Distressed Debt and Climate Vulnerability: Time for Green Reforms for LICs

Time for Greta to expand climate activism to include low income country (LIC) debt and servicing, as both sides of existential catastrophe coin.

With? the Spring meeting of the IMF and World about to take place this week, ‘..US Treasury Secretary Janet Yellen…expects member states will agree to update the World Bank's mission statement to include "building resilience against climate change, pandemics, and conflict and fragility," to its core goals.’ (1) https://news.yahoo.com/world-bank-imf-spring-meetings-053539385.html?fr=sycsrp_catchall ?

The New York Times’ headline in 2021, How Debt and Climate Change Pose ‘Systemic Risk’ to World Economy - The New York Times , says it all, but how much have we progressed on meaningful action and execution plans since? More meetings for sure, from COPs, What is COP? | NOAA Climate.gov ,? to WEFs, The World Economic Forum , and many less known gatherings, and all the emissions generated.??

For many low income countries, IMF and Low-Income Countries , and, now, with the topping up of distressed debt and climate vulnerability, presents a perfect storm of drowning (at low sea levels and floods (Pakistan)), drought (Africa Inc), distress (resources allocated towards debt servicing over greater anti-poverty programs), and the slow burn decay of these countries.

The fight (or is it plight) against climate change in emerging, but? more so in frontier, countries, which suffer disproportionately whilst their contribution on emissions is de-minimis, CO2 emissions - Our World in Data , can only take place if the sovereign debt, Addressing the looming sovereign debt crisis in the developing world: It is time to consider a ‘Brady’ plan , is reduced (to manageable amounts) or eliminated for scale impact.??

This is a short note on an unconventional approach on these ‘twins’ of LIC distressed debt and climate vulnerability. As I am neither an economist nor have worked for international lending agencies, but conversations with colleagues, travel to many emerging markets in the last 25 years, and some research.?

I hope you will all feel the urgency that I do in moving the debt/climate needle for LICs.?

Debt-for-Nature Swaps

From conservation (country level) to active engagement (swaps) to ‘Clim-fin’ (one aspect of climate finance) of carbon offsets to benefits (private creditors and country).?

World’s first (?) debt for nature swap in 1987,’...[Washington based] Conservation International was able to purchase the nation's outstanding loans from the original lender at about 15 cents on the dollar…"This 'debt for nature' swap signifies a major breakthrough, not only as a means to reduce Bolivia's debt burden, but also as an effective way to protect the natural resources upon which our country's long-term economic health depends…The swap will make only a tiny dent in Bolivia's $4 billion national debt, but "every little bit help…," Bolivian Ambassador Fernando Illanes.’ , A DEBT SWAP OF A DIFFERENT NATURE FOR BOLIVIA - The Washington Post ?

World Bank (1990) Research Paper, Debt -for-Nature Swap, Debt-for-Nature Swaps , provides the early pioneering thinking on consequences and works its way backward to the problem of sovereign debt.

‘The 1977 US Clean Air Act created one of the first tradable emission offset mechanisms. This allowed a permitted facility to increase its emissions if it paid another company to reduce, by a greater amount, its emissions of the same pollutant at one or more of its facilities...’ Carbon offset - Wikipedia .?

“From Boston University Global Development Policy Center, the Heinrich B?ll Foundation and the Centre for Sustainable Finance at SOAS, University of London lays out an ambitious proposal for concerted and comprehensive debt relief on a global scale to free up resources in heavily indebted developing countries to support sustainable recoveries, boost economic resilience and foster a just transition to a low-carbon economy….Neither low- nor middle-income countries can afford a debt overhang during the most daunting crisis of generations. They should also not be hamstrung in responding to the unfolding climate crisis during the most important decade for resource mobilization…The world cannot afford to do too little too late while facing a planetary emergency.” Debt Relief for a Green & Inclusive Recovery: Securing Private Sector Participation and Policy Space for Sustainable Development ?

Brookings Institute on ‘debt-for-adaptation swaps’ is an innovative approach that focuses on the important? financial benefits of climate finance (over climate aid). ‘...recipient countries who have debt forgiven should direct those funds towards climate adaptation activities, with a focus on building resilience against sea level rise, flooding, droughts, and extreme heat. This would be a uniquely powerful tool to enable emerging and developing economies to climate-proof both their economies and public finances…Existing approaches for climate adaptation financing have not worked, as evidenced by the monumental financing gap noted above. The debt-for-adaptation approach effectively works around the lack of private sector attractiveness for adaptation financing and limited public grant-based climate aid by unleashing money that already exists..’ ?Debt-for-adaptation swaps: A financial tool to help climate vulnerable nations ?

A challenge is finding mutual incentives for such swaps, especially if excessively complex, for debt distressed/climate vulnerable low income countries and their private sector creditors. The below graph shows the variety of creditors, and each have their own agendas on debt rescheduling, restructuring, and other ‘REs,’ hence, negotiations and conversation are always on-going, then add a mix volatile politics, US and China.?

The below climate vulnerability graph shows the distressed debt (sustained) headwinds, and restructuring (haircuts) to rescheduling (extending maturity) has not had scale impact…some of these countries are part of China’s (debt induced) ‘one-belt-one road’ project, One Belt, One Road, and a Lot of Debt - WSJ .?

Source: Debt-for-adaptation swaps: A financial tool to help climate vulnerable nations ?

‘Since 2017, China has become the world’s largest official creditor, surpassing the World Bank, IMF and 22-member Paris Club combined, Brent Neiman, a counselor to Yellen…. China’s financing of projects in other countries between 2000 and 2017 totaled more than $800 billion, most of that in the form of loans…“I’m very, very concerned about some of the activities that China engages in globally, investing in countries in ways that leave them trapped in debt and don’t promote economic development,” Yellen told U.S. lawmakers.... “We are working very hard to counter that influence in all of the international institutions that we participate in.” The ‘rift is there’: China vs. the world on global debt - POLITICO ?

The debt crisis situation will worsen with consequences of emigration, refugees, food storages and rising energy prices, violence, political instability, etc. Through the chain of events, this will have a blowback impact on developed countries, multilateral and bi-lateral creditors. Game theory would suggest better to write-off, reduce, swap, etc., present debt, then top-up on additional debt.?Factbox: The developing countries facing a debt crisis | Reuters ,?

Benefits (Carrot) Approach on Climate-for-Debt?

As the focus is on the low/middle income countries encountering stiff and sustained head winds of distressed debt and climate vulnerability, The 53 fragile emerging economies | The Economist , and their private sector creditors, from banks to private equity to hedge funds and so on. Thus, it's in the best interest of the borrower/creditor to address debt overhang with a faster tracked solution, so let's look at some high-level overview benefits (carrot) sought by each in the ‘climate for debt’ relief scenario.

Country Level

1? Will a reduction in debt, as elimination may be more complicated/prolonged, result in higher credit rating from the rating agencies? Boost for the issued sovereign bond? Possible contagion impact on local corporate bonds?

2 If there is a stock exchange/domestic bond market, a reduction in debt removes a layer of uncertainty, hence, providing an incentive for emerging market investors for serious consideration in the country?

3 Government revenue/reserves (local currency) where a large amount, 30-70%, has been allocated towards servicing debt, Debt-Service Payments Put Biggest Squeeze on Poor Countries Since 2000 , can now be deployed towards anti-poverty measures, healthcare, education, social safety nets, etc.? A boost for the incumbent administration?

4 The swaps could be a PR spin, where the areas, be it land or sea areas, deemed at ‘debt freed tourism,’ for places like Egypt.?

5 Opportunity to attract climate tech stakeholder, VCs to Startups to UNDP Accelerator Labs, Accelerator Labs | United Nations Development Programme .

6. As the former Bolivian Minister stated, above, ‘every little bit helps!’

Private Sector Creditors

1 Preferred position in the country's privatization of state owned enterprises (amount aligned to debt holding returns), infrastructure projects (renewable energy, which are typically quantifiable on returns), issuance of sustainable/green bonds, etc. For the likes of banks, such an undertaking may be the ‘entry wedge’ for doing (more) business in the country, appeasing their shareholders plus showcasing their ‘global citizen’ credentials.?

2 The amount owed is converted to a carbon-offset for the creditor entity…this area requires more air-play, as carbon-offsets are globally trending as an interim solution to net-zero emissions. Platforms like Nash fintechX provide carbon offset marketplace CNet0 , ‘Enabling offsetting of your carbon emissions and storing the carbon offset certificates as NFTs..’ More information is available on Crunchbase? Nash fintechX - Crunchbase Company Profile & Funding ? [Full Disclosure, I am a mentor at NashfintechX].

3 Tax benefits in the home country of the creditor.

There are whole host of details to be worked out, but a key issue will be governance and transparency for the creditor and country, hence, process should utilize blockchain, Blockchain Facts: What Is It, How It Works, and How It Can Be Used , for tracking and tracing to preempt mismanagement and corruption.?

As the suggestion takes an inclusive approach of all creditors (invited), it would hopefully prevent allegations of savings (from one participating creditor) deployed to pay another (non-participating) creditor.? Maybe the ‘shame’ in not participating is strong enough to overcome foot-dragging or non-cooperation.

Conclusion

Low/middle income countries unsustainable sovereign debt and climate crisis have one important element in common, a sense of urgency. An on-going debt overhang and continued COPs, without action, is creating a systemic risk for the failure of SDGs and Paris Agreement, who wants the 'failure credit’: China, US, Multilateral lending agencies, and/or private sector creditors.

For Greta, this is green economy reform in practice…