Debt and Development in Small Island Developing States

D. King, D. Tennant, D. King, D. Tennant

• Publisher: Palgrave Macmillan
• Year: 2014
• ISBN:
  9781137392787
• Topic: Economics
• Subtopic: Public Finance
• Index: Economics

Debt and Development in Small Island Developing States draws on the expertise of established researchers and public officials from within the SIDS community to answer the following pressing questions related to sustainability, debt accumulation, and prospects for future growth.

Chapter 1

Debt and Development in SIDS: An Urgent Call for Action

David F. Tennant

The years 2008 to 2011 have marked a period of unprecedented global instability, recession, and crisis. Poverty and deprivation in developing countries have been exacerbated because of the increases in food and fuel prices. Also, because of the financial crisis–induced recession in the developed world, reduced demand for developing country exports, reduced private financial flows, and falling remittances have all adversely affected livelihoods in poor countries.¹ This has all been occurring while greenhouse gas emissions continue to increase, causing further rises in temperatures and sea levels.²

The prescribed medicine has often been bitter, even if necessary. Reductions in government subsidies and expenditures, particularly with regard to basic services, have disproportionately affected the poor and vulnerable.³ Even the prospects of economic recovery are viewed as harbingers of worsened conditions for some, as recovery in global economic growth is likely to be accompanied by a resumption of food-price inflation, as well as further increases in emissions in the absence of determined action to shift to low-carbon economic models.⁴

To protect the world’s poor and vulnerable from the continuing impacts of the Triple F crises (food–fuel–financial) and impending effects of a likely climate change crisis, developing countries need resources. Herein lies the often unacknowledged Fifth Crisis facing many poor countries—the burden of increasingly unsustainable debt, the servicing of which precludes growth-inducing and poverty-reducing government expenditures. The recent Triple F crises have significantly impacted public debt levels and trends.⁵ Between 2007 and 2009, average debt levels increased by about 20 percent (in real terms) in countries that did not experience systemic financial crises and by about 75 percent in countries that did.⁶ For countries with already high debt burdens, these increases were unsustainable and constituted a debt crisis.

This book examines the trend of high and rising debt levels in many Small Island Developing States (SIDS). It draws on the expertise of established researchers and public officials from SIDS to present a cohesive body of research examining the nature, accumulation, sources, causes, and impact of debt in SIDS. By so doing, it highlights the essential elements of an agenda for achieving debt sustainability in SIDS.

This introductory chapter contextualizes the analysis by providing answers to four key questions, which will justify the importance of this book. These are:

• Why Debt?

• Why SIDS?

• Why Now? and

• To What End?

Why Debt?

The 2015 deadline for the Millennium Development Goals (MDGs) is fast approaching and in some areas progress has been stubbornly limited. As an example, it is projected that poverty reduction efforts will not be sufficient to meet the MDG targets in Sub-Saharan Africa, Western Asia, and the Oceania Region. Northern Africa, Sub-Saharan Africa, South-Eastern Asia, Western Asia, the Oceania Region, Latin America, and the Caribbean all struggle to provide productive and decent employment for its citizens. Progress in promoting gender equality in employment and political representation remains limited across most regions, as has progress in improving access to reproductive health.⁷

By contrast, the United Nations (UN) reports significant progress on its eighth goal—developing a global partnership for development—with much success being noted in the efforts to deal comprehensively with developing countries’ debt. In this regard, the UN (2013) notes that “debt service ratios are one-quarter less from their 2000 level, lessening the financial burden on developing countries. Better debt management, the expansion of trade and, for the poorest countries, substantial debt relief have reduced the burden of debt service” (1).

If the UN’s assessment is correct, then the obvious question must be asked—why does this book focus on debt when there are so many other more pressing issues to be addressed? This is a good question, which necessitates a closer interrogation of the data.

First, note that although there has been progress in improving debt service ratios in numerous countries, the ratios in a number of countries remain high and unsustainable. Figure 1.1 shows that in 2012, 22 countries had debt service ratios of above 15 percent, the conservative guideline for what is sustainable. All 22 are developing countries, with 14 being classified as upper middle income, 7 as lower middle income, and 1 as low income (see figure 1.2). This income classification indicates that all but one of these countries have no chance of debt relief under the Heavily Indebted Poor Countries (HIPC) initiative.

The debt service ratio measures principal and interest repayments on external debt scaled to the country’s exports of goods and services. Solely using this ratio to measure progress in dealing with developing countries’ debt can be misleading. This is because numerous studies have shown that there has been a trend of high and increasing reliance on domestic debt in many countries, which is not captured by the debt service ratios.⁸ Reinhart and Rogoff (2008) have noted that “for most countries . . . , domestic debt has been large and highly significant” (9).⁹ This recognition is important, as it provides an explanation for why many countries default on (or restructure) their debt even when the debt service ratio is seemingly low. When domestic debt obligations are accounted for, severe fiscal duress is often revealed. High debt burdens are thus likely to be much more pervasive than suggested by the UN MDG Progress Report.

Figure 1.1 Debt service ratios by number of countries (2012)

Figure 1.2 Countries with debt service ratios above 15 percent, by income (2012)

In addition to this, the changing composition of debt in many countries has introduced varied types of risk, which, if not properly managed, can have adverse impacts. High shares of domestic debt can lead to crowding-out in private sector lending, precipitate weakening bank efficiency, and cause inflationary risks; while high shares of external debt expose the country to the risks of adverse movements in the exchange rate. Borrowing from bilateral or multilateral donors generally affords borrowers the most concessional terms, but loans are generally earmarked for projects or specific programs identified as part of a country strategy. By contrast, although sovereign borrowers have full discretion in the use of the funding obtained on international capital markets, borrowing on commercial terms is typically more costly. High shares of floating rate debt, and short-term debt expose the debt portfolio to the risk of adverse movements in interest rates or market conditions, which contribute to higher borrowing costs and an increased fiscal burden.

This then leads us to the crux of the matter—why focus on debt? Because the fiscal burden of debt in many countries remains high, and severely limits the fiscal space that remains to fund public investments and provide the social goods necessary to promote economic growth and development. The post-2015 development goals will continue to be unachievable for many developing countries because of the persistently high levels of debt, and, in some instances, the increased cost of such debt.

Chapter 2 of this book provides an overview of the debt–development dilemma by reviewing the theoretical and empirical literature on debt’s impact on growth and development. It concludes that low to moderate levels of debt can be beneficial to development if it is properly used, but high levels of debt tend to be deleterious to targeted developmental outcomes. The chapter identifies numerous channels through which debt impacts economic growth and development, and highlights complex relationships, wherein the channels that caused the accumulation of debt often were the same ones through which adverse effects were felt when debt thresholds were crossed.

Why SIDS?

Having justified our focus on the issue of debt, readers are probably wondering why the narrow focus on SIDS. Although the 65th Session of the General Assembly of the UN noted that there is no accepted definition of a SIDS, it did highlight a number of widely accepted characteristics of the 38 UN member states that form part of this grouping.

Small Island Developing States share very high levels of intrinsic vulnerabilities, especially to external shocks. The high levels of vulnerability of the natural, economic, and social systems of Small Island Developing States arise from the following characteristics: Small size; Remoteness; Vulnerability to external (demand and supply-side) shocks; Narrow resource base; and Exposure to global environmental challenges.¹⁰

We focus on SIDS in this book because they are among the most highly indebted countries in the world. When the public debt to gross domestic product (GDP) ratios of middle-income countries are compared as at the end of 2012, 12 of the 20 most indebted countries are SIDS. Of the five middle-income countries classified as having very high debt (with a debt to GDP ratio of above 90 percent), four were SIDS, with three of the four having debt to GDP ratios greater than 100 percent.

SIDS have on average, higher incomes than the landlocked developing countries.¹¹ This has important implications for debt, as only a very few SIDS have qualified for debt relief under the HIPC initiative. At the same time, however, the UN has acknowledged that:

The recent development progress made by Small Island Developing States might be jeopardized by major ongoing shocks. Their vulnerability has increased due to climate change and was most recently demonstrated by the global financial crisis of 2007–2010, the food and fuel crises of 2007–2008 and the large-scale natural disasters, which occurred in 2009–2010. For ...

Table of contents

• Cover
• Title
• Chapter 1 Debt and Development in SIDS: An Urgent Call for Action
• Chapter 2 The Debt-Development Dilemma: Challenges, Channels, and Complexities
• Chapter 3 The Debt Experience of SIDS in the Caribbean
• Chapter 4 The Debt Experience of SIDS in the Pacific
• Chapter 5 The Debt Experience of SIDS in the Atlantic, Indian Ocean, Mediterranean, and South China Sea
• Chapter 6 Prospects for the Growth of Debt in Selected SIDS
• Chapter 7 Causes of Debt Accumulation in SIDS
• Chapter 8 Institutional Underpinnings of Debt in SIDS
• Chapter 9 Does Debt Restructuring Work? An Assessment of Remedial Action in SIDS
• Chapter 10 Debt Sustainability and Sustainable Development in SIDS
• Chapter 11 An Agenda for Debt Sustainability in SIDS
• Chapter 12 Debt and Development in SIDS: Issues, Institutions, and Insights
• List of Contributors
• Index