1980s Redux? Developing Countries See New Context, Old Threats

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Yves here. This post is a reminder of how developing economies are at the mercy of the monetary policies of major economies, particularly the US. The US set out to increase this vulnerability via the World Bank’s International Finance Corporation, which pushed developing countries into setting up capital markets. That made them even prey to destabilizing hot money inflows and outflows, which in turn are very much influenced by whether the Fed is in a tightening or easing cycle. For instance, when Bernanke got religion for a little bit about raising interest rate, spurring the so-called Taper Tantrum, some developing economy central bankers complained to the Fed because they were effectively also being put through monetary tightening. The Fed’s response was “Too bad.”

Here, we have big economy central bank tightening adding to dire real economy stresses: energy and food shortages, weakening currencies, and often high levels of external debt.

By Anis Chowdhury, Adjunct Professor at Western Sydney University and University of New South Wales (Australia), who held senior United Nations positions in New York and Bangkok and Jomo Kwame Sundaram, a former economics professor, who was United Nations Assistant Secretary-General for Economic Development, and received the Wassily Leontief Prize for Advancing the Frontiers of Economic Thought. Originally published at Jomo Kwame Sundaram’s website

As rich countries raise interest rates in double-edged efforts to address inflation, developing countries are struggling to cope with slowdowns, inflation, higher interest rates and other costs, plus growing debt distress.

Rich countries’ interest rate hikes have triggered capital outflows, currency depreciations and higher debt servicing costs. Developing country woes have been worsened by commodity price volatility, trade disruptions and less foreign exchange earnings.

Rising Debt Risks

Almost 60% of the poorest countries were already in, or at high risk of debt distress, even before the Ukraine crisis. Debt service burdens in middle-income countries have reached 30-year highs, as interest rates rise with food, fertilizer and fuel prices.

Developing countries’ external debt has risen since the 2008-09 global financial crisis (GFC) – from $2 trillion (tn) in 2000 to $3.4tn in 2007 and $9.6tn in 2019! External debt’s share of GDP fell from 33.1% in 2000 to 22.8% in 2008. But with sluggish growth since the GFC, it rose to 30% in 2019, before the pandemic.

The pandemic pushed up developing countries’ external debt to $10.6tn, or 33% of GDP in 2020, the highest level on record. The external debt/GDP ratio of developing countries other than China was 44% in 2020.

Borrowing from international capital markets accelerated after the GFC as interest rates fell. But commercial debt is generally of shorter duration, typically less than ten years. Private lenders also rarely offer restructuring or refinancing options.

Lenders in international capital markets charge developing countries much higher interest rates, ostensibly for greater risk. But changes in public-private debt composition and associated costs have made such debt riskier.

Private short-term debt’s share rose from 16% of total external debt in 2000 to 26% in 2020. Meanwhile, international capital markets’ share of public external debt rose from 43% to 62%. Also, much corporate debt, especially of state-owned enterprises, is government-guaranteed.

Meanwhile, unguaranteed private debt now exceeds public debt. Although private debt may not be government-guaranteed, states often have to take them on in case of default. Hence, such debt needs to be seen as potential contingent government liabilities.

Sri Lankan international capital market borrowings grew from 2.5% of foreign debt in 2004 to 56.8% in 2019! Its dollar denominated debt share rose from 36% in 2012 to 65% in 2019, while China accounted for 10% of its external borrowings.

Private borrowings for less than ten years were 60% of Lankan debt in April 2021. The average interest rate on commercial loans in January 2022 was 6.6% – more than double the Chinese rate. In 2021, Lankan interest payments alone came to 95.4% of its declining government revenue!

Commercial debt – mostly Eurobonds – made up 30% of all African external borrowings with debt to China at 17%. Zambian commercial debt rose from 1.6% of foreign borrowings in 2010 to 30% in 2018; 57% of Ghana’s foreign debt payments went to private lenders, with Eurobonds getting 60% of Nigeria’s and over 40% of Kenya’s.

More Commercial Borrowing

Thus, external debt increasingly involved more speculative risk. Public bond finance, foreign debt’s most volatile component, rose relative to commercial bank loans and other private credit. Meanwhile, more stable and less onerous official credit has declined in significance.

Various factors have made things worse. First, most rich countries have failed to make their promised annual aid disbursements of 0.7% of their gross national income, made more than half a century ago.

Worse, actual disbursements have actually declined from 0.54% in 1961 to 0.33% in recent years. Only five nations have consistently met their 0.7% promise. In the five decades since promising, rich economies have failed to deliver $5.7tn in aid!

Second, the World Bank and donors have promoted private finance, urging ‘public-private partnerships’ and ‘blended finance’ in “From billions to trillions: converting billions of official assistance to trillions in total financing”.

Sustainable development outcomes of such private financing – especially in promoting poverty reduction, equity and health – have been mixed at best. But private finance has nonetheless imposed heavy burdens on government budgets.

Third, since the GFC, developed economies have resorted to unconventional monetary policies – ‘quantitative easing’, with very low or even negative real interest rates. With access to cheap funds, managers seeking higher returns invested lucratively in emerging markets before the recent turnaround.

Large investment funds and their collaborators, e.g., credit rating agencies, have profitably created new means to get developing countries to float more bonds to raise funds in international capital markets.

Making Things Worse

Policy advice from donors and multilateral development banks (MDBs), rating agencies’ biases and the lack of an orderly and fair sovereign debt restructuring mechanism have shaped commercial lending practices.

Favouring private market solutions, donors, MDBs and the IMF have discouraged pro-active development initiatives for over four decades. Hence, many developing countries remain primary producers with narrow export bases and volatile earnings.

They have urged debilitating reforms, e.g., arguing tax cuts are necessary to attract foreign direct investment (FDI). Meanwhile, corporate tax evasion and avoidance have worsened developing countries’ revenue losses. Thus, net revenue has fallen as such reforms fail to generate enough growth and revenue.

Credit rating agencies often assess developing countries unfavourably, raising their borrowing costs. Quick to downgrade emerging markets, they make it costlier to get financing, even if economic fundamentals are sound.

The absence of orderly and fair debt restructuring mechanisms has not helped. Commercial lenders charge higher interest rates, ostensibly for default risks. But then, they refuse to refinance, restructure or provide relief, regardless of the cause of default.

When Will We Learn?

Following the 1970s’ oil price hikes, western, especially US banks were swimming in liquidity as oil exporters’ dollar reserves swelled. These banks pushed debt, getting developing country governments to borrow at low real interest rates.

After the US Fed began raising interest rates from 1977 to fight inflation, other major central banks followed, raising countries’ debt service burdens. Ensuing economic slowdowns cut commodity exporters’ earnings.

In the past, the IMF and World Bank imposed ‘one-size-fits-all’ ‘stabilization’ and ‘structural adjustment’ measures, impairing development. Developing countries had to implement severe austerity measures, liberalization and privatization. As real incomes declined, progress was set back.

With the pandemic, developing countries have seen massive capital outflows, more than in 2008. Meanwhile, surging food, fertilizer and fuel prices are draining developing countries’ foreign exchange earnings and reserves.

As the US Fed raises interest rates, capital flight to Wall Street is depreciating other currencies, raising import costs and debt burdens. Thus, many countries need financial help.

Debt-distressed countries once again seek support from the Washington-based lenders of last resort. But without enough debt relief, a temporary liquidity crisis threatens to become a debt sustainability, and hence, a solvency crisis, as in the 1980s.

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  1. YankeeFrank

    So how much of that +$10trillion will default in the coming year given the stark choices on offer to these nations (starve your people and risk revolt or don’t pay)?

    As I read his recent work Michael Hudson thinks this may be the trigger to a western currency crisis and general financial crisis. Given the inflation and (self-imposed) energy crises the west is also facing, are we on track for the mother of all collapses?


    We’re running the 70s/80s US hegemony playbook.

    Highly indebted developing countries; stir up geopolitical hell on the border of “rival” powers; using reserve currency status to export inflation elsewhere; make our energy cheaper than rest of world.

  3. digi_owl

    For years now i have been convinced that the backbone of “soft” imperialism has been to convince the global south to focus on cash crops and material extraction over industry and food security.

    This then allow the north Atlantic nations to “discipline” said nations by withholding the purchasing of those raw materials, leading the national economies to spiral into hyperinflation thanks to a tumbling exchange rate.

    After all, they still need to buy USDs etc in order to buy from food and other essentials the public need for survival. But with little interest in their exports, the balance of trade will rapidly become lopsided. And from there one is a hop skip away from Weimar Germany, Zimbabwe, or more recently Venezuela.

    1. Mikel

      The north Atlantic nations can’t do it without the coorperation of the wealthy and associated bought and paid for politicians in the global south.
      They use this system to maintain their power.

  4. Goat_farmers_of_the_CIA

    I was expecting a bit more depth from this analysis. Yes it does consider the small role Chinese debt plays in developing countries, but only Yves’s introductory comment mentions the importance of the dollar in international trade as a way to pressure countries (no dollars, no imports of food and energy). But what happens in a context where, among some countries just in Latin America, China has displaced the US as top importer, paying in Yuan; while at the same time that currency is increasingly being used for trade, even to buy grain and fertilizer from Russia?

    And what about energy exporting countries in a context where OPEC+ is unwilling to cave in to US pressure, and cuts production in order to keep prices high? Oil producing developing countries will be awash not only in dollars, but also Yuan.

    That’s why, at least to me, for all its concern with the predicament of developing economies, the article feels like a shallow attempt at TINA talk. What if the Fed, in its arrogance, pushes for a repeat of the 80’s debt crisis to gobble up developing country resources, only to find these countries with a stronger negotiating position thanks to their trade with China and the Yuan’s increasing use in international trade? What if the US gets little of the 80’s debt crisis upside, and much more of the downside, crushing what little industry the US has by impoverishing its consumers and at the same time making itself uncompetitive with a pricy dollar?

    1. JTMcPhee

      Kind of what the Imperium is facing as a result of trying to pull that crap on Russia, no? This time there’s no old drunk willing to party with the jackals, but Putin and Lavrov and the Russian central bankers holding a big old shotgun under one arm and doing the “Are you feeling lucky, punk?” bit…

  5. fairleft

    Yeah, stop whining and jump into the #fairworldorder. If ‘third world’ elites decide not to join the new financial order, or at least decide not to use it in tandem with the West-centered way of doing things, they’re making excuses for the arrangements that have long lined their pockets and excited their colonized hearts.

    Won’t last long though. Europe and perhaps the entire West is heading now toward a profound de-industrializing recession, and a turn toward the China-Russia-India-based finance will be necessary whatever elite preferences are.

  6. Stephen

    Good to see an article with some facts on this. Received opinion in corporate media tends to emphasize debt to China.

    I guess that much / most of the private debt is $ or maybe Euro denominated? So countries cannot then do what the west does and simply turn on the printing press / carry out open market bond repurchases with created money to deal with it.

    As the world moves towards blocs again I do wonder who has the power here. Can smart countries play one bloc off against the other when it comes to refinancing or threats to repudiate? Maybe not yet but possibly in the future.

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