By Rodrigo Olivares-Caminal, Professor of Banking and Finance Law at the Centre for Commercial Law Studies, Queen Mary University of London, and Paola Subacchi, Professor of International Economics, Global Policy Institute, Queen Mary University of London
The financial response to the COVID-19 crisis has driven debt building at an unprecedented speed, which has increased the risk of debt distress and the odds of a new debt crisis cycle. Emerging markets and developing economies are most at risk. When the COVID-19 crisis began in February 2020, it demanded extraordinary policy measures to protect lives and provide support to those who had lost their livelihoods. The public debt vulnerabilities for many countries, especially the poorest ones, were already significant at that time, but the subsequent collapse of many economic activities exacerbated the situation. As of 30 April 2021, 29 countries were at high risk of debt distress, and 7 low-income countries had already succumbed to it. Somalia, for example, is currently in debt distress and needs to secure relief to restore debt sustainability.
Emerging markets and developing economies are most at risk because of their exposure to international capital flows and the fact that portions of their debt are issued in hard currencies, namely the US dollar. This leaves them vulnerable to changes in US monetary policy, and so to sudden outflows when risk aversion and international financial volatility are high. Some countries have learned lessons from previous debt crisis cycles – as is evident, for example, in the development of local-currency securities markets which mitigate the risk of foreign-currency borrowing – but such resilience is patchy and far from being systemic.Continue reading