Kevin Gallagher is professor and director of the Global Development Policy Center at Boston University.
The World Bank is from Venus and the IMF is from Mars. One wants to mobilise trillions of private sector dollars to avoid climate catastrophe and persistent poverty; the other warns that many developing countries are shut out of capital markets altogether.
Both need to come down to Earth and see that there have to be massive debt writedowns across the developing world. The costs of inaction are mounting.
On Venus, during last week’s spring meetings the World Bank embraced the Songwe-Stern report that developing countries need to mobilise upwards of $2.4tn per year–$1tn of which from external sources of foreign currency — to finance a big push of global investment to put emerging market and developing countries on low-carbon, socially inclusive, and resilient growth trajectories. The usual good stuff.
The Bank’s solution is concerning however: squeeze more capital out of the existing balance sheet, starting with a drop in the equity-to-loan ratio from 20-19 per cent to eek another $5bn annually. Minuscule, but the World Bank reckons the new capital will ‘de-risk’ developing countries and unlock trillions in private (foreign currency) capital markets that demand a 20 per cent return to get out of bed.
Meanwhile on Mars the IMF points out that a growing number of countries are in debt distress and can’t access international capital markets at all.
Developing countries’s external debt has increased by over 175 per cent since 2008 to $3.9tn, and is owed to a dizzying array of creditors: private bondholders and other private creditors (57 per cent), multilateral development banks (21 per cent), the Paris Club (6 per cent), and China (4 per cent).
What’s more, the IMF is worried that the G20 Common Framework isn’t working, and says fiscal consolidation doesn’t improve debt ratios because it puts a drag on growth. (Someone should tell it that fiscal consolidation is the cornerstone of IMF lending.)
The World Bank, IMF, private creditors, and some debtors have held a roundtable to get the private sector and China to provide debt relief and to ask China to stop insisting that MDBs do too. Reportedly China will back down if MDBs agree to provide net positive grants and concessional finance to distressed countries.
Unctad shows that net negative transfers abound, so this would be pretty welcome.
Does this mean that China and private bondholders will start giving haircuts too? Without full participation by private bondholders, China, and the MDBs, developing economies are on shaky ground and don’t have a prayer to meet climate and development goals.
One call from earth came from the V20 group of the most climate vulnerable countries that are paying the price of inaction (there are actually 58 members, but V58 presumably didn’t have the same ring).
The V20 wants to link debt relief to “climate prosperity” and lure creditors to the table through a Brady-bond like guarantee facility. The Debt Relief for a Green and Inclusive Recovery project (where, full disclosure, I am a co-chair) has mathed the proposal.
There is a net present value of $812bn in external debt in the more than 60 countries in or near debt distress — approximately $444bn of which is held by the private sector and China’s commercial creditors. Meyer, Reinhart and Trebesch have shown that the historical average for haircuts has been 39 per cent of the NPV of external debt (the HIPC/MDRI era scalping was 64 per cent). For illustrative terms then, we say that roughly $173-284bn would need to written off to get these countries on track.
Bilateral government creditors will need to lead by example, but private creditors and Chinese lenders could be encouraged to participate through a Brady-bond like scheme. That experience says that such instruments today would have 10-year maturity for new bonds and a Secured Overnight Financing Rate of 3.5 per cent cost, with a partial guarantee of the principal (80 per cent portion) and 18 months of interest payments fully guaranteed. The guarantee fund under these scenarios would thus need to be around $37-62bn.
The World Bank could secure that without hurting its lending headroom in a heartbeat. The guaranteed bonds would be sustainability-linked with KPIs rooted in country-owned recovery strategies such as Climate Prosperity Plans, SDG Country Plans, and National Determined Contributions under the Paris Agreement.
All carrots need sticks though. The IMF should trigger its “lending into arrears” policy and put in place a payment standstill during negotiations. The UK passed a law in 2010 that prevented creditors from suing countries that participating in the Highly Indebted Poor Country initiative (HIPC), and the US issued executive orders to force through a brutal restructuring of Iraqi debt in 2002. Something similar could happen again.
Debt relief will only be part of the solution. Our study shows that even with HIPC-like haircuts the most distressed countries would still have a long way to go — $1.26tn.
Countries also need fresh liquidity (more SDRs, reformed IMF loans etc), concessional financing and grants (through a stepwise capital increase by the World Bank and MDBs, not just tweaks of equity-to-loan ratios), and incentives for the private sector to invest in low-carbon, socially inclusive, and resilient economic activity — the aforementioned good stuff.
In the 1990s the world was under debt distress with no chance to meet the Millennium Development Goals. The World Bank an IMF finally did the right thing with HIPC, only after exhausting all the alternatives.
Now we face not only a drag on economic growth and lost decades of poverty, but we also face the existential threat of climate change. As the United Nations Environment Program has warned us, it is now or never. It’s time for the World Bank, the IMF and the G20 to get down to earth.
Source: Economy - ft.com
