G20 buries its head in the sand amidst increasing calls for action on sovereign debt
Last week, G20 Finance Ministers failed to act on calls to enhance the Common Framework. In this article we look at the trends and risks regarding sovereign debt that the G20 seem to be ignoring and we believe will need close attention in the coming months.
This article was originally published on 16 February and updated on 24 February.
We’re less than 60 days into 2022 and the risks associated with sovereign debts in the global south have already made headlines on several occasions. Last weekend, G20 Finance Ministers met in Jakarta for the first time under the Indonesian presidency.
In the weeks leading up to the meeting, several voices from civi society and academics to the World Bank, IMF and financial media have urged the G20 to step up efforts to enhance the Common Framework to be better able to tackle the debt restructuring needs many countries are facing in a more efficient and timely manner. And yet, despite the urgency G20 Finance Ministers once again hid their heads in the sand, providing no progress on such improvements in the meeting's communiqué.
In the following article, we take a look at the trends and risks regarding sovereign debt that the G20 seem to be ignoring and we believe need close attention in the coming months.
The number of countries facing risks of “disorderly defaults”, as the World Bank president, David Malpass, put it, is growing. As we anticipated, the G20 Debt Service Suspension Initiative and Common Framework haven’t been enough to tackle increasing debt vulnerabilities. The Wall Street Journal seems to agree that “Existing international mechanisms for dealing with sovereign-debt restructuring simply aren’t up to the task.”
1. Mounting unsustainable debts
More than half of low-income countries are in debt distress or at risk of debt distress according to the IMF’s latest calculations (June 2021) – double the numbers in 2015. According to UN DESA: “Elevated external debt burdens, additional borrowing during the pandemic and increasing debt-servicing costs have pushed a rising number of these countries to the brink of a debt crisis.”
In 2021, Argentina, Belize, Ecuador, Suriname and Zambia defaulted on their debts. Already in 2022, Sri Lanka, El Salvador, Tunisia or Ghana are amongst the countries seen by financial journalists and analysts as being closest to a default, with Lebanon, Turkey and Ukraine also mentioned. Rather than a liquidity issue, it is now recognised that many countries actually face a solvency crisis and therefore, as the World Bank now admits, “debt stock reductions will be needed”. This represents a change from the narrative we saw at the initial inception of the Common Framework, when the G20 agreed that, in principle, debt treatments would “not be conducted in the form of debt write-off or cancellation”.
2. Soaring debt payments
A Financial Times report stated that: “The world’s poorest countries face a $10.9bn surge in debt repayments this year.” According to the FT, the 74 low-income countries will “have to repay an estimated $35bn to official bilateral and private-sector lenders during 2022, according to the World Bank, up 45 per cent from 2020, the most recent data available”. If we consider all external public debt service – and not just bilateral and private, but also multilateral – from all low and lower-middle income countries, the bill rises up to US$120 billion. Jubilee Debt Campaign calculates that “developing country debt payments have increased 120% between 2010 and 2021 and are higher than at any point since 2001”. Most of the payments (47 per cent) will be made to private creditors, particularly to bondholders.
3. Plummeting public spending
Increasing debt payments mean less resources for public services, economic recovery or climate resilience. On average, government external debt payments were 14.3 per cent of government revenue in 2021, up from 6.8 per cent in 2010, and up to 43 countries surpassed that threshold. For more than half the countries in sub-Saharan Africa, debt-servicing costs account for a quarter of government revenue. According to UN DESA, “Many low-income countries have cut public investment and capital spending and have implemented major reallocations of resources from key development areas, including Cameroon, Liberia and Mauritania in Africa, Myanmar and Nepal in Asia, and some small island developing States such as Tonga and Samoa.” As CSOs warned when the DSSI was approved, the end of the debt payments standstill, the already elevated debt levels before 2020, together with new borrowing to deal with the pandemic impacts, and the lack of a functioning debt resolution framework, together create a perfect storm for debt distress, and what is worse, for austerity policies and the undermining of public services.
4. Inflation and rising interest rates
Global inflation remains a main concern for central banks and the news on upcoming surges of interest rates by the US Federal Reserve or the European Central Bank, is particularly concerning for the global south as their debt service burdens could rise significantly. This is true not only for low-income countries, but also for middle-income countries like Indonesia, Brazil, Mexico, South Africa and Turkey. Recently the Wall Street Journal argued that rising interest rates, together with “slowing global economic growth likely will spur many low-income countries to try to restructure their sovereign debt”.
Additionally, for low and middle-income countries, “credit will become less available”, as stated by Bill Duddley at Bloomberg. With higher interest rates in the global north, investors will be less prone to invest in what they see as more risky global south debt. The risk of a sudden stop in capital flows, as money flies back to Europe and North America, could also trigger debt defaults particularly in those countries with large stock of external debt and low foreign exchange reserves.
5. At the expense of the markets
Since the Covid-19 pandemic started and triggered debt vulnerabilities, many countries in the global south have been extremely vigilant of the implications that their actions, including requesting debt service suspension under DSSI, could have for their market access. In fact, bond issuance from governments and companies in low-income countries grew in 2020 and 2021 up to US$300 billion each year, more than a third higher than pre-pandemic levels, according to the Institute of International Finance.
Having access to issue debt in financial markets can be seen as “a wonderful thing to have when there is cheap money out there” – as Ayhan Kose, head of the World Bank’s economic forecasting unit said to the FT. But as CSOs have been warning, over reliance on capital markets for financing development processes is also extremely risky. When market conditions tighten, as it seems will happen in the coming months, countries with high market exposure will find themselves with very little room of manoeuvre. Either they pay onerous costs for debt refinancing, or they seek debt restructuring, most probably in a messy, lengthy and costly process, conditioned to seeking an IMF program and implementing the fiscal consolidation and policy reforms attached to it. This situation could lead to an increase in social unrest in upcoming months.
6. The limitations of the debt architecture
The calls for reform increase as the prospects of messy defaults raise. The IMF Managing Director, Kristalina Georgieva, called last December for an enhancement of the Common Framework, although the proposals the Fund put forward for such improvement fell short of the level of reform needed in the international financial architecture. The World Bank also called for the Common Framework structure to be improved “to increase its effectiveness and avoid the shortcomings faced by earlier initiatives and their predecessors”, in its Global Economic Prospects report. The recommendations from the Fund and the Bank focus on clearer timelines and rules for the Common Framework, a debt payments standstill during negotiations, inclusion of middle-income countries (MICs) and debt cancellation (not just reprofiling) in cases of unsustainable debt. To promote private creditors’ participation, it mentions credit enhancements used in the past and the need to make debt restructuring agreements binding on all creditors by majority vote, mainly through aggregated collective action clauses. As Jubilee Germany comments, it remains to be seen “whether this analysis is followed by action and concrete reforms are taken”.
Recently, different opinion pieces published by the Financial Times, Bloomberg and the Wall Street Journal, have advocated for debt architecture reform. However, the scope of the reform these articles call for is rather limited and focussed on debt transparency. Increasing debt transparency is of course important, and civil society has been calling for a public debt registry for some time now, way beyond piecemeal attempts like the OECD Debt Transparency Initiative. Calls for further debt transparency have China and borrowing countries in mind, although neither the Paris Club bilateral creditors nor the private sector or even multilateral institutions are being fully transparent in their lending.
The proliferation of calls for the reform of debt restructuring processes from the Bretton Woods Institutions and financial media failed to influence the G20 Finance Ministers’ meetings. Despite the hopes of some, including the IMF Managing Director, that Indonesia, holding the G20 presidency, would be better placed to convince China to agree on the Common Framework enhancement and on improving debt transparency, the truth is that debt is not even among the priorities for the G20 Indonesian presidency. While Rhodes and Lipsky at the WSJ see the coming G20 Finance Ministers’ meeting as “an obvious place to begin making progress on this critical issue”, Gillian Tett at the FT argues that “The history of the G20 suggests that it is such a reactive group that it is unlikely to take action until there is a full-blown debt crisis on its hands.” In the meantime, China is thinking of its own Brady-type plan for low-income countries sovereign debt restructuring: the “Shanghai Model”.
We cannot wait any longer for the G20, a non-inclusive and non-democratic decision-making space, to take decisions on how to improve the existing debt architecture. Indeed, the complete lack of progress contained in the communiqué gives no indication that they even intend to do so. Meanwhile we are losing a precious time, the debt vulnerabilities keep mounting and the fiscal space continues to shrink.
As UNCTAD secretary-general, Rebeca Grynspan, stated: “We really are at risk of another lost decade for developing countries.” Governments and international institutions need to take action now, on immediate and unconditional debt cancellation for all countries in need, but also for a meaningful, inclusive and democratic process of consensus-building on debt architecture reform. We urgently need a process, under the UN auspices, towards establishing a Multilateral Sovereign Debt Resolution framework that would comprehensively address unsustainable and illegitimate debts.