The outbreak of the global pandemic has significantly worsened the indebtedness of low- and middle-income countries and slowed down their development. Some have had difficulties repaying their debts and the ongoing economic crisis triggered by the pandemic has exacerbated the situation, forcing many to cut the social spending that is desperately needed to curb the health crisis.
As the pandemic unfolded, developing countries saw their external debt levels reaching record highs. In 2020, the total amounted to US$10.6 trillion up from about US$10 trillion in 2019 and just US$4.4 trillion in 2009. The hike took place against the backdrop of an economic decline. According to the International Monetary Fund, developed economies saw their GDP falling to -4.6% while in emerging and developing countries the indicator went down to –2.1%.
Fig.1. Latest World Economic Outlook Update Growth Projections
The Brookings Institution, a U.S.-based think tank, has devised a solution for the debt issue with its experts arguing that debt should be linked to willingness to use the development spending from others to boost the economies of the poorest nations.
They also insist that the market is not able to resolve the problem of indebtedness of the poorest states by itself and the issue must be addressed by policymakers. Politicians should deal with actions taken by creditors and not allow them to trigger liquidity problems and debt crises. Middle-income countries should have the opportunity to refinance their debts on reasonable terms which means that additional financing from state and private creditors is required.
When the pandemic hit economies worldwide, G20 agreed to postpone bilateral debt payments in May 2020 and allowed countries to join the Debt Service Suspension Initiative (DSSI) which offered extended debt suspension until the end of 2021. The Brookings Institution analysts point out however that this is not sufficient to bring relief to the poorer states hit by the crisis. They argue that DSSI should cover all vulnerable states such as small island countries or those whose economies are dependent on tourism. Moreover, middle-income states should have access to some form of international financial support which at the moment is limited.
The Brookings Institution analysts note that apart from either postponing or restructuring debts, creditors should also adopt other approaches to ensure that the money borrowed is channeled to development. As low-income states face problems with effective governance, financial support must be linked to social spending on health care, climate and Sustainable Development projects to boost progress.
While half of the world’s low-income states were in debt distress or at high risk before the COVID-19 outbreak, the pandemic has only exacerbated their situation. The International Monetary Fund found that in 2020, six states defaulted on repayments, and furthermore for 36 developing countries, one out of three rating agencies downgraded their sovereign credit rating while 28 states had their outlook downgraded. While many middle-income states have been able to return to the international bond markets since COVID-19 broke out, only two sub-Saharan African states have managed to do so, Ivory Coast and Benin.
Wealthier states also have more resilient economies so are able to help their citizens and channel money for social spending by allocating trillions of dollars in fiscal support. It is estimated that the support represents 24% of their GDP while in the case of low- and middle-income states, this is only 2% and 6%, respectively. The economic turmoil also led to a drop of 40% in foreign direct investments last year and a further decrease is expected in 2021. In the era of economic downturn, it is especially important to shape debt policy in a way that the resources borrowed boost development.
