Debt finance

Can the G20 change the global debt financing landscape?

Author: Toshiro Nishizawa, University of Tokyo

The G20 recently extended its Debt Service Suspension Initiative (DSSI) for the remainder of 2021, reflecting the severity of the cash shortages facing the world’s poorest countries due to the COVID-19 pandemic. But this is only a temporary measure.

A common framework for dealing with debt beyond the DSSI approved by the G20 and the Paris Club in November 2020 could be a remedy to address debt sustainability issues in the future. Although the Common Framework is a welcome step forward in the concerted efforts of the G20 to facilitate the treatment of the debt of countries eligible for the DSSI, it still has to meet the challenges of equitable burden-sharing.

The G20’s decision to temporarily ease funding constraints for vulnerable countries to help them cope with the pandemic may not be fully effective. The participation of the private sector is limited to voluntary forbearance of debt payments. While China’s participation in a multilateral initiative like this is an important step forward, the reach enjoyed by official bilateral creditors leaves it – the world’s largest official creditor – with leeway when it comes to claims made. via the Development Bank of China and the China Eximbank.

These initiatives could end up creating boomerang results within the next 10 years. Current initiatives appear to share a common feature with the Heavily Indebted Poor Countries (HIPC) Initiative launched in 1996 to address the debt distress of low-income countries. Private creditors are unlikely to participate or reduce their exposure and reduce their losses without new loans. While the majority of bilateral creditors will join the initiatives, China’s quasi-trade claims may fall outside their scope.

Paradoxically, new loans, even on concessional terms, from multilaterals are a double-edged sword. The World Bank’s commitment of US $ 26.3 billion in financing for countries participating in the DSSI, including US $ 17.5 billion in non-grant financing, will add to the non-reschedulable debt burden. Multilateral Development Banks (MDBs) with de facto preferred creditor status are not required to undertake debt restructuring. Unless debt sustainability is restored, the increase in the stock of debt could make more debt relief inevitable. The International Monetary Fund established the Containment and Disaster Relief Trust to provide debt service relief in the form of grants with the support of donor contributions.

The 73 countries eligible for DSSI are low and lower middle income countries, mainly in Africa, Asia and the Pacific and Latin America. Out of 37 beneficiaries of debt reduction programs under the HIPC Initiative, 31 are in Africa. As of May 2021, only 47 eligible countries had applied to participate in the DSSI.

High debt levels are not only a concern for the world’s poorest countries, but also for many advanced and middle-income countries. However, are rich countries able or willing to provide in the form of donor contributions to help low- and middle-income countries that need more debt relief?

There are three possible answers to this question.

The first is a “this time around is no different” scenario. As debt to private creditors begins to be paid by the public sector, or is canceled, the composition of creditors of debt owed by troubled countries turns into debt with a larger share of official creditors. . Their debt levels could increase further with new lending streamlined to meet all of the Sustainable Development Goals. Some academics encourage policy-based loans or guarantees from MDBs to over-indebted developing countries. Policy loans with conditions have been controversial.

Second, emerging creditors might take a different approach, including debt-to-equity conversions on a larger scale. For example, China seems increasingly inclined to invest in stocks rather than to lend. This approach could help China and debtor countries save on debt services and promote new foreign direct investment.

Third, strategic competition between the United States and China could become a major obstacle to any multilateral cooperation aimed at resolving debt sustainability issues. The hope rests in the United States adopting a problem-by-problem merit-based approach at the G20, where concerted efforts are being made to make it easier to deal with the debt of the world’s poorest countries.

Rethinking the model of credit-dependent growth could pull the global economy out of a vicious debt trap. The difficult trade-off between tackling the root cause of over-indebtedness and pursuing comprehensive economic development goals must be addressed. The credit-dependent growth model has yielded ruinous results in the past, notably the Asian financial crisis of 1997-1998 and the global financial crisis of 2007-2008.

The interconnection between various challenges – economic, social and governance – is evident in the wake of COVID-19 and the trade-offs that must be managed. The challenges brought about by the pandemic require an effective and efficient allocation of a limited amount of resources between sectors, countries and generations.

The extension of the G20 ISD could herald a new era if followed by actions under the Common Framework to support successful cooperation. Otherwise, it could be a harbinger of ineffective action. The G20 is more important than ever as the current over-indebtedness has become a shared problem globally.

Toshiro Nishizawa is a professor at the Graduate School of Public Policy at the University of Tokyo.