3 August 2022

The Global South’s Looming Debt Crisis—and How to Stop It

Mark Malloch-Brown

The war in Ukraine, like Afghanistan before it, may have driven other crises off the front pages for the time being. And economics might seem a dull affair compared to war. But make no mistake: On the heels of the Ukraine conflict lurks an impending global economic crisis.

Many poor countries face major economic disruption and possible default on their sovereign debt in 2022. This is an offspring of the pandemic. COVID-19 may have started as a global health crisis, but it soon became a global economic crisis. And it won’t be long before it mutates once again into a global political crisis.

Even before the pandemic, people were taking to the streets from Ecuador to Egypt to Eswatini to protest high prices and rising inequality. Social distancing temporarily suppressed such protests. But there is every expectation they will return with a vengeance, as the source of the grievances—inequality—has only worsened in the wake of the COVID-19 pandemic, particularly in low-income countries that didn’t have the luxury of borrowing at cheap rates to fund major fiscal stimulus packages to cushion the economic impact.

With little to soften the devastating blow of COVID-19, unemployment has soared across the global south, with millions of jobs lost—including 22 million in sub-Saharan Africa over just a year. At the same time, many lower-income economies, deeply reliant upon exports, have been hit especially hard by broken supply chains and, for those that are not oil and gas producers, surging energy prices. Such problems are now further compounded by Russian President Vladimir Putin’s war on Ukraine, as the conflict between the world’s first and fifth top wheat exporters (Russia and Ukraine, respectively) is set to drive soaring prices and global food shortages.

But it is the skyrocketing cost of debt that now threatens to overwhelm already hard-hit countries. During the pandemic, desperate governments turned to expensive short-term emergency loans from the International Monetary Fund, China, or private lenders.

It is now payback time, and many find themselves in a far worse position than before. With foreign debt repayments up 45 percent in just the last two years, over half of all low-income countries are now officially in debt distress or at high risk of it. With national budgets at breaking point, governments are inevitably forced to cut spending on everything from climate change efforts to education to other health care priorities.

There is now the very real prospect that economic crisis on this scale will soon spill over into political insecurity. It is an urgent matter for world leaders to help countries restructure their debts as part of a wider refinancing of their economic futures. There are actions that the G-20 can take now as part of the regular improvements in international management of public finance, and then there are the bolder steps that will only come when there is real political will at the highest levels—specifically, when China and the United States are prepared to sit down together and recognize their common shared interest in a global green prosperity for all.

Meanwhile, G-20 leaders are left with the option of some significant tinkering. The G-20 tried to address the shortcomings of current public debt management by introducing the Common Framework, a set of principles they hoped debtors and creditors could coalesce around to restructure debts and set countries on a better path to financial stability. But so far, it has proved a total failure—taking too long and offering too little relief and too little transparency. Only three countries have braved the process, and none to good effect.

Ultimately, a permanent, new mechanism is needed for restructuring sovereign debt, based on principles already agreed by 136 United Nations member states. But right now, the G-20 can start to build toward that with some urgent fixes to the Common Framework.

First, countries that enter the debt restructuring should be rewarded by being granted immediate relief through a debt standstill that stops the interest on their loans growing. They will also need reassurance that by doing the right thing and seeking a sustainable path out of debt they will not see their credit rating drop and be penalized when they try to access capital.

Next, restructuring should be guided not by the political whim and greed of creditors but by a broad and transparent economic analysis of the full debt relief required for countries not only to end the pandemic, but also to achieve the U.N. Sustainable Development Goals and tackle the climate crisis.

However, the most urgent improvement is that the Common Framework must incorporate all creditors, including China and the private sector. All should expect to take a hit and absorb some losses, given that they all took risks that were clearly out of step with reality. Private creditors will resist, but their participation should be required by regulation, particularly in the United States and the United Kingdom, for which there is considerable precedent.

Beyond the immediate debt crisis, we must also ensure that international financial institutions are both transformed and funded to match the scale of the global challenges the world faces. Real reform may have to await the easing of global political tensions, but the agenda is already clear.

First, the multilateral banks, with the support of shareholders, need to dramatically increase how much they can lend. Right now, they simply do not have the firepower to meet the needs of the global economy. Current capacity amounts only to around a quarter of a trillion dollars, but experts estimate that they need to be capable of lending at least $1.3 trillion per year.

Second, with greater resources must come greater accountability. International financial institutions have failed to evolve sufficiently since they were first established by a handful of rich Western countries, which continue to call the shots today as majority shareholders. Such undemocratic control undermines these banks’ credibility and capability to serve the countries that need them most. Wealthy countries should agree to a dual voting system to blend the shareholding structure of today with the one-country, one-vote system of more democratically governed institutions.

Third, the IMF could have a huge impact by extending its line of credit, known as Special Drawing Rights, more regularly. Last year, in response to the pandemic, the IMF issued Special Drawing Rights worth $650 billion. But most of this allowance for credit went to its majority shareholders—rich countries that for the most part didn’t need it. We need to see the IMF extend credit on this scale every year, but we also need to see richer nations pass on their rights to claim these loans to low-income nations that are in desperate need of cheap loans that cannot be found from private creditors.

Fourth, international financial institutions need to take on a much bigger role in leveraging private finance. The COP26 U.N. climate conference revealed a critical opportunity to take a radical leap forward in driving private capital to climate mitigation and adaptation. We need to find ways to bring in more private capital through providing public capital to make new investments less risky. Designed correctly, by assuming first risk, relatively small amounts of public capital from the World Bank and other institutions can leverage much larger amounts of private investment.

Such sweeping reforms might seem a tall order given the international community’s abject failure to act collectively to date. But there is some cause for optimism, as key multilateralists have now taken the helm, with Germany chairing the G-7, France holding the Council of the European Union presidency, and, perhaps more significantly, Indonesia chairing the G-20—a country and an organization (respectively) that may just have the political and economic clout to push forward the radical reforms the global south needs.

Ultimately, the political consequences of inaction—potential protests or riots in the streets—may now spur even less globally minded leaders toward real reform in the short term to respond to both COVID-19 and its economic consequences. And, in the long term, it could force a global reset that maybe, just maybe, could bring global multilateralism back to fight another day.

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