How the G7 could help the debt-distressed
LONDON: This month, G7 leaders will gather in Germany to discuss a litany of overlapping global crises, including the war in Ukraine, food insecurity, inflation, backlogged global supply chains, the pandemic response, and climate change. These challenges have a common denominator: All are falling hardest on low- and middle-income countries that are already facing an escalating debt crisis.
When COVID-19 arrived two and a half years ago, nearly 60 per cent of the poorest countries were already in or at high risk of debt distress. Since then, the pandemic has pushed this cohort’s total indebtedness to a 50-year high, leaving more than two dozen countries at risk of defaulting in 2022 (with Sri Lanka becoming the first casualty last month).
Most of these countries are still struggling to recover from the pandemic, and now a tsunami of negative shocks is threatening their prospects further. On top of soaring prices for staples like energy, wheat, and fertilizer, interest-rate hikes in the United States and other major economies are driving up borrowing costs globally.
Moreover, because many of the lowest-income countries do not even have credit ratings, they remain entirely reliant on development finance to make up revenue shortfalls and meet basic needs. The World Bank projects that nearly 100 million more people may fall into extreme poverty in 2022.
G7 members – Canada, France, Germany, Italy, Japan, the United Kingdom, the US — and the European Union — are uniquely positioned to help low-income countries manage deteriorating macroeconomic conditions. Besides China, they are the largest source of development finance globally. They are also among the largest shareholders of the International Monetary Fund (IMF) and the World Bank, and they are power players in key forums like the Paris Club of sovereign creditors and the G20, where most of today’s debt-relief and debt-renegotiation agreements are shaped.
Despite this small, wealthy group’s outsize power, it has not fully used the tools at its disposal to help poorer countries. The first tool is the IMF’s special drawing rights (SDRs), an international fiat currency that G7 countries can urge the IMF to issue to help poorer countries manage their mounting debts and the effects of inflation.
We know that this tool works because the IMF’s $650-billion SDR allocation in August 2021 helped numerous low- and middle-income countries avoid fiscal crises and defaults, while still maintaining essential public services. Now, a new allocation is needed to help avert a human and economic catastrophe as hunger crises and inflationary pressures intensify in the coming months. G7 countries should also urge the US to 'recycle' its own unused SDR allocation to support countries in need. All the other G7 members have already done this through pledges to the IMF’s Resilience and Sustainability Trust.
The second tool is conditional debt relief. At this month’s summit, G7 leaders should urge fellow G20 countries immediately to extend the Debt Service and Suspension Initiative through to 2023. They also need to shore up the faltering G20 Common Framework, which is the current go-to forum for sovereign-debt restructuring. Here, it is important to find ways to engage constructively with China and private creditors. Failing that, the mechanism should be abandoned so that a more functional, truly multilateral framework for debt restructuring can be developed.
In either case, the G7 should explore the idea of debt-for-health or debt-for-climate swaps, whereby sovereign debt is forgiven in exchange for a country’s commitment to use the freed-up funds to invest in health systems, clean energy, and so forth. The Global Fund has already used this mechanism (at a smaller scale) to mobilise financing for the fight against HIV, tuberculosis, and malaria. Now, the same approach should be applied more broadly to strengthen health systems and pandemic preparedness and response (PPR).
Given that the annual PPR funding gap is estimated to be around $10.5 billion, and that the G20’s financial intermediary fund for PPR has raised less than $1 billion to date, we clearly need to find more effective ways to help low- and middle-income countries finance investments in their health systems. Targetted debt relief is an essential first step.
The third tool is the IMF loan regime – but only if it can be reformed. Since the start of the pandemic, the IMF has provided more than 150 country loans, ostensibly to help low- and middle-income countries create fiscal space with which to manage a public health and economic crisis. But most of these agreements contain counterproductive provisions requiring recipient governments to cut their public wage bills or reduce their debt-to-GDP ratios. The IMF’s own research department has found that these conditions tend to undermine state capacity, jeopardise essential services, and increase inequality in the medium to long term.
G7 leaders should use their substantial influence at the IMF to push for a new operating model, so that the money it lends to support public investment in essential services does not end up gutting those countries’ capacity to provide those services.
If the G7 wants to see low- and middle-income countries invest more in 'health for all', decarbonisation, and other United Nations Sustainable Development Goals, it needs to do everything in its power to help create the right external conditions. By supporting a new SDR allocation, offering conditional debt relief, and ending the IMF’s fixation on austerity, G7 leaders can help give poorer countries a fighting chance.
Mariana Mazzucato, founding director of the UCL Institute for Innovation and Public Purpose, is chair of the World Health Organization’s Council on the Economics of Health for All. Alan Donnelly, a former member of the European Parliament, is the founder and convenor of the G20 Health and Development Partnership.
Copyright: Project Syndicate, 2022.
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