The global sovereign debt crisis

Good morning from New Economy Brief.

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Since the COVID-19 pandemic, much of the global South has been immersed in a debt crisis like nothing seen since the 1990s.

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This week we discuss how this crisis happened, the gaps in international frameworks for debt relief, the role of private finance in trapping countries in debt, and a unique opportunity for a UK law to help them escape the debt trap. 

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Why are countries in debt crisis? 

54 nations spend so much on debt payments that they can’t meet development goals, according to Debt Justice. While the crisis has many long-term causes, two important factors are the changing ownership of sovereign debt and the rising cost of borrowing.  

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The rise of private lenders. Following the 2008 financial crash, interest rates fell in the West and lenders increasingly targeted lower-income countries where they could charge much higher interest. Typical rates from private lenders to lower-income countries between 2008 and 2021 were 5-11% – western governments could borrow at 0-2%. Faced with huge development needs and with rich countries failing to honour aid and climate commitments, many governments had to take expensive loans from international capital markets. The share of developing country debt held by private creditors rocketed from 46% in 2010 to 61% in 2021.

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The increased cost of borrowing. Although much sovereign debt is at fixed interest rates, the cost of borrowing has increased in recent years, so new loans are much costlier. This is particularly bad for countries with worse credit ratings – many already spend more on debt repayments than on education, health and responding to the climate crisis. Debt payments by lower-income governments are now at their highest in 25 years, and those with weaker credit ratings face must pay nine times more to borrow than higher-rated ones.

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Structural causes of the debt trap. 

But the roots of the crisis go back much further. Debtor nations like Ghana are stuck in a cycle of indebtedness and dependence on international creditors. This stems from the economic subordination of African economies since colonial times, which stifles development beyond reliance on commodity exports. 

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‘Structural adjustment’ and debt conditionality in Ghana. For example, In 2023, Ghana's government entered another IMF debt-restructuring programme, its 17th since independence in 1957. Isaac Abotebuno Akolgo explains that these have disrupted Ghana's economic transformation, promoted financial liberalisation and deindustrialisation, and destroyed whatever developmental state capabilities and expertise had existed. Conditions attached to debt make it harder for countries to break out of inherited dependency, and increase fiscal sustainability and self-sufficiency.

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Global tax and trade rules are rigged. Developing countries suffer from high tax avoidance and evasion due to a weak international regime and a network of tax havens (the UK is one off this system’s worst enablers). Tax Justice Network estimated that lower-income countries lost $47 billion to tax havens last year – around half their average public health budget. According to War on Want, trade rules are also rigged to help richer nations extract more labour and resources from the Global South. All this hinders developing states from raising enough taxes to service debt. 

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The ‘common framework’ isn’t working. 

In 2020 the G20 created a ‘Common Framework’ to provide a way for struggling countries to seek debt relief. This has largely been a failure because many nations with unsustainable debt are not eligible, and countries that do qualify must agree to an IMF programme with austerity conditions attached. Andrew Fischer and Servaas Storm explain that the “continued adherence to neoliberal ideology” ensures “the punitive subordination of developing countries in debt distress, through crisis responses, to the… US-centred international financial system”. This risks repeating the mistakes of the 1982 debt crisis and the “lost decades to development that followed”.

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Making private lenders give debt relief. The ‘common framework’ also lacks any mechanism to ensure private lenders take part in debt relief. Private creditors are therefore less likely to agree to lower debt costs than public lenders, allowing bond investors to make huge gains from developing countries. Economist Joseph Stiglitz and the former Argentine and Colombian finance ministers explain that “countries are squeezed so hard for payment that they do not restore debt sustainability, see no economic recovery, and default again after a few years.” They want a new law to incentivise private creditors to cooperate and deter litigation against debt relief requests – something now being considered by New York legislators. 

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London’s unique role. The UK is in a rare position to address the crisis, because 90% of lower-income country debts to private lenders are overseen by UK law. Debt Justice proposes a law to force creditors to cancel unfair debt and agree to be treated like government creditors. Legal changes have international support from figures like IMF head Kristalina Georgieva, and could lower borrowing costs for debtor countries since a more equitable and predictable framework makes debts likelier to be repaid. They could also help unblock debt relief negotiations with China, which has become a very significant lender in recent years but needs reassurance that Western private creditors will take part in debt relief. (See Debt Justice’s campaign for more.)

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Time for a new debt cancellation campaign. 

In the 1990s and early 2000s, millions around the world demanded action on debt. This led to $130 billion of debt being cancelled by multilateral and government lenders for 37 countries. The UK then enacted the Debt Relief (Developing Countries) Act 2010 to ensure private lenders also gave debt relief, on the same terms as official lenders. 

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Preventing future crises. However, because governments of the 1990s resisted addressing the other causes of debt dependency, the problem was never truly solved. Unless we also  reform institutions like the IMF and World Bank, global tax and trade rules, commodity dependence and other drivers of injustice, many countries may never escape the debt trap.