Sliding Toward Disaster

Things fall apart slowly in a debt crisis. Life gets harder and worse for people and communities that already had it bad, as countries cut spending on services and roll back subsidies that had kept poorer communities above water, while the costs of essentials rocket.

Salaries go unpaid. Schools close. Women and gender minorities fill the gaps with unpaid domestic work. Meanwhile, creditors — banks, hedge funds, governments, the International Monetary Fund (IMF) — keep getting paid.

Until suddenly everything happens at once, when the government runs out of money, as in Sri Lanka last year. Fuel imports stop as suppliers go unpaid, hospitals empty of medicines and striking staff, people occupy the streets, presidential palaces burn. Tunisia and Pakistan could be next.

It can seem inexorable. But within this slide into ruin, there are critical moments when change is possible, and we can glimpse the possibility of averting disaster.

Zambia’s Debt Crisis

On June 23, with much fanfare, a deal was announced between Zambia and its foreign government creditors. G20 governments congratulated themselves that their Common Framework was finally bearing fruit. This is a process for renegotiating unsustainable debt that was launched in 2020 at the height of the pandemic to address the debt crisis in the Global South.

But the job is only half done, as the deal is only with the governments that are owed money. A deal with private creditors has to come next, and it won’t be easy.

What happens to Zambia is vital not just for its people, but for fifty-four countries in a similar position of crisis. Until the Zambia deal, the Common Framework was a would-be debt relief process that in two years had delivered no debt relief.

A lot is therefore riding on the Zambian test case. Unless there is a plausible route to debt relief, countries will keep paying their creditors until the cash runs out, cutting health, education, and social-protection budgets and plunging communities into poverty. Social unrest will grow, and an even bigger debt crisis will build up down the road.

Debt and Dependency

Zambia has been badly in need of debt restructuring since 2020, when it became the first country to default during the pandemic. The country inherited a weak economic base on independence from British colonial exploitation in 1964, with its reliance on copper exports leaving it vulnerable to shocks and dependent on loans from the Global North.

In common with many lower-income countries, Zambia’s debts grew throughout the 2010s as a result of loans from private lenders seeking higher interest rates, along with the impact of commodity price fluctuations and the costs of responding to the climate emergency. Of Zambia’s scheduled debt payments, 42 percent are to Western private creditors like the vast asset management company BlackRock, and 39 percent to Chinese public and private lenders.

Even before the pandemic hit, Zambia was spending four times more on debt repayments than on health care. When the pandemic cut off income and imposed new health and social-protection costs, the debt burden became impossible to bear, and Zambia stopped making repayments. It applied to benefit from the Common Framework, the new system for quick and efficient debt restructurings, in February 2021.

Since then, however, there has not been much progress. According to Precious Kalombwana, a campaigner with Debt for Climate Zambia:

The debt situation has really affected our communities. It has increased our cost of living. We can’t afford to even eat three times a day. We can’t even find medicine in hospitals or access good college education because of the debt.

To make matters worse, in February Zambia experienced its worst floods in fifty years, destroying roads, bridges, and homes and affecting 150,000 people. Without access to finance, the country cannot adequately prepare for or respond to the climate emergency. Across the Global South, governments are spending five times more on debt repayments than on responding to the climate crisis.

The Zambia Deal

The first thing to say — and this comes as a surprise — is that the deal is not terrible. It may not actually cancel any of the debt that Zambia owes to China and a range of Western governments. But it does push most of the payments back to the late 2030s and 2040s, while reducing the interest rate. If Zambia’s government revenue grows at the current rate, Debt Justice and the Zambian Civil Society Debt Alliance have calculated that the deal will effectively cut its debt payments by 40 percent.

There is potential trouble in the small print. If Zambia’s economy improves marginally, in the view of the IMF and the World Bank, it could find its debt relief cut by more than half overnight. Heaven forbid a lower-income country should do too well!

But the more immediate question is what will happen to Zambia’s debt to private creditors, which stands at $6.5 billion, slightly larger than its debt to governments. A key principle of the Common Framework is “comparability of treatment,” whereby all creditors should be treated similarly when debts are restructured.

This means that Zambia now needs to make a separate deal with its banks and bondholders with a similar reduction in those debts. Otherwise, the money saved on its debts to governments will just go into paying off the corporates — yet another bailout at public expense.

Comparability of Treatment

Nobody really knows what “comparability of treatment” means in practice. Everyone can agree in principle that we want fairness, but that means different things to different people.

The issue is that private creditors lent at much higher interest rates than government lenders. If they take a similar percentage cut to the face value of their debts, they still end up doing much better.

If they bought their bonds on the market after Zambia was in crisis, they will have paid around 70 percent less than the face value. Even with a significant cut, they stand to make big profits: the biggest bondholder, BlackRock, could make 110 percent profit if it is paid in full.

Private lenders justify charging high interest rates by referring to the risk of lending to a country that might default. The pandemic happened, Zambia defaulted, the lenders lost their gamble — that means they should take the hit. In Zambia’s case, this would mean taking a cut of more than 50 percent in the value of their debt.

This is where everything could unwind. If China decides that it is being asked to put its money toward profits for irresponsible corporate lenders in Europe and North America, it might pull the plug on the initial deal. Zambia could be left back at square one, with no deal.

Shakedown in Suriname

Surely Western private creditors will play ball? They have been repeatedly asked nicely to cooperate, from every quarter including the G20 and the heads of the IMF and the World Bank. If the deals fall apart, they might get nothing.

It’s in their long-term collective interest to make this work. They will need countries to stabilize and grow in order to keep getting paid, and so that they can offer more high-interest loans to them in future.

That’s not the whole story, though. Given the chance, it’s in the short-term interest of private creditors to hold out until the debtor government is desperate and will sign anything, then cash in while the IMF and G20 look the other way.

This is exactly what has happened in Suriname. This rainforest-covered former Dutch colony in South America followed Zambia in defaulting during the pandemic after a corrupt former government accumulated huge debts that were lavishly supported by international finance.

Suriname has just had a deal inflicted on it by its bondholders that is eye-wateringly bad on every conceivable level. Not only will bondholders effectively take no cuts at all in the value of their debt — they stand to make profits of between $170 and $980 million on a loan of $675 million. They additionally claim the right to 30 percent of revenues from offshore oil that Suriname is preparing to drill, up to a maximum of $689 million.

Suriname has a strong record of protecting its carbon-sink forests and absorbs more carbon emissions than it emits. Yet it is now being locked into decades of fossil fuel extraction, while a big chunk of the profits will go straight to its corporate creditors.

A Win-Win for Creditors

The deal does little more than allow Suriname to stagger on for a few years to another probable default and another negotiation with its creditors. Even the IMF has complained that restructurings have often been “too little and too late,” leaving countries still deep in unsustainable debt — although it carries on approving the deals.

Meanwhile, the people of Suriname face appalling austerity, as inflation reaches 60 percent. Large-scale street protests have demanded an end to rising prices that have caused standards of living to drop precipitously.

According to Sharda Ganga of Projekta, a Suriname civil society organization:

There is no end in sight, there is a new crisis and strike every day. The health care system is collapsing due to lack of basic materials and medicines, and the enormous brain drain with health care workers leaving the country for better wages every week. The same is true for teachers. Meanwhile, the government believes that it has reached the deal of the century with its creditors, wishing the barrels of oil into existence.

Suriname is one reason why “distressed debt” of lower-income countries is suddenly a hot investment. Bloomberg quoted a JPMorgan Chase trader marveling at the value to be unlocked from the “more favorable” path of restructuring talks. Financiers are realizing that the big talk on “comparability of treatment” is just talk. They won’t be asked to take cuts if their gambles fail.

Indeed, they are being offered a win-win deal. Governments in the Global South will prioritize repaying them at all costs, since the restructuring process is so toxic. But if the country does default, private lenders are still allowed to make big profits.

They hold all the cards in debt negotiations. If any creditor doesn’t like a deal, they can walk away, sue in London or New York, and demand to be paid in full. All they need to do is wait it out. This is bad news for Zambia, and every other country in debt distress.

New Legal Rules

We’ve been here before. The last major debt crisis to engulf lower-income countries, in the 1980s and ’90s, was the result of irresponsible private lending, to the extent that it threatened to bring down the global banking system. Multilateral institutions like the IMF and the World Bank spent years lending to countries to enable them to pay off the banks and kick the can down the road.

Eventually the debts grew so big that a large-scale debt cancelation process was unavoidable. By that time, most of the debt was held by the multilaterals, as the private creditors had been paid off and got out. Public authorities were left holding the debts and took the losses. Lower-income countries experienced two “lost decades” of economic stagnation and wasted lives.

What happens to Zambia will be a fork in the road for the whole global debt system. If the banks and bondholders get to walk away from Zambia with their pockets full, as they did in Suriname, they will have no incentive to cooperate with the next debt restructuring — and no incentive in the future to avoid irresponsible, high-interest lending. Instead of averting another protracted debt crisis, the Common Framework will degenerate into a cash machine for the corporate distressed-debt casino, where even the losers win big.

The only way to stop this outcome is to make sure that private creditors can’t exploit their power to demand more than government creditors, by imposing on them equivalent terms to those agreed by government creditors in deals like Zambia’s. If countries and creditors know that there will be a ceiling to payouts, the negotiations will unfold in a very different manner. To achieve this, it will be necessary to properly define and enforce comparability of treatment.

Happily, the UK and the United States are in a position to do precisely that: half of all government bonds from the Global South are issued under English law, including Zambia’s, while the other half fall under New York law. This means that the UK and the United States could pass legislation to facilitate debt restructuring processes by preventing a private creditor from suing a borrowing government for more than government creditors have agreed to.

Campaigns in support of this are building momentum in both the UK and the United States. New York came close to passing legislation last month, and will have another chance to approve it next year. The International Development Committee of the UK Parliament has called on the government to explore legislation.

The stakes couldn’t be higher for the people of countries in debt crisis. As Kalombwana explains:

When all our debt is cancelled, everything will change. We will be able to have medicines in our hospitals, we will be able to fight climate change, to enable us to a just transition, our children and our grandchildren will be able to go to good schools, we will be able to feed ourselves, just like we used to before all this debt came in.