Published on Voices

When the debt crises hit, don’t simply blame the pandemic

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Every debt crisis begins with unheeded warnings and ends with severe limits on investment in education, health, and infrastructure among other things. These crises often spark civil unrest and government collapse, delivering a lasting setback to the growth prospects of the affected country. 

In the wake of the COVID-19 pandemic, global debt has surged. Today, 58 percent of the world’s poorest countries are in debt distress or at high risk of it , and the danger is spreading to some middle-income countries as well. High inflation, rising interest rates, and slowing growth have set the stage for financial crises of the type that engulfed a series of developing economies in the early 1980s. 

But it would be a mistake to pin the blame on the pandemic should those crises arrive. The seeds were sown long before COVID-19. Between 2011 and 2019, public debt in a sample of 65 developing countries increased by 18 percent of GDP on average--and by much more in several cases. In sub-Saharan Africa, for example, debt increased by 27 percent of GDP on average.

What drove the pre-COVID debt accumulation? Let’s be clear: it wasn’t economic surprises that were beyond the government’s ability to foresee. It was simply bad policy.  

Our analysis of debt sustainability in 65 developing economies suggests that sustained primary deficits were the single-largest driver of public debt in those countries. Countries were simply spending beyond their means. Between 2011 and 2019, the median public-debt increase attributable to primary deficits amounted to a whopping 14 percent of GDP. In sub-Saharan Africa, it was 18 percent.  Yet, in South Asia, it was just slightly over 5 percent.  

In Africa, in particular, the evidence is that governments ran up primary deficits not to make productive long-term investments but simply to pay current bills. They took on far more debt to pay the wages of public sector workers than they did to build roads, schools, and factories. Among the 33 sub-Saharan countries in our sample, current spending outstripped capital investment by a ratio of nearly three to one.  

That did nothing to strengthen their ability to repay the debt. Nor did these countries opt to borrow inexpensively—from multilateral lenders offering concessional financing rates. In 2010, multilateral lenders accounted for 56 percent of the public and publicly guaranteed debt of sub-Saharan countries; by 2019, that share was just 45 percent. In 2010, loans from Paris Club creditors accounted for 18 percent of the debt; by 2019, the share was just 8 percent. On the other hand, borrowing from China and commercial creditors nearly tripled over the same time: from 6 percent to 16 percent, and from 8 percent to 24 percent, respectively.   

So long as real economic growth remained strong, the risks were masked. Growth curbs the accumulation of public debt: according to our data, from 2011 through 2019, economic growth—adjusted for inflation—reduced public debt by the equivalent of about 12 percent of GDP.  Today, however, the dynamics are in the opposite direction: developing economies are expected to grow just 3.4 percent in 2022, barely half the rate in 2021. And as interest rates surge to tackle inflation, growth is likely to remain weak for the next couple of years. 

It’s time for policymakers to adopt the first law of holes: when you’re in one, stop digging. Adopting good policies now can still repair a lot of the damage: 

Ramp up growth. The best way to escape a debt trap is to grow out of it. Measures to improve business conditions, better allocation of resources, and healthy market competition are essential policy actions to boost productivity growth.  Governments should take advantage of this crisis to move faster on key structural reforms. 

Accelerate fiscal policy reforms. Improving tax administration efficiency and closing loopholes are a good start, but governments should move to broaden tax bases in ways that support rather than impede long-term growth. That can be accomplished by focusing on activities that are harmful to sustainable growth and public health—taxes on tobacco consumption and carbon emissions, for example—while reducing taxes on productive activities. Tax compliance can be improved by making tax systems more equitable. The debt overhang can be dismantled if governments improve debt-management procedures and public spending while strengthening the legal environment for debt contracting.  

Speed up debt restructuring. Many of the countries in trouble today are set to fail if they cannot get help. The international community must help them by improving global initiatives that facilitate debt restructuring.   Policymakers should explore every opportunity to encourage different types of creditors—bilateral, commercial, and multilateral—to come quickly to an agreement that provides relief to overindebted countries. 

Crises also bring opportunities. Amid the overlapping crises we are seeing today, governments have an opening to plant the seeds for a more stable and prosperous future. They should not pass up the opportunity.


Marcello Estevão

Senior Advisor, Equitable Growth, Finance and Institutions

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