Journal of Financial Economics

REF 141 Debt in Emerging and Developing Countries

Following the Covid crisis, debt was mobilized on a large scale and rapidly, in the developed countries, the situation is more complicated for the emerging countries, and a fortiori the developing countries, because of the low level of local revenue mobilization in these countries, as well as limited access to financial markets, or else at high rates. The crisis is undermining the traditional public debt management instruments in emerging countries, and the analysis proposes the use of other contractual instruments to finance this debt.

In view of the magnitude in emerging countries financing needs, more private flows are needed because the response of multilateral organizations and official bilateral donors alone will not be sufficient. It is also necessary to ensure that the debt sustainability of these countries is not jeopardized and that, in the event of restructuring, it is shared equitably among all creditors. It is this balance that must guide all stakeholders in order to build a more secure financial system. And one that will ultimately enable these countries to be more resilient to natural disasters.

Firms in East Asia and Latin America expanded their borrowing activity by increasing bond issuances during 2010-2019. A higher demand of corporate bonds by institutional investors played a key role in this development. East Asian firms mainly borrowed from domestic investors issuing local currency denominated bonds. Latin American firms mainly borrowed from foreign investors issuing foreign currency denominated bonds. As bond financing expanded, borrowing firms increased their leverage positions and worsened their financial performance. Higher borrowing has exposed firms to different risks heightened by the pandemic crisis. Risks in East Asia have been more related to higher amounts of borrowing than in Latin America and to the participation of smaller firms, which tend to have fewer financing options and issue debt at shorter maturities. Latin American firms have been more exposed to external factors and currency depreciations because they have relied more heavily on foreign financing in foreign currency.

Since 2008, the debt of rich countries has had low or even negative yields and their economic growth has been weak. In contrast, emerging market debt yields have remained positive or even high. Moreover, these countries appear to be less risky, with higher growth and positive foreign exchange reserves. This article places the context of emerging market debt in the macroeconomic context and tries to understand what the consequences of the Covid crisis will be, as the IMF expects emerging market countries to grow more than developed countries.

Since 2008, China has experienced an unprecedented phase of private debt expansion. Faced with incurring risks, the authorities have implemented reforms aimed at raising the financial sector's soundness. They maintained this strategy despite the economic slowdown. It began to bear fruit, with stabilization of debt levels since 2017. However, the Covid-19 crisis brings unprecedented challenges. The Chinese authorities deployed support measures that were limited in scope, to avoid falling back into a debt spiral. However, the increase in debt levels and the shock to economic growth poses new risks to the financial sector, in particular to banks. Authorities should remain present to avoid a banking crisis in the medium term, but the issue of managing non-performing loans will remain crucial. The resilience of the Chinese economy and the growth rebound alleviate risks. Yet, the structural weaknesses of the financial system will remain a crucial issue for China.

This paper presents the challenges of China as a major creditor, its role in the international creditor community, and the challenges of the recent wave of debt restructuring. The share of Chinese loans and trade credits in terms of world GDP has increased since 2000. This expansion involves multiple actors and tools. Although the volume of loans is limited with respect to the Chinese GDP, China has become a key player in the creditor community, especially at a time when recipient countries face growing economic difficulties as well as liquidity and insolvency risks. Calls for restructuring have increased these last few years and Chine evaluates theses requests on a case by case basis according to loan terms, recipient country and project.

Borrowing, both public and private, has increased significantly in emerging markets (EMs) in recent years. These developments have given new impetus to the debate about the potential detrimental effects of indebtedness in developing countries, which range from sluggish growth and financial instability to alleged political subversion. Yet, many emerging economies have grown at extraordinary rates in the past decades, sometimes on the back of debt-driven investment. What to make of these seemingly contradictory statements? Is debt for growth a viable strategy? The common theme of the wide-ranging possible drawbacks of indebtedness is dependence. Debt can increase a country's dependence on both monetary and other economic policies of other countries, as well as on political and regulatory developments in those countries, and sometimes even on the good faith of private creditors in other jurisdictions. This article discusses how this dependence can either be exacerbated or mitigated depending on the nature of the debt. Because of the costliness of financial crises, it focuses in particular on financial stability risks, offering some lessons from the LDC debt crisis and the East Asian crisis that can help provide an idea of how the current situation may develop if monetary policy in advanced economies begins returning to more “normal” conditions. A number of possible measures (besides domestic policy in emerging economies) to avoid the severity of future crises are also discussed.

We present here the evolution of foreign currency bond issuance in emerging market economies after the global financial crisis, with an emphasis on regional disparities. Between 2011 and 2019, emerging market economies have significantly reduced their dependence on foreign currency financing and have turned to local currency borrowing in domestic and international debt markets. Although local currency-denominated debt eliminates currency mismatches for the borrowers, a negative feedback loop between exchange rates and yields of local currency bonds could impair the exposures of foreign investors and lead to massive capital reversal. Developing local currency debt markets with a strong domestic investor base could be a long term structural solution for emerging market economies to consider.

The size and composition of Africa's sovereign debt has changed rapidly in the decade following the global financial crisis. Several new borrowing opportunities have emerged, including in global debt markets, where many African countries have issued hard-currency sovereign Eurobonds. This increased access to borrowing from private sources has filled financing gaps and improved opportunities for progress toward the UN's Sustainable Development Goals. However, while the issuance of Eurobonds has had many benefits, it has also presented clear risks for sovereign issuers. In 2020, the consequences of the pandemic crisis have increased the debt burden of most African countries. The crisis has also highlighted the need for urgent measures to mitigate debt risks, preserve market access and ensure the continued sustainability of public debt.

This article focuses on the role of market transparency in supporting the development of domestic bond markets in emerging and developing economies. Market transparency is defined as the availability of information regarding the activity on bond markets. When organising the supervision of markets, authorities need to set appropriate rules for the reporting and disclosure of information to be able to control the activity of market participants. Improving market transparency should also foster price discovery mechanisms, allowing bond prices to integrate all available information. Due to the very particular structure of the bond market compared to equity markets, it is nevertheless not always the case that transparency supports market development. Starting with an analysis of the microstructure of bond markets, we explore the measures helping to improve market transparency and assess their benefits and limitations to support domestic bond markets development in emerging and developing economies.

The first official trip to Africa of the new Managing Director of the IMF, Kristalina Georgieva, took place in Dakar on December 2, 2019, to participate in an international conference organized by the Republic of Senegal and the Cercle des économistes, in partnership with the IMF, the World Bank and the United Nations. Entitled “Sustainable Development and Sustainable Debt: Striking the Right Balance”, this meeting was exceptional with the participation of six Heads of State (representing Senegal, Togo, Burkina Faso, Niger, Côte d'Ivoire and Benin) and the Prime Minister of Mali who engaged in an open and symmetrical dialogue with the leaders of international organizations and the many experts and academics who attended.

In Argentina of Mauricio Macri arrival at the end of 2015 raised high expectations from the international community. His program included wide-ranging structural reforms aimed at boosting the economy by reducing state intervention and reopening the country. Nevertheless, three years later the country faced a crisis of confidence and the inability to finance its twin deficits (public and current account), and was therefore forced to negotiate the largest program in the IMF's history. The following year, the Peronist party returned to power in the midst of a deep economic recession. The country had to restructure its external debt, which had risen sharply during the four Macri years. This article analyzes the Argentina economy during this period and tries to identify the reasons that led to the failure of the government's economic program, putting it in perspective with recent history. As in the past, the roots of the crisis lay in the gradual rise of macroeconomic imbalances, particularly marked by the fiscal and current account deficits. The failure of the inflation-targeting regime that was at the heart of the program reflects the need to carry out institutional reform and promote central bank independence.

The moratorium of April 2020 on debt service for poor countries (the Debt Service Standstill Initiative) has led to a certain resurgence of debates on debt relief initiatives for poor countries. However, and despite a multiplication of studies on the subject, their effects on the development of beneficiary countries are still relatively unclear, because of a lack of exposure but also and above all due to a lack of consensus. This article aims to describe the functioning of these initiatives, their objectives, and draws up an assessment of their impacts, twenty years after their implementation. While the effects on growth remain mixed for the time being, the literature has highlighted some positive effects of these debt relief programs on the public finances of recipient states and on certain human development indicators. The picture is therefore rather encouraging, but conceals some imperfections that will need to be corrected in the event of further debt cancellation.

With the Covid-19 pandemic, public debts will reach unprecedented levels around the world, and many countries are already struggling to meet their obligations. The future of our societies will depend on the ability of governments to support such levels of debt, or, if need be, to devise appropriate strategies to reduce them. Governments are unequal in terms of debt, with some of them perfectly able to support a debt weighing almost twice the GDP when others are forced into default with significantly lower debt ratios. The actions of central banks play a very large role in explaining this phenomenon. To measure the risks of a debt crisis, other indicators are therefore more relevant than a simple measure of the stock compared to GDP. The ability to refinance debt and the weight of the interest burden on the budget are key indicators. When debt restructuring becomes inevitable, developing countries face a new landscape in which traditional players - like the Club de Paris - no longer play the leading role. It is therefore necessary to reflect on initiatives to recreate an effective international framework promoting orderly restructuring processes.

The liquidity crisis related to the Covid-19 pandemic could turn into a solvency crisis, requiring some countries to restructure their public debt. We indicate here that the change in the public debt landscape in low-income countries characterized by, on the one hand, the emergence of new (official non-Club de Paris or private) creditors and, on the other hand, the diversification of financing instruments, has strengthened the need for coordination. Then we recall the role of the Club de Paris as the principal international forum for restructuring official bilateral debt and its main principles. Finally, we present the joint action of the G20 and the Club de Paris. First, in response to the liquidity crisis, the debt suspension initiative (DSSI) represents an example of an effective coordination between Club de Paris creditors and other G20 creditors. Second, the Common Framework adopted on November 13, 2020, inspired by Club de Paris principles, should allow for coordination among the main official bilateral creditors for future restructuring when debt is unsustainable.

There are false leads, and others to consider, but no obvious or easy solution.

Among the false leads defended by certain economists is the idea that the debt is sustainable, no matter the amount, for a very extended period of time. Or, by some others, cancelling it. Two opposite solutions. Tax increases as well as a mandatory government bond issue are also two non-solutions that would have adverse effects notably on both supply and demand.

Regarding the possible paths for exiting the debt trap through equity, firstly with respect to private debt, measures favouring capital increases by companies are necessary.

For the public debt, the central banks will have to be able to continue to roll over the Covid debt for a sufficiently long period.

Last but not least, while maintaining policies to support demand until the return of normalised growth, the growth potential must be increased, through the implementation of structural policies, starting with the pension and unemployment reforms. Stronger nominal growth will gradually lead to a reduction in the government debt ratio, through both its numerator and denominator.

This article considers the various 100 % Reserve plans that have appeared since the interwar period and have been adapted in the following period. In all formulations of those schemes, Government liabilities (cash, central bank reserves and short-term Treasuries) back banks' sight deposits. The article briefly presents the six categories of plans. It highlights their common features as well as their differences, showing that the differences are more numerous than the common features. The criticisms voiced against the different formulations of 100 % Reserves are exposed. In spite of these criticisms, the article shown that the 100 % Reserve reform is becoming topical, with recent private sector, central banks and political initiatives that relate to it. Overall, the 100 % Reserve reform does not appear as a meaningful opportunity to improve the functioning of banking systems. Furthermore, at least, one of its variants could easily turn into a calamity. Fortunately, it is not that variant that is getting more topical.