Many countries in the Global South are trapped in a debt-loop, forced to pay increasingly higher interest rates while borrowing large sums to finance their economies. Between 2010 and 2021, developing countries’ public debt rose from 35% to 60% of GDP (UNCTAD, 2023). Currently, of the low-income countries eligible for special IMF support, 10 are in debt distress, 26 face high risk, and 26 are at moderate risk (IMF, 2023). The latest UNCTAD Trade and Development Report identifies so-called “frontier market economies” (FME’s), referring to a group of small yet investable markets that are part of the next generation of Emerging Market Economies, as a particular concern. These low- or lower-middle-income developing countries have accumulated large debt stocks in the period between the financial crisis and the pandemic, while facing substantial repayment obligations in the coming years (UNCTAD, 2023).
Two dimensions of this debt crisis are of particular concern: first, the amount of external public debt (expressed as percentage of GDP), referring to government debt owed to foreign creditors, has increased. Second, a larger chunk of total external debt is owed to private creditors. The latter negatively impact developing countries due to more volatile and expensive borrowing costs compared to concessional finance and more complex debt restructuring processes (UNCTAD 2023). Today, half of developing countries spend more than 1.5% of their GDP and 6.9% of their government revenues on interest payments, while 19 countries are spending more on interest than on education and 45 more on interest than on health (UNCTAD, 2023). For FMEs, the numbers are even worse: 26 out of 37 countries spend more on public external or publicly guaranteed debt than on education or health (reference date 2021, UNCTAD, 2023).
Increasing debt and borrowing costs are a major problem for developing countries. Not only do they reduce a country’s ability to invest in development and climate action, but they also increase the risk of future debt crises. The higher and more expensive the debt, the more difficult for countries to meet their obligations and the greater chance of default. For some countries, this has already become a pressing issue. 19 countries face more than 10% bond spreads (referring to the difference in interest rates at which governments can borrow money) over US Treasuries (which are considered one of the safest assets). 16 of these countries are MICs (which means they are excluded from concessional and low-interest financing provided by institutions such as the World Bank) and 12 are not eligible to participate in the Common Framework (explained in the below; UNCTAD, 2023). These countries are thus stuck between a rock and hard place--barely able to access finance, while their high debt burden remains pressing.
Meanwhile, the climate finance gap (i.e., the amount of money needed to address the effects of climate change sufficiently) for developing countries minus China will rise to 1 trillion if no measures to increase climate funds are taken (Songwe et. al., 2022). Oxfam estimates that the annual shortfall for necessary investments in health, education, social protection and tackling climate change in low- and middle-income countries amounts to almost US$4 trillion (Oxfam, 2023). How are these countries supposed to make the necessary investments in development and climate action while their debt levels and borrowing costs remain so high?