By Dr. Adeyemi DipoluSpecial Adviser to the President of Nigeria on Economic Affairs, and Louisa Chinadu-OKKSpecial Assistant to the President of Nigeria on Finance, Federal Republic of Nigeria
A debt crisis looms large in emerging markets and developing economies (EMDEs), which has the potential to cause widespread economic distress for most of the world’s population. If this was not clear before, it certainly has become clear after listening to Kristalina Georgieva, Managing Director of the International Monetary Fund (IMF). In his press conference at the 2022 Spring Meeting of the IMF and the World Bank Group, he said 60 percent of low-income countries are “in or near debt crisis” and that at least 20 African countries fall into this category.
The situation in Sri Lanka shows how dire the situation is. In April 2022, nearly two years after the start of the COVID-19 pandemic and nearly two months after the start of the Russo-Ukraine war, Sri Lanka announced a temporary default in foreign loan repayments amid a severe economic crisis. Inflation has risen, currency has been devalued, goods are in short supply and citizens have taken to the streets in mass protest. Sri Lanka has total repayments of $4 billion within the year, while its foreign reserves stand at $1.93 billion. It claims that it has been consistent in repayment of its loans until recent global events affected its finances. As a result, it is calling for a restructuring of its debts and will require additional credit to revive its economy.
It is one of several emerging markets and developing economies on the verge of a debt crisis. Sri Lanka is perhaps one of the more serious matters, but its status underscores the scale and severity of the situation in many developing countries, with different situations depending on the currency and debt structure and national financial space. Given the number of countries facing these challenges, a significant portion of the world’s population is at risk of falling into poverty. More and more, a debt crisis of this magnitude threatens the economic recovery in EMDEs. But what is even more worrying is that it is a harbinger of a serious economic crisis and ultimately global instability. This is why debt stability has become an urgent concern in developing countries, requiring proactive measures to avert a new global debt crisis.
Several factors have contributed in creating this disturbing situation. Before the COVID-19 pandemic, alarm bells began to ring about rising debt levels in developing economies. For example, UNCTAD (United Nations Conference on Trade and Development) reported that total debt servicing on external debt in least developed countries increased from $33 billion in 2019 (pre-pandemic) to $50 billion in 2021 – each The figure is a distant one. A far cry from $10 billion in 20113.
The economic fallout of the COVID-19 pandemic created a difficult situation for countries that were already financially vulnerable because of their limited ability to raise resources domestically as well as heavy debt repayments. During the pandemic, countries took on additional debt to provide some degree of stimulus to their hard-hit economies.
But the troubling thing about the growing debt burden of developing countries is not just the increase in debt-service payments. There is also a fact that the situation could have been much worse if it were not for some assisted living interventions, such as debt relief, payment suspension and provision of liquidity. For example, apart from being relatively flexible in terms of disbursements under Rapid Financing Instruments (RFIs), the IMF also issued SDRs (Special Drawing Rights) worth $650 billion, to improve the external balance position to some extent. helped. Developing countries 4.
Recent global events have worsened the debt position. The war in Ukraine is creating ripple effects around the world, with rising food, fuel and fertilizer prices leading to inflation and balance of payments pressures. It also comes at a time when the supply-chain disruptions due to the COVID-19 lockdown are yet to be completely eradicated, especially as the COVID-19 lockdown continues in the world’s factories China. The increasing use of food-export restrictions around the world to cushion the effects of rising food prices is further complicating the situation. In addition, rising inflation is likely to lead to a hardening of monetary policy in the United States and other advanced economies. The resulting higher interest rates will trigger an outflow of capital and increase the cost of repayment of the loan.
Put together, this set of factors is likely to lead to a debt crisis that would further widen the inequality gap between advanced and developing economies. With higher borrowing and financing costs increasing their debt burden, developing economies may need to undertake fiscal-affordability measures, including spending cuts, to meet their debt-financing obligations. On the other hand, such measures create economic and social upheaval.
Also, the old debt-management process of the 1980s and 1990s may not work in the present era. The procedures at the London Club and the Paris Club are not appropriate for the present era. First, China, which is not part of these arrangements, is currently the largest creditor of EMDE. In addition, the structure of most public debt has changed, as much of it has resulted from borrowing in global capital markets, and ownership of the resulting debt instruments varies greatly among private investors. It is reported that the total public external debt of DSSI (Debt Service Suspension Initiative) eligible countries stood at about $460 billion at the end of 2018, while bilateral creditors owed only $174 billion. The inability to resort to the old playbook of frequent debt rescheduling and debt restructuring through negotiations with the London Club and the Paris Club is further complicated by the fact that such an exercise may cause credit-rating agencies to downgrade countries’ ratings. Could be a reason to adjust.
The natural question is how to best assist EMDEs in managing their debt obligations in a sustainable manner. The starting point, of course, is that these countries will need to increase their domestic-resource mobilization to be better able to pay off their debt. Given that Africa has an average tax-to-GDP (gross domestic product) ratio of 16.6 percent, compared to the OECD (Organization for Economic Co-operation and Development) average of 33.8 percent, there is some room for growth in tax collections through reform . Innovative financing along with tax administration. It will also need to curb illegal financial flows, particularly tax evasion and aggressive tax avoidance.
The G20 has also introduced measures to help EMDEs better cope with the economic fallout of the COVID-19 pandemic. The Debt Service Suspension Initiative (DSSI), established during the pandemic, was useful and timely as it provided up to $12.9 billion in relief to countries participating in suspended debt-service payments between the initiative’s launch and its end in May 2020. In December 20217. However, it was limited in scope and time, and there was some reluctance on the part of eligible countries to participate. The General Framework for Debt Treatment Beyond the DSSI, to which the G20 and Paris Club countries subscribe, was adopted in November 2020 to essentially bring China and private creditors into the old Paris Club debt-management process. This will also provide some relief, no doubt, but much remains to be done. Only a few countries (three) have sought help under the framework, and as noted above, there have been delays due to difficulties in coordination. Equally important is the fear that among participating creditors, which is not unfounded, that others may ride free or that there will be no comparison to treatment.
Certainly, a case has to be made for international cooperation through a comprehensive framework for managing debt that would accommodate more expensive loans to commercial creditors as well as other large lenders including IFIs (international financial institutions). This framework should try to achieve the collaboration of this cocktail of lenders in a way that is not unreasonable. It recognizes that such a global response to debt will be developed with input from these stakeholders and may limit the temptation of some creditors to take a free ride on solutions offered by others.
Another policy tool offered to help developing economies deal with an increasingly difficult situation is the IMF’s Resilience and Stability Trust (RST). The tool, which was approved by the IMF’s Executive Board in April 2022, is intended to support greater structural challenges, such as combating climate change and pandemic preparedness. About $45 billion will be provided under this trust, which will basically receive funds from SDRs used by countries without external financing constraints. While access to RST will help reduce balance of payments constraints, it is in no way designed or intended to help EMDEs manage the deteriorating credit profile.
We call for two functions in this article. The first is to urge the international community to use some of the measures adopted during COVID-19 to help manage the situation. While it is true that two major setbacks are uncommon, there is no reason not to regard the Russo-Ukraine war as a global shock or at least a genetic shock to developing countries. As a result of this war, the IMF has lowered its projections of growth in EMDE by a full percentage point, and a worsening of the situation could result in another global recession. In this case, there is no reason why EMDEs should not take immediate steps to offer debt relief, provide them loans more expeditiously under less stringent conditions and issue a more substantial allocation of SDRs.
The second call we make is to rethink the international financial framework in a way that helps prevent or manage the emerging global debt crisis. This is as good a time as anyone.
Reference
1 International Monetary Fund (IMF): “Transcript of April 2022 MD Kristalina Georgieva press briefing on GPA [Global Policy Agenda]”IMF Spring Meetings, Washington DC, April 20, 2022.
2 BBC News: “Sri Lanka warns it will default on its foreign debt amid crisis,” April 12, 2022.
3rd United Nations Conference on Trade and Development (UNCTAD): “Rising debt burden jeopardizes the recovery of least developed countries,” Switzerland, March 2022.
4 International Monetary Fund (IMF): “IMF Governors Approve Historic US$650 Billion SDR Allocation of Special Drawing Rights,” Press Release No. 21/235, August 2, 2021.
United Nations Conference on Trade and Development (UNCTAD): “Trade and Development Report 2020: From Global Pandemic to Prosperity for All: Avoiding Another Lost Decade,” Switzerland, page 103.
6 Organization for Economic Co-operation and Development (OECD) iLibrary: “Revenue Statistics 2021 in Africa,” OECD/AUC/ATAF, OECD Publications, Paris, December 15, 2021.
7 World Bank: “Debt Service Suspension Initiative,” World Bank Brief, March 10, 2022.
About the Author
Dr. Adeyemi Dipolu Special Adviser to the President of Nigeria on Economic Affairs and Chairman of the National Financial Policy Reform Committee. His current interests include domestic-resource mobilization and trade and industrial policy in developing economies.
Louisa Chinadu-OKK Special Assistant to the President of Nigeria on Finance. Prior to joining the Presidency, Luisa worked in development and public sector consulting. His work and interests revolve around public policy, economic development and public-finance management.
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