according to their own plans.” .
As the debt and climate crisis grows, it’s time to listen to these calls. The G20 did not provide a common framework for debt treatment, established in November 2020 to address bankruptcy and chronic liquidity problems. Not only does it exclude middle-income countries, it also lacks incentives and processes to bring together indebted governments and private lenders. As the World Bank noted, “[t]Its lack of measures to encourage private sector participation could limit the effectiveness of any negotiating agreement and increase the risk of private sector debt transfer to public lenders. “
In order to encourage the participation of private lenders যারা who place more than 60 percent of all debt claims on countries in the Global South নে debt restructuring requires a combination of positive incentives (“carrots”) and pressure (“sticks”). In terms of incentives, we are proposing to create a new guarantee facility for green and inclusive recovery that is designed to entice the commercial sector to engage in debt restructuring. This facility, which could be established relatively quickly at the World Bank, would repay the issuance of newly issued sovereign bonds that would be replaced with a significant “haircut” for old, durable, and privately held loans. Private creditors will benefit from a partial guarantee of principal, as well as an 18-month interest payment guarantee, similar to the Brady Plan, which helped overcome the stagnation of the debt crisis of the 1980s.
Under pressure, the financial authority of the jurisdiction where the chief private creditors (both banks and asset managers) reside and who manage most sovereign loan agreements সবচেয়ে most importantly the United States, the United Kingdom, and China ব্যবহার can be used. Strong ethical suggestions and regulations on accounting, banking supervision, and taxation to improve creditors’ willingness to participate in debt restructuring.
Economic history teaches us that delays in resolving the debt crisis are extremely costly for indebted countries. In the absence of a proper international sovereign debt restructuring system, creditors and borrowers alike continue to take to the streets. It is a chronic problem that has repeatedly caused decades of development and human suffering that can be avoided. What makes matters worse now is the increased risk in the face of a growing climate crisis.
The international community বিশেষ especially the major advanced economies and China হবে needs to overcome the current stalemate and work towards resolving the debt crisis that will enable all countries to respond to the multiple crises they face. The consequences will be dire if they fail to do so.