As 2024 begins, low-income countries have not requested comprehensive debt relief since Ghana’s over a year ago. However, high debt servicing costs are a growing challenge for these countries, straining budgets and preventing them from spending on essential services or critical investments.
The share of revenues the government collects from its population through taxes and fees goes to pay foreign creditors, which is generally about two and a half times higher than a decade earlier. This raises the risk of a country needing financial support from the IMF or missing a debt payment.
Low-income countries have significant debt repayments falling due in the next two years, needing to refinance about $60 billion of external debt each year. With competing demands for financing, including from advanced and emerging market economies adapting to climate change, there is a significant risk of a liquidity crunch, which could lead to a destabilizing debt crisis. To address this financing challenge, it is crucial to understand why it’s happening and what affected countries and the international community can do to help.
The pandemic has led to a liquidity squeeze, with higher government borrowing and deficits increasing the level of debt and the cost of servicing it. However, this trend is reversing as countries bring primary deficits back to pre-pandemic levels. Central banks have raised borrowing costs to tame inflation, making it costlier for governments to raise new debt or refinance existing debt.
Low-income countries have increasingly borrowed from the private sector, with about one third of financing coming from private creditors in the last decade compared to about one fifth in the previous decade. This shift has increased financing costs and vulnerability to global financial shocks.
To build resilience, countries must act. Some have made progress, such as Angola, The Gambia, Nigeria, and Zambia, by implementing energy subsidy reforms. However, many are lagging behind in efforts to increase revenues, such as broadening the tax base, reducing tax exemptions, and increasing tax administration efficiency.
Sub-Saharan African countries raised only 13% of gross domestic product in revenues in 2022, compared to 18% in other emerging economies and 27% in advanced economies. Policy reforms are needed to boost growth and capture more revenue, such as tax reforms, to avoid a costly debt crisis.
Countries should proactively mobilize funding at lower costs, particularly grants, to address the financing gap and strengthen their policy frameworks. The International Monetary Fund (IMF) can help bridge this gap and strengthen policy frameworks. Other partners, such as Multilateral Monetary Funds (MDBs) and ODA providers, may also extend financing to support reforms addressing global challenges like climate change.
Improving the IMF’s resources and scaling up MDB support are critical. Protecting ODA budgets will help the least fortunate participate more fully in the global economy. It is not yet clear whether country-driven actions and multilateral financial support will be sufficient to address these challenges, but some analysts are questioning a more systemic approach to reprofiling or refinancing debt. Low-income countries can seek debt relief through the Group of Twenty’s Common Framework, but it requires greater predictability and speed.
The funding squeeze facing low-income countries must be closely monitored. While sufficient low-cost funding is possible, more ambitious reforms, stronger international cooperation, and faster improvements in the global debt restructuring architecture may be necessary to help them emerge stronger and more resilient.
