Pandemic is Prompting Higher Debt Levels in Region’s Countries and Jeopardizing a Sustainable Rebuilding with Equality

In a new special report on COVID-19, ECLAC proposes five policy actions to address the challenges that the financing for development agenda poses in the short, medium and long term.

The coronavirus disease (COVID-19) pandemic has magnified structural gaps in the region’s countries while also increasing their financing needs to confront the emergency, and it has prompted a rise in debt levels that jeopardizes the recovery and countries’ capacity to achieve a sustainable rebuilding with equality, the Economic Commission for Latin America and the Caribbean (ECLAC) indicated today.

During a virtual meeting with the Latin American and Caribbean member countries of ECLAC, the United Nations organization’s Executive Secretary, Alicia Bárcena, presented the institution’s Special Report COVID-19 No. 10, entitled Financing for development in the era of COVID-19 and beyond: Priorities of Latin America and the Caribbean in relation to the financing for development global policy agenda. The report proposes five policy actions to address the challenges that the financing for development agenda poses in the short, medium and long term, while also emphasizing initiatives that may be undertaken to build forward better.

“In all the region’s countries, without exception, the fiscal situation has deteriorated and general government debt levels have increased, and it is expected that this indebtedness will rise from 68.9% to 79.3% of GDP at a regional level between 2019 and 2020, making Latin America and the Caribbean the most indebted region in the developing world and the region with the highest external debt service relative to exports of goods and services (57%),” Alicia Bárcena affirmed during the presentation of the document.

ECLAC’s Executive Secretary added that the public sector’s financing gap is compounded by the need for balance-of-payments support, above all in the region’s smaller economies, due to supply chain interruptions and the decline in exports, particularly service exports (tourism). Between 2019 and 2020, the current account deficit widened from 1.4% to 4.5% of GDP in the case of the Central American Isthmus and from 4.8% to 17.2% of GDP in the case of the Caribbean. In addition, the region will see a significant fall in foreign direct investment (FDI) in the same period, estimated at between roughly 45% and 55%.

The report indicates that the overall financing needs of developing countries amount to $2.5 trillion dollars, which exceeds the lending capacity of the International Monetary Fund (IMF). In the case of our region, the IMF has put at the disposal of 21 Latin American and Caribbean countries the bulk of its COVID-19 emergency lending. As of January 2021, that institution had committed roughly $66.5 billion dollars to Latin America and the Caribbean, representing 63% of its total disbursement ($106 billion dollars) allocated to 85 developing economies.

Available data from Latin American and Caribbean countries shows that the finance provided under the IMF’s Rapid Financing Instrument (RFI) and the Rapid Credit Facility (RCF) covered on average only 32.3% and 23.1%, respectively, of countries’ internal and external financing needs in 2020. This is equivalent to 0.8% and 2.1% of GDP, and to between 6.5% and 8.0% of international reserves, respectively.

Nonetheless, these financial instruments do not benefit all countries equally. Those that have solid economic fundamentals, such as Chile, Colombia and Peru, can access finance with no quota limits. However, that option is not available to most countries, particularly to the Caribbean Small Island Developing States (SIDS).

The report affirms that, in the current context of the pandemic, the financing for development agenda faces two interrelated challenges. In the short run, it must support the expansion of public health expenditures and pay special attention to vulnerable groups, particularly to low-income segments and older persons. In addition, short-term financing for development policies are also required to offset the detrimental effects that containment policies – based on social distancing and self-isolation – have on economic activity, on the productive fabric and structure, and on employment.

This entails sustaining the consumption of individuals and families, which necessitates the adoption of exceptional transitory income-support measures, such as a temporary basic income guaranteed by the State.

In the medium and long term, as policy priorities shift from addressing the urgency to building forward better, the financing for development agenda must support a countercyclical policy stance aimed at increasing employment and sustaining adequate growth. In this context, expanding public capital expenditures and outlays for productive transformation and greening the economy are key to fueling recovery efforts.

The report Priorities of Latin America and the Caribbean in relation to the financing for development global policy agenda proposes five policy actions to address both challenges.

A first policy action consists of the expansion and redistribution of liquidity from developed to developing countries through a massive issuance of the IMF’s Special Drawing Rights (SDRs). A hypothetical new issue and allocation of 500 billion SDRs would amount to $56 billion dollars in additional international reserves for Latin American and Caribbean economies.

The redistribution of liquidity can also be carried out by establishing multilateral funds, such as the Fund to Alleviate COVID-19 Economics (FACE) proposed by the Government of Costa Rica. FACE would be financed with resources from developed economies channeled through multilateral development banks and would comprise $516 billion dollars (3% of the GDP of low- and middle-income countries, or 0.7% of developed countries’ GDP).

A second policy action focuses on strengthening regional cooperation by improving the lending and response capacity of regional, subregional and national financial institutions, and reinforcing their linkages to multilateral development banks. It is also necessary to foster cooperation and coordination between regional, subregional and national development banks. National development banks have been key players in the provision of finance, committing the equivalent of $93 billion dollars in financial support for COVID-19 response.

A third policy action consists of complementing access to increased finance with a drive to reform the international debt architecture, which would include the creation of a multilateral sovereign debt restructuring mechanism and the establishment of a multilateral credit rating agency. The Debt Service Suspension Initiative (DSSI) of the Group of Twenty (G20) must also be widened in scope to include all relevant stakeholders (meaning the private sector and multilateral institutions) and vulnerable middle-income countries, and it must be extended beyond 2021.

A fourth policy action entails providing countries with a set of innovative instruments aimed at improving debt repayment capacity and avoiding debt distress. These innovative instruments link countries’ repayment capacity to their exposure and vulnerability to natural disasters (as in the case of hurricane clauses) or to the ups and downs of the business cycle (such as income-linked bonds or state-contingent bonds).

As a fifth policy action, liquidity and debt reduction measures must be integrated into a financing for development strategy focused on building forward better. The current crisis should be seized not only as an opportunity to rethink the financing for development agenda of middle-income countries, but also as an occasion to reach broad social and political consensus to implement ambitious reforms in order to engage in a sustainable and egalitarian building back process.

Furthermore, recovery efforts must be centered on fostering resilience. The Caribbean Resilience Fund will function to attract large-scale, low-cost finance to address investment in green sectors, debt reduction through debt-for-climate-adaptation swaps, and support for investment in resilience-building projects. Apart from attracting concessional and other sources of financing, the Caribbean Resilience Fund would be financed through a debt reduction representing 12.2% of the Caribbean SIDS’ total public debt, amounting to just $7 billion dollars.

The document underscores that the policy orientation of Latin American and Caribbean countries is also crucial for building forward better.

“Countries can increase their policy space by eradicating tax avoidance and tax evasion, and by placing the weight of taxation on direct taxation, property and wealth taxes. They can also reorient public expenditure towards employment creation and transformative and environmentally sustainable activities. To this end, public expenditure should prioritize public investment, basic income, universal social protection, support for small and medium-sized enterprises (SMEs), digital inclusion and the development of green technologies,” it concludes.

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