For the first time in history, the world economy is facing a severe synchronized economic recession, affecting both developed and developing economies on all continents. COVID-19 and the resulting lockdowns and social distancing measures to contain the spread of the virus have led to a sharp economic downturn, accompanied by unanticipated economic and social costs due to the widespread collapse of nearly all income generation channels for many governments, including falling commodity prices, drastic cuts in foreign direct investment and trade, sudden stops in tourism, free drops in remittances and collapsing tax systems. The World Bank has estimated that COVID-19 will push 71 million people into extreme poverty by 2020, measured at the international poverty line of $ 1.90 per day.1Daniel Gerszon Mahler, “Updated Estimates of the Impact of COVID-19 on Global Poverty,” World Bank Blogs, June 8, 2020.
The current cumulative crises exacerbated by the COVID-19 pandemic have put the debt problems of developing countries in the spotlight. Many developing countries have entered the pandemic with unprecedented levels of public and private debt.2UNCTAD, “The shock of Covid-19 in developing countries”, March 2020. More than 40% of low-income countries were already over-indebted or at high risk of debt distress before the pandemic.3IMF, “The Changing Public Debt Vulnerabilities in Low-Income Economies,” February 2020. The economic contraction, the need for a pandemic response and the unsustainability of debt have fed each other, creating a dark vicious cycle that spirals down to the bottomless hole. The tight fiscal space for the pandemic response exacerbated the economic and social impacts of the pandemic, which in turn resulted in an increased need for borrowing, increased debt, and a debt service burden.
The changing debt landscape of developing countries has increased the debt service burden. Many developing countries, including some without an investment grade rating, have turned to riskier debt, including debt on commercial or near-commercial terms, thereby increasing their interest-to-revenue ratios on their external debt.4World Bank, “Debt Service Suspension and COVID-19,” Backgrounder, May 11, 2020. Among low-income countries, more than half of public debt is on non-concessional terms.5M. Ayhan Kose et al., “Caught by a cresting debt wave: past debt crises can teach developing economies to cope with COVID-19 financing shocks”, Finance and Development, Vol. 57, n ° 2, June 2020. Recent analysis indicates that in 2019, 64 low-income governments spent more on paying external debt than on health care.6Jubilee Debt Campaign, “Sixty-four countries spend more on debt payments than on health,” April 12, 2020. With their weaker health and social protection systems, a heavy debt burden, and deteriorating economic buffers, developing countries, especially those that are poor and over-indebted, have little room to provide support. response to the pandemic and need massive liquidity and funding. support to deal with the immediate fallout from the pandemic and its repercussions on economic and human rights. Unlike developed countries, they cannot put in place huge fiscal and monetary stimulus packages.
According to the International Monetary Fund (IMF), global government support stood at around $ 9 trillion in May 2020,7Bryn Battersby, W. Raphael Lam and Elif Ture, “Tracking the $ 9 trillion global fiscal support to fight COVID-19,” IMF Blog, May 20, 2020. most of them from advanced countries, which have a wide range of instruments. It is concerning that while advanced economies have used 8.6% of their gross domestic product (GDP) to respond to the pandemic, emerging and low-income economies have used 2.8% and 1.4% respectively of their GDP for expenses and taxes related to the pandemic. reductions.8Martin Mühleisen, Vladimir Klyuev and Sarah Sanya, “Courage Under Fire: Policy Responses from Emerging Markets and Developing Economies to the COVID-19 Pandemic,” IMF Blog, June 3, 2020. Some developing governments face difficult choices between saving lives or paying off debts.
Whether effective and timely measures can be deployed to alleviate the debt problems of developing countries and enable them to put in place appropriate responses to the pandemic is an important test for the international debt architecture. It is interesting to note that while the composition of the debt and the actors have changed considerably in recent years, the tools for preventing and resolving debt crises have remained more or less the same since the 1980s, with the exception of a certain tightening of bond contracts. This mismatch has made the policy proposals created in response to the COVID-19 crisis appear, to some extent, to lack both power and sophistication.
Three counterfactual scenarios could have helped developing countries avoid sovereign and private defaults and focus limited financial resources on combating the pandemic: the first is to have a comprehensive debt moratorium for as long as the pandemic lasts; the second is to provide massive amounts of liquidity to countries facing debt problems and hard hit by the pandemic in an “all it takes” way; and the third is to quickly benefit from large and meaningful debt relief, including debt restructuring and cancellation, which would be particularly useful for countries already facing solvency problems, as their debt is unsustainable and their financial capacity insufficient to pay this debt, even if transition money is provided.
But the architecture of international debt has gaps, constraints and constraints. So, we had too little of all three: a limited debt status quo, insufficient liquidity provision, and little debt relief. The criticism is that the answer is far from sufficient. As a result, we could face a lot of debt restructurings in the years to come.
For the debt status quo: The International Monetary Fund (IMF) and the Group of 20 (G20) have announced the freezing of the debt of poor countries in April 2020. They are welcome. However, the coverage in duration, country and debt instruments of the G20 is far too restrictive. One problem that seems to escape the G20’s radar is that some low-income debtors have access to international capital markets and fear possible rating downgrades. Therefore, a number of eligible countries have not requested the Debt Service Suspension Initiative (DSSI). The landscape has changed, but policymakers still use old formulas, such as GDP per capita, to decide on eligibility for debt relief. Private sector participation is a problem, as so far they have not responded to the invitation to join DSSI voluntarily. State-subordinated debt instruments that allow governments to suspend their debt when necessary are still not common.
For the provision of liquidity: IMF emergency facilities are welcome and adopted by many countries due to their severe shortage of liquidity. However, this is not enough. The IMF has a total of $ 1 trillion in these funds. Developed countries have had over $ 9 trillion for stimulus packages. To increase the provision of liquidity, a new issuance of Special Drawing Rights (SDRs) and the voluntary reallocation of existing and unused SDRs from developed countries to countries in need were proposed. However, the IMF board could not reach an agreement, reflecting the need to reform the IMF quota system. The current situation is that the countries that need SDRs the most have the least, and the countries that need the dollars the most do not have access to the US Federal Reserve’s swap line. Thus, proposals are made to develop regional exchanges and specialized facilities, which take time to reach significant size.
For debt relief and restructuring: After decades of debate, there is no debt restructuring or insolvency regime for sovereign states, although there are such systems for businesses. The document recently released by the IMF 9IMF, “The International Architecture for Sovereign Debt Resolution Involving Private Sector Creditors – Recent Developments, Challenges and Options for Reform”, October 2020 recognizes this gap in the current debt architecture. It is an encouraging step forward. People would come back to the issue with each crisis, demonstrating the desire for a framework that would allow for faster and more equitable debt restructuring. But in the past, the IFIs (international financial institutions) have insisted that the current system is efficient and sufficient. Debt relief and restructuring can be a long and expensive process. Patchwork and ad hoc sovereign debt restructuring agreements still prevail. Debt relief instruments such as debt buybacks and different types of debt swaps should always be handled with care to avoid legal complications and credit downgrades. However, if the country is insolvent, restructuring and debt cancellation would still be necessary.
After a major economic crisis, the global financial architecture has always undergone significant changes. I think this pandemic will be no exception. The gaps and imperfections in the international debt architecture make it difficult for the system to cope with a crisis of such depth and magnitude, including the lack of a rights-based approach to debt. man in the prevention and resolution of debt crises.
1Daniel Gerszon Mahler, “Updated Estimates of the Impact of COVID-19 on Global Poverty,” World Bank Blogs, June 8, 2020.
2UNCTAD, “The shock of Covid-19 in developing countries”, March 2020.
3 IMF, “The Changing Public Debt Vulnerabilities in Low-Income Economies,” February 2020.
4World Bank, “Debt Service Suspension and COVID-19,” Backgrounder, May 11, 2020.
5M. Ayhan Kose et al., “Caught in a Debt Wave: Past Debt Crises Can Teach Developing Economies to Cope with COVID-19 Financing Shocks”, Finance and Development, flight. 57, n ° 2, June 2020.
6Jubilee Debt Campaign, “Sixty-four countries spend more on debt payments than on health,” April 12, 2020.
7Bryn Battersby, W. Raphael Lam and Elif Ture, “Tracking the $ 9 trillion global fiscal support to fight COVID-19,” IMF Blog, May 20, 2020.
8Martin Mühleisen, Vladimir Klyuev and Sarah Sanya, “Courage Under Fire: Policy Responses from Emerging Markets and Developing Economies to the COVID-19 Pandemic,” IMF Blog, June 3, 2020.
9IMF, “The International Architecture for Sovereign Debt Resolution Involving Private Sector Creditors – Recent Developments, Challenges and Options for Reform”, October 2020