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How to avoid a developing world debt crisis


Revelations this week that China is ramping up its bailout lending to poorer countries serve to highlight a potential debt crisis in the developing world. A new study shows China’s rescue lending surged to $104bn between 2019 and the end of 2021 to participants in its Belt and Road Initiative, the world’s largest-ever transnational infrastructure programme.

This figure, while striking, is minor compared to the overall debt levels in emerging markets. The Institute of International Finance, a financial industry association, estimates that total developing world debt rose to a record of $98tn at the end of 2022, after governments and corporations filled their boots in recent years.

With so much debt weighing on the world’s weakest economies, it will not take much to push several into default. Pressures are building. A stronger US dollar is increasing the domestic currency valuation of external debts. Higher interest rates, required to fight inflation, are also raising debt service costs. The war in Ukraine is exacerbating uncertainties.

Heading off a developing world debt crisis should be a top priority. But as strategic discord between China and the US-led west intensifies, a dearth of co-operation among big creditors is prolonging the agony for several developing world defaulters. A solution to emerging market debt problems is further complicated by the explosion in private sector debt over the past two decades.

This explosion has meant that between 2000 and 2021, the share of public and publicly guaranteed external debt of low and lower-middle income countries owed to bondholders jumped from 10 to 50 per cent of the total.

The impact of lagging co-ordination is clearly visible. Fitch, a rating agency, says there have been nine sovereign defaulters since 2020, including the unresolved situations in Sri Lanka and Zambia. The competing demands between the multilateral organisations, China, other bilateral creditors and private bondholders are so complex that it now takes three times as long to resolve a default as it did on average in the two decades before 2020, according to Fitch.

It is now time for western creditors and China to make concessions and reach a bold new framework. All parties — China, multilateral lenders, other bilateral lenders and the private sector — need to be ready to take losses.

A new institutional framework is required. If Beijing feels allergic to the Paris Club of creditors, then the new framework could potentially be constructed around the G20, which is often China’s preferred international forum.

Stakeholders should be clear, however, that the objective should not be simply to revive the G20’s debt service suspension initiative, which expired at the end of 2021. The DSSI performed a valuable function in providing relief on debt interest payments for 73 of the world’s low-income countries. What is needed now is more ambitious: an agreed framework for the restructuring of developing world debt.

Opposition to such a scheme will no doubt be strong. But failure to grasp the nettle now will only exacerbate eventual losses for all creditors further down the track. Beijing should realise that a framework in which haircuts are spread evenly among creditors is its best hope not only to limit eventual losses but also to preserve its reputation in lower-income countries.

Unresolved defaults in the developing world are already making life a misery for people in countries such as Sri Lanka. Many more could suffer unless China and the west find a path to co-operation on what is clearly a moral imperative.



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