The economic outlook that the IMF presented last week at the IMF-WB Annual Meetings made a rather gloomy impression. Not only the outlook was downgraded, but there seems to be no good policy options that could dramatically transform the situation. The tools that central banks are applying to curb the inflation, i.e. rate hikes, will lead to recession, and there is not much we can do about it, or so the story goes.
An important part of this story on which I would like to focus here is the looming debt crisis, especially in the low-income countries of the Global South. There was a panel at the IMF-WB event dedicated to this topic, called “Debt Restructuring: Why Too Little and Too Late”. Moderated by Martin Wolff, it featured top IMF executives and economists, as well as finance industry top executives. Interestingly, on the same day there was another, alternative event on the same topic - “The Global South under Debt Distress” - organised by Friedrich-Ebert-Stiftung (FES) and featuring Joseph Stiglitz and Argentina's former economy minister Martín Guzmán.
The contrast between these two panels was quite striking. IMF panel was all doom and gloom, as acknowledged by its own participants. The FES panel was livelier, although quite critical of the current institutional arrangements around sovereign debt. Importantly, it offered some solutions. The reason that I am describing the set-up in so much detail is to show that the set-up of the conversation very much defines its result. My main conclusion from both panels is that resolution and prevention of debt crises is very much a political economy issue, full of power plays. We knew it all along, but this was just a concise demonstration of the problem.
Now to the substance. The situation with emerging countries sovereign debt is now very precarious. According to the IMF, 60% of low-income countries are at or near debt distress levels. In 2022 there were already 6 sovereign defaults, compared to 1-2 average per annum in normal times. Another fresh study on the topic, a UNDP paper, Avoiding ‘Too Little Too Late’ on International Debt Relief, issued last week, says that “at least 54 developing economies are suffering from severe debt problems. Together they represent little more than 3 percent of global GDP but 18 percent of the global population, and more than 50 percent of people living in extreme poverty.”
The current debt problem started to accumulate some years ago, namely, after the financial crisis of 2008, as the flood of cheap money was chasing yield around the planet. The Covid pandemic exacerbated the problem, as exports and total production went down, while expenses on heath and social protection increased. The strain got stronger due to rising energy and food prices. On top of it, in 2022 came the monetary tightening, which means steeply rising debt servicing costs for these countries, as most of the EM debt is denominated in US dollars. There are also already some signs of private investor withdrawal from EM debt. Facing higher returns in developed countries and heightened uncertainty of global economic outlook, private investors are starting to run to safety.
It looks very much like the early 80s, when tight monetary policy of the US Fed under Paul Volcker led to Latin America debt crisis. The question now is whether the full-fledged EM debt crisis could be avoided. The IMF recommendation:
“Now is the time for emerging market policymakers to batten down the hatches” (IMF WEO, Oct 2022)
IMF also urges countries not to procrastinate and apply for precautionary instruments from the Fund. The IMF panel dwelled a lot on the procrastination problem, saying that debtor countries usually tend to wait for too long before applying for debt relief instruments. Then there is also a problem with lack of transparency, both on debtor and creditor side, which complicates debt resolution. Here I liked the most the proposal that debtor country governments should be transparent toward their own citizens about the deals they are reaching with creditors. Politicians often agree to deals that are short-sighted and bring immediate relief but are not sustainable and eventually lead to much suffering in their countries.
These are all valid points, but none of them will avert the looming debt crisis. They are just technical changes on a set-up that is fundamentally flawed. Notably, there were no other solutions proposed by the IMF panel. The crisis is “looming”, developing countries should adjust somehow. That’s it.
By contrast, the second, “alternative” panel, has offered some solutions. Indeed, different solutions have been proposed over recent years, but none of them has worked so far. There is a general understanding that we need a multilateral framework for sovereign debt resolution that would set rules and procedures for sovereign bankruptcies. One such solution was developed for the UN by a commission that Stiglitz chaired, but some major countries-creditors (US and UK) voted against it, so it did not fly.
The major debt relief initiative that is currently in place is the G20 Common Framework for Debt Treatments (CF), which was adopted in November 2020 to help developing countries both with liquidity and solvency problems. The program has so far failed. One of the main hurdles is that private creditors showed no interest in coordinating debt resolution in a common framework. There is also an issue of inclusion of new sovereign creditors, notably China.
There is lots of analysis and propositions on what should be done to design or improve the multilateral framework. The problem, however, is that there is not enough will to go for it. This is what both panels acknowledged. I think we should not place too much hope on technocratic institutions, like the IMF. To find a solution to debt crisis, one needs a political mandate and will. This means that UN should probably step up its effort, and the countries with debt problems should speak up louder and organise themselves around the topic.
At the same time, we need to push forward the fundamental change in how our monetary system operates. So that countries do not end up in a pile of debt in the first place. And here comes my favourite topic – money reform. The way that money functions today is fundamentally flawed and will always lead to debt crises. Because our money is created as debt. 97% of our money is bank deposits that are created simultaneously with loan disbursement. This means that money and debt is inseparable. Wherever economy needs more money, more debt has to be created. Loose monetary policy after the 2008 crisis, with low interest rates and loads of QE, pushed indebtedness level everywhere. In search for yield, banks and other financial institutions lent lavishly to high-risk borrowers and invested in EM bonds. We need to stop this dependency of the whole economies on the mood of the financial sector. Why do we entrust our economies to these people?
There is no lack of proposals on how to reform money. I like a lot the idea of sovereign money, promoted, among others, by Positive Money (positivemoney.org). In this setup, all money would be issued by the central bank. There are also systems of Complimentary Currencies, both public and private. Notably, all these money are NOT debt.
Indeed, there is a lot of hope and potential in the emerging money systems. My worry is that it will not help the indebted countries and people now. Looking at the lack of political will on the part of traditional players to deal with the debt and money issue, I fear we will see yet another debt crisis. But then, hopefully, the needed political momentum will emerge for the radical change of the money system.
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