European Parliament sounds the alarm over developing world debt crisis

20 April 2018 by Mark Perera

CC - photo Ana Bernardo

The number of poor countries facing major debt crises has doubled since 2013, and only 1 in 5 are now considered to be at low risk of crisis. With some countries in the midst of crisis and others on the brink, meeting the Sustainable Development Goals (SDGs) remains a pipe dream, writes Mark Perera.

The debt burden of developing countries has been rising fast, both in absolute terms, and in relation to economic indicators such as GDP GDP
Gross Domestic Product
Gross Domestic Product is an aggregate measure of total production within a given territory equal to the sum of the gross values added. The measure is notoriously incomplete; for example it does not take into account any activity that does not enter into a commercial exchange. The GDP takes into account both the production of goods and the production of services. Economic growth is defined as the variation of the GDP from one period to another.
, export earnings, and government revenue – trends are driven by a number of factors.

Monetary policy decisions in advanced economies introduced in the wake of the global financial crisis, including by the European Central Bank Central Bank The establishment which in a given State is in charge of issuing bank notes and controlling the volume of currency and credit. In France, it is the Banque de France which assumes this role under the auspices of the European Central Bank (see ECB) while in the UK it is the Bank of England.

, triggered a lending boom to the developing world. Falls in commodity prices have since badly hit countries reliant on commodity export earnings.

Meanwhile, the profile of creditors has evolved. Even the least developed countries Least Developed Countries
A notion defined by the UN on the following criteria: low per capita income, poor human resources and little diversification in the economy. The list includes 49 countries at present, the most recent addition being Senegal in July 2000. 30 years ago there were only 25 LDC.
are increasingly contracting high-interest Interest An amount paid in remuneration of an investment or received by a lender. Interest is calculated on the amount of the capital invested or borrowed, the duration of the operation and the rate that has been set. loans from private creditors, meaning a more fragmented creditor base, higher debt service Debt service The sum of the interests and the amortization of the capital borrowed. costs and a greater exposure to market risks.

There is also a continued lack of transparency surrounding lending to poor countries; compounded by the potential threats to public finances posed by public-private partnerships (of which the European Commission and EU member states have been strong supporters) and other, often hidden, state guarantees Guarantees Acts that provide a creditor with security in complement to the debtor’s commitment. A distinction is made between real guarantees (lien, pledge, mortgage, prior charge) and personal guarantees (surety, aval, letter of intent, independent guarantee). .

Are the current means to deal with debt crises sufficiently able to handle this evolving picture? Given that there have been over 600 cases of sovereign debt restructuring since 1950, debt crises are nothing new, but our ability to resolve them definitively is self-evidently lacking. Indeed, it can take decades to resolve crises, causing untold misery for citizens.

The piecemeal and ad-hoc manner in which crises are managed reflects the absence of an international regime governing restructurings. While rules exist in many countries to deal with bankrupt companies or individuals, similar rules do not exist for countries.

Debt restructuring takes place in different, often informal forums: for example, the Paris Club for some bi-lateral sovereign lenders from the developed world, or the London Club London Club The members are the private banks that lend to Third World states and companies.

During the 70s, deposit banks had become the main source of credit for countries in difficulty. By the end of the decade, these countries were receiving over 50 per cent of total credit allocated, from all lenders combined. At the time of the debt crisis in 1982, the London Club had an interest in working with the IMF to manage the crisis.

The groups of deposit banks meet to co-ordinate debt rescheduling for borrower countries. Such groups are known as advisory commissions. The meetings, unlike those of the Paris Club that always meets in Paris, are held in New York, London, Paris, Frankfurt or elsewhere at the convenience of the country concerned and the banks. The advisory commissions, which started in the 80s, have always advised debtor countries immediately to adopt a policy of stabilisation and to ask for IMF support before applying for rescheduling or fresh loans from the deposit banks. Only on rare occasions do commissions pass a project without IMF approval, if the banks are convinced that the country’s policies are adequate.
for some private lenders.

And there are no systematic rules governing when and how restructuring by these fora is triggered. Generally, negotiations are driven by narrow creditor interests, not by the development needs of debtor countries.

Previous efforts – most recently at the UN in 2015 – to establish a binding international framework for orderly, predictable debt restructurings have met with strong opposition from some EU governments and other powerful countries that host major financial centres, in particular, the USA.

The European Parliament’s new resolution on debt sustainability in developing countries squarely addresses this obduracy, challenging EU states to pick up the 2015 discussions and forge a path towards a set of multilateral rules to manage debt restructuring in a timely, fair, and sustainable manner.

Beyond the macroeconomic logic for such a permanent system, EU leadership on the issue would demonstrate political commitment to promoting an international rules-based system built on stronger multilateral cooperation. This is a principle meant to guide the EU’s external action and it is explicitly emphasised in the 2017 European Consensus on Development.

The Parliament also rightly identifies the shared responsibility of creditors and debtors to ensure debt stocks in poor countries are manageable: all the more critical when development finance orthodoxy is increasingly embracing private capital. The shocking case of Mozambique, where 2bn USD lent by Credit Suisse among others – was wasted or disappeared completely – is a stark reminder that irresponsible lending and borrowing still often goes unpunished. Meanwhile, the consequences of a debt crisis are borne heavily by the citizens in developing nations, who pay installed economic development and erosion of their human rights.

The Parliament is now calling for ‘binding and enforceable’ instruments to be introduced to govern sovereign financing, and for EU member states to build on transparency commitments that they have already made at the international level, such as in the Addis Ababa Action Agenda. The EU and its member governments are also urged to adhere to the UN guiding principles on foreign debt and human rights in their bilateral lending, and when acting within international institutions. This includes pushing the IMF IMF
International Monetary Fund
Along with the World Bank, the IMF was founded on the day the Bretton Woods Agreements were signed. Its first mission was to support the new system of standard exchange rates.

When the Bretton Wood fixed rates system came to an end in 1971, the main function of the IMF became that of being both policeman and fireman for global capital: it acts as policeman when it enforces its Structural Adjustment Policies and as fireman when it steps in to help out governments in risk of defaulting on debt repayments.

As for the World Bank, a weighted voting system operates: depending on the amount paid as contribution by each member state. 85% of the votes is required to modify the IMF Charter (which means that the USA with 17,68% % of the votes has a de facto veto on any change).

The institution is dominated by five countries: the United States (16,74%), Japan (6,23%), Germany (5,81%), France (4,29%) and the UK (4,29%).
The other 183 member countries are divided into groups led by one country. The most important one (6,57% of the votes) is led by Belgium. The least important group of countries (1,55% of the votes) is led by Gabon and brings together African countries.
to adopt a human rights-based approach when assessing the sustainability of developing countries’ debt burdens.

Eurodad has long been calling for such reforms and this timely intervention by the European Parliament must be a trigger for the Commission and member states to act: ignoring the warning signs of a growing developing world debt crisis is no longer tenable. The Commission should begin by setting in motion the drafting of a white paper on developing country debt sustainability, as the Parliament suggests. It is important to emphasise that the EU itself is part of the problem when it comes to debt crisis risks in developing countries. The provision of development aid in the form of grants is increasingly being replaced by risky loans, or by instruments such as those of the new European External Investment Plan that use the EU’s official aid money to leverage Leverage This is the ratio between funds borrowed for investment and the personal funds or equity that backs them up. A company may have borrowed much more than its capitalized value, in which case it is said to be ’highly leveraged’. The more highly a company is leveraged, the higher the risk associated with lending to the company; but higher also are the possible profits that it may realise as compared with its own value. debt-creating private investments in the Global South. That being so, the EU must take responsibility to ensure that debt crises can be prevented or solved quickly where prevention has failed.

EU countries can already begin pushing the agenda forward this very week at the Spring Meetings of the IMF and World Bank World Bank
The World Bank was founded as part of the new international monetary system set up at Bretton Woods in 1944. Its capital is provided by member states’ contributions and loans on the international money markets. It financed public and private projects in Third World and East European countries.

It consists of several closely associated institutions, among which :

1. The International Bank for Reconstruction and Development (IBRD, 189 members in 2017), which provides loans in productive sectors such as farming or energy ;

2. The International Development Association (IDA, 159 members in 1997), which provides less advanced countries with long-term loans (35-40 years) at very low interest (1%) ;

3. The International Finance Corporation (IFC), which provides both loan and equity finance for business ventures in developing countries.

As Third World Debt gets worse, the World Bank (along with the IMF) tends to adopt a macro-economic perspective. For instance, it enforces adjustment policies that are intended to balance heavily indebted countries’ payments. The World Bank advises those countries that have to undergo the IMF’s therapy on such matters as how to reduce budget deficits, round up savings, enduce foreign investors to settle within their borders, or free prices and exchange rates.

, and later this month, at the 2018 UN Financing for Development Forum. A simple step would be to commit, for example, to sponsoring international discussions on establishing a debt restructuring mechanism, building on existing UN work.

Unsustainable debt burdens risk jeopardising the entire 2030 Development Agenda, to which the EU has firmly committed itself. With 12 years left, and a developing world debt crisis already in motion, that commitment needs urgently to be acted upon. The European Parliament has this week laid down the gauntlet for the European Commission and member states: it’s now up to them to pick it up.




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