The role of Public Development Banks in supporting the post-COVID-19 crisis recovery in emerging and developing countries

The role of Public Development Banks in supporting the post-COVID-19 crisis recovery in emerging and developing countries

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There is not a ‘one-size-fits-all’ solution to respond and recover from the current global health emergency and economic fallout resulting from COVID-19. A combination of pragmatic solutions is needed to face the debt issue and give countries room to make the policy choices and investments that will also lay foundations to recover, putting people and nature at the heart of economic growth and development. Public Development Banks (PDBs)—multilateral, regional, national, sub-national—have at their disposal instruments to provide fresh financing through specific lines of credits or programmes during the crisis, and can therefore supply an important boost to stimulus packages, recovery efforts and long-term structural transformation.

Servicing debts

The more than 400 PDBs around the world can play a vital role not only in minimising economic decline and supporting recovery, but also in financing structural transformation, helping to lay the foundations for a financial model that is conducive to an equitable and sustainable growth, in line with the 2030 Agenda’s Sustainable Development Goals.

Multilateral and regional PDBs are important sources of financing, especially for emerging and developing countries. By making use of their credit and lending instruments—concessional and non-concessional—and by providing non-reimbursable technical cooperation resources, they allow governments to access new funding at preferential rates and terms 1. For example, in order to support the fight against COVID-19, The West African Development Bank (BOAD) has granted its Member States US$ 200 million in concessional loans (US$ 25 million per State) to be disbursed immediately; in addition, it has frozen debt repayment of about US$ 128 million owed by Member States for what is left of 2020. 2

Yet, how were levels of public debt of developing and emerging countries before the COVID-19 crash? According to the IMF’s World Economic Outlook (WEO) published in April, 2019 3 estimates’ show the balance of public external debt of these economies to be close to 30% as a proportion of GDP, while the total gross government debt (which includes both domestic and external debt) would be around 53%. By region, the total gross government debt is 68% in the case of Latin America and the Caribbean, 55% for emerging and developing Asia and 49% for Sub-Saharan Africa. In practice, these debt-to-GDP ratios must be within certain levels in order to be perceived by lenders as sustainable. The IMF estimates the maximum sustainable debt level before a default occurs: 4 this threshold is 58% for emerging markets and 40% for low-income countries, which indicates that regions such as Latin America and the Caribbean and Africa were at unsustainable levels before the shock. Furthermore, according to another report of the IMF published in February 2020, half of low-income countries are at high risk of, or are already in debt distress. 5

Unsustainable debt levels result in an increase in the Country Risk Premiums and in reductions in credit ratings by the large rating agencies, making access to external financing more limited and costly. This would also harm the countercyclical capacity of PDBs, if they were to resort to funding in the international capital market. 6

Softening the effects of the current crisis will inevitably lead to an increase in countries’ debt levels 7—parting from already unsustainable levels. The challenge ahead will be to gradually seek debt level reductions, involving fiscal adjustments that will improve countries’ Primary Fiscal Balance, and ensure sustainable economic growth rates. Insofar as the country’s economy grows at a rate higher than the interest rate incurred when borrowing, the necessary fiscal effort—measured as a percentage of GDP—will be lesser; alternatively, if both rates are similar, the debt/GDP ratio will tend to remain constant; and if the growth rate is lower than the interest rate, the ratio will deteriorate. The higher the interest rate and the debt stock, the greater the primary fiscal effort.



Read the full blog here.

This blog first appeared on the IDDRI site. 

Author: Maria Alejandra Riaño, IDDRI. 

Image courtesy of Jernej Furman via Flickr.

The views are those of the author and not necessarily those of ETTG.

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