Xu Qiyuan: A comprehensive framework for resolving the sovereign debt problems of developing countries

Xu Qiyuan

Since 2020, the new crown epidemic, the intensification of international geopolitical conflicts, and the sudden shift from long-term low-interest rate policies to high-interest rate policies in major developed countries have all brought great impacts to global economic and financial stability, and the sustainability of debt of developing countries has also faced more severe challenges, especially the vulnerability and risk of sovereign debt of some low- and middle-income countries has risen sharply.

As of the end of January 2023, 9 of the 70 low-income countries were in debt distress and 28 were at high risk, representing 53% of the sample of low-income countries. This puts forward higher requirements for the international debt reduction mechanism, and at the same time, the international debt reduction mechanism itself faces some new challenges. Over the past few decades, especially since the beginning of the 21st century, the status of traditional creditors such as Europe and the United States as bilateral creditors in the sovereign debt of developing countries has gradually declined, while China's position has risen sharply. In 2020, China accounted for 57.0% and 36.3% of all bilateral creditors in Low-Income Countries and Lower-Middle Income Countries, respectively.

However, the share of all bilateral creditors as a whole in developing countries' sovereign debt has declined significantly over the past 20 years. In 1996, the creditors of the 37 countries participating in the Heavily Indebted Poor Countries (HIPC) Initiative were bilateral creditors and multilateral development banks, with commercial creditors accounting for only about 10 per cent. By 2020, the share of commercial creditors, mainly bondholders, had risen to 46 percent, while multilateral development banks and bilateral creditors accounted for 30 percent and 24 percent, respectively. Similar conclusions can be drawn from an observation of emerging economies and developing countries outside of China.

Thus, although China accounts for a relatively high share of bilateral creditors, it accounts for only 15.1% and 9.4% of public debt and publicly guaranteed debt in low- and lower-middle-income countries. It can be seen that in the overall settlement mechanism of sovereign debt of developing countries, bilateral creditors can play a very limited role in resolving the debt problems of developing countries.

However, in international public opinion and various multilateral consultation mechanisms, the pressure on the sovereign debt issue of developing countries is mainly concentrated on bilateral creditors, and China is the most important bilateral creditor, so it faces the greatest pressure on debt disposal.

On the other hand, multilateral development banks and commercial creditors account for a very high proportion of the sovereign debt of developing countries and are much higher than bilateral creditors. However, due to various reasons, these entities have not fully participated in the current international debt relief mechanism, including the Debt Service Suspension Initiative for the Poorest Countries (MDRI) and the Common Framework for Follow-up Debt Treatment under the Debt Relief Initiative (CCI), launched on the G20 platform in 2020.

In the past few decades, the scale of bilateral claims of traditional creditor countries such as Europe and the United States has declined, in large part because of the shift in the way these countries provide debt financing to developing countries, from bilateral sovereign lending models to multilateral models that provide start-up capital for multilateral institutions to lend or market models in which the private sector buys sovereign bonds directly.

Against this backdrop, China is facing more international pressure as an important bilateral creditor. In fact, China is also actively seeking to work with the international community to solve the debt problems of developing countries, and China has become an observer country of the Paris Club, and in fact disposes of the debt of developing countries in accordance with the principles of the Paris Club. In 2020, on the G20 platform, China and other member countries actively promoted the Debt Relief Initiative and the Common Framework, and made major contributions to debt disposal. By the end of 2021, China was the country with the largest amount of debt relief among G20 members, which was recognized and affirmed by the international community.

However, China's own efforts cannot play a decisive role in the debt problems of developing countries. To this end, this paper analyzes the reasons why developing countries face debt problems, then analyzes the challenges in the international debt settlement mechanism, and finally attempts to propose a systematic, comprehensive and effective comprehensive solution framework for solving the debt problems of developing countries.

Debt faced by developing countries

Problems and causes

As noted economists Barry Eichengreen and Ricardo Hausmann have noted, the inability of developing economies to borrow in overseas markets with their own currency is the "original sin" of their economic development. This prevents developing economies from having sufficient opportunities to diversify risk. The current debt crisis facing developing countries stems from its inherent internal causes but, more importantly, is affected by the turbulence of the external environment.

(1) The current debt problems of developing countries are characterized by three aspects

First, the scale of debt continues to expand, and the demand for debt restructuring has increased significantly. Total external debt in emerging market and developing economies has continued to grow in recent years, reaching $12.2 trillion in 2022, an increase of $1.6 trillion or 15% over 2019. Against the backdrop of increasing downward pressures, the solvency of emerging market and developing economies has declined, and the demand for debt restructuring has increased significantly. As of August 2022, the International Monetary Fund (IMF) lent out through 44 programs totalling $140 billion during the year, higher than the outstanding credit at the end of 2020 and 2021, and the bailout reached a record high.

Second, the peak of bond debt service is approaching, and systemic debt risks are intensifying. Over the past decade or so, developing countries have been in an upward economic cycle, issuing large-scale international bonds. Bonds will mature more intensively in the coming years, and emerging market and developing economies will experience peak debt servicing. Between 2023 and 2025, African countries will have more than $106 billion in sovereign bonds maturing. Since 2020, Argentina, Zambia, Sri Lanka and other countries have successively defaulted on their debts, and the trend of debt defaults may further spread to other countries in the future.

Third, developing countries' current debt burdens are relatively low compared to their historical highs. Although the debt risks faced by developing countries are rising rapidly, the level of debt burden has not reached the historical high of the 90s of the 20th century. According to the World Bank, the average external debt-to-GNI ratio of low- and middle-income countries in 2020 was 29.1%, still below the record high of 36.8% in 1994.

(ii) The internal causes of the debt problems of developing countries

The debt crises faced by developing countries are usually the result of a combination of factors. Among them, the imbalance of the domestic economic structure and the insufficient level of government governance are important internal factors.

On the one hand, some debtor countries have unbalanced economies and are chronically dependent on industries that are vulnerable to external environmental influences, such as primary exports, tourism or remittances. Once there is external turmoil, it is easy to cause the depletion of its foreign exchange reserves and a sharp depreciation of the exchange rate, and affect its ability to repay its debts. Moreover, when shocked, macroeconomic policies in these countries are relatively lacking in coping capacity and available resources.

On the other hand, the external debt of some debtor countries is chronically unbalanced in terms of volume and structure. In the process of borrowing to develop the economy, debtor countries underestimate risk factors, lack autonomy and resilience in economic development, and ultimately cannot repay the accumulated external debt in times of crisis. In addition, the imbalance in the structure of debt is also an important reason, and structural factors such as the improper combination of long-term, low-interest development financing loans and short-term and high-interest bonds, as well as the excessive proportion of bonds, will raise the cost of debt servicing. The funds financed by the borrowing of some debtor countries have not flowed to the field of productive investment, which has greatly affected the economic development of debtor countries.

In Sri Lanka, for example, the coronavirus pandemic and the Ukraine crisis have led to a sharp decline in tourism revenues, a contraction in black tea exports and textile foundries, and a sharp decline in foreign exchange earnings. Since 2019, Sri Lanka has implemented three major domestic policies, namely tax cuts, money printing, and green agriculture, which not only increased the fiscal deficit, triggered hyperinflation, but also ultimately affected food production, triggering an unprecedented food crisis and civil unrest.

Short-term debt and private creditors account for as much as 45% of the country's external debt stock, and this part of the debt is most prone to capital flight and large fluctuations in interest rates, which also leads to a rapid increase in its debt service costs. In June 2022, the country's debt crisis erupted, which can be said to be the result of historical debt accumulation, domestic policy imbalance and negative external shocks.

(iii) External causes of developing countries' debt problems

In addition to uncertain events such as the new crown epidemic, the Ukraine crisis and climate disasters, monetary policies and financial innovation tools of developed countries are important external causes of debt problems in developing countries.

First, financial institutions in advanced economies are major private creditors in many emerging and developing countries, and the non-concessional financing provided by these institutions is inescapable of unshirkable responsibility for the blind expansion of debt and huge repayment pressures in some countries. In the case of Zambia, which recently fell into a debt crisis, Blackrock is the largest known commercial financial institution holding the country's bonds, amounting to US$220 million, of which bonds account for nearly 7%. Despite Zambia's crisis, BlackRock is expected to make a huge profit of more than 110% from investing in the country's bonds. As a private creditor, BlackRock did not participate in the Debt Relief Initiative during 2020, nor did it restructure or forgive any debt, and will still enjoy a high interest return of more than 8%.

Second, from the perspective of interest rates, for high-debt countries, the collective tightening of monetary policy in the United States and Europe will lead to tighter financing conditions in international financial markets, and push up debt service pressure, financing costs, and make debt rolling more difficult. Since 2022, according to the JPMorgan Chase Emerging Markets Bond Index (EMBI), US dollar bond interest rates in some economies such as Pakistan, Kenya and Ethiopia have risen by more than 10 percentage points.

Third, from the perspective of exchange rates and cross-border capital flows, the strengthening of the dollar index and the rise of the US dollar interest rate will reduce the attractiveness of non-US dollar assets, generate capital outflows, currency depreciation and asset price adjustment pressure on emerging markets and developing countries, and then weaken the solvency of relevant countries and even trigger liquidity crises. In 2013, many developing countries had a "tapering panic" due to the Fed's announcement of its withdrawal from quantitative easing, which not only fell sharply in the prices of stocks and bonds, but also sharply reduced economic growth.

Finally, from the perspective of external demand, the shift of monetary policy in the United States and Europe will also exert downward pressure on the global economy, exacerbating the macro policy dilemma faced by relevant countries. On the one hand, if the US and European economies experience a recession as a result of the shift in monetary policy, external demand in developing countries will also fall. On the other hand, the shift to tightening monetary policy in the United States and Europe will exacerbate the dilemma of monetary policy in developing countries: if the Fed does not follow the Fed to raise interest rates, there may be large-scale capital outflows and exchange rate fluctuations; If interest rates are raised, the country's economic situation may be further aggravated against the backdrop of declining external demand.

Why debt resolution mechanisms are needed

Make significant improvements

At present, the debt structure of developing countries has undergone tremendous changes, and the internal and external causes of the debt problem have taken on some new characteristics. Therefore, the international community should further improve the original debt settlement mechanism and provide new solutions for the settlement of the debt problem.

(1) The debt resolution mechanism itself faces challenges

At present, the debt problems of developing countries are urgent, but both old and existing debt workout mechanisms face various problems to varying degrees.

First, the old debt-workout mechanism, including the Paris Club, had its own set of problems.

First, creditors are generally reluctant to grant substantial debt relief quickly. Since its establishment in 1956, the Paris Club has been following the classic terms in debt negotiations only to roll over debt at market rates, and it was not until the Naples Terms in the mid-90s of the 20th century that the overall debt stock write-down for low-income countries really appeared.

Second, in the past, the Paris Club coordinated negotiations between various creditors within advanced economies. At that time, the main body of commercial creditors was mainly domestic commercial banks in Paris Club member countries, and the governments of member countries had jurisdiction and direct influence over these commercial banks. Therefore, in the actual debt negotiations, Paris Club countries are not only the main contributors of multilateral development banks, but also can represent sovereign countries and commercial banks, and the coordination cost of debt negotiations is low, and the progress is relatively smooth.

In the 21st century, emerging creditors such as China, India, Saudi Arabia and other countries have emerged one after another, commercial creditors of debtor countries have gradually changed from commercial banks to commercial bond holders, game participants in debt negotiations have increased, heterogeneity has increased, and the Paris Club's ability to coordinate the current creditor structure has been greatly weakened.

Finally, in terms of the effectiveness of debt reduction, the Paris Club itself is only part of the global debt relief initiative for debtor countries, and the Heavily Indebted Poor Countries (HIPC) and the Multilateral Debt Relief Initiative (MDRI) under the framework of multi-stakeholder cooperation also play a considerable role.

Second, there are few applicants for the G20 Common Framework and have not yet played its due role.

The G20's Debt Relief Initiative and Common Framework are the most important multilateral debt resolution mechanisms at present. The Debt Relief Initiative (MDRI) has greatly mitigated liquidity risks in debtor countries by allowing debtor countries to suspend debt service payments. The Common Framework aims to achieve rapid and orderly debt restructuring, but there are not many applicants. Sovereign credit rating constraints faced by debtor countries are an important factor in discouraging debtor countries from applying, a new situation that did not occur during the Paris Club era.

In the late 80s of the 20th century, with the introduction of Brady bonds, the rating range of the three major rating agencies began to expand to the sovereign credit ratings of low- and middle-income countries. By the early 90s, more and more developing countries were aware of the importance of sovereign credit ratings for financing international capital markets, and therefore paid more attention to the role of sovereign credit ratings. Most debtor countries are hesitant to apply for membership in the Common Framework, which greatly reduces the operational efficiency of the Common Framework, given that participation in debt negotiations could undermine their ratings in international financial markets and thus affect subsequent financing.

In addition, in the face of negative shocks such as monetary policy tightening and food crises in the United States and Europe, some Debt Relief Initiative countries may experience complex crises such as capital outflows, currency devaluation, political turmoil and debt default, which far exceeds the ability of the existing Common Framework to respond at the beginning of the design.

Responsible macroeconomic policy coordination in major developed economies is also essential

Major developed economies should implement responsible macroeconomic policies and maintain a stable global development financing environment. Emerging and developing economies are more likely than advanced economies to fall into sovereign debt distress due to changes in external economic and financial conditions. For these economies, once their own economic cycles are quite different from those of developed economies such as the United States and Europe, the direction of macro policy adjustment to meet the needs of the two economies will diverge, which will aggravate the capital outflow and currency depreciation pressure they face.

If these countries follow the US and European countries in raising interest rates at this time, the country's debt service burden will increase due to rising interest rates, and its ability to service its debt will decline due to the contraction of demand brought about by tighter monetary policy. If the central bank does not follow the interest rate hike or implement monetary easing to maintain economic growth, it may cause capital outflow and currency depreciation due to the narrowing of interest rate differentials between the United States and Europe, and even fall into a vicious circle of crisis events such as "currency depreciation - runaway inflation - capital outflow - economic contraction - debt default" and other crisis events that promote each other. At this time, even if the country tightens monetary policy, it is often difficult to restore investor confidence, and may even lead to further recession.

Moreover, since 2021, the shift in monetary policy in advanced economies has been "inflation-driven rather than recovery-driven". In other words, the negative effects of monetary policy contractions in advanced economies will not be offset by the positive effects of the recovery in external demand, and will have a greater negative impact on developing countries.

From historical experience, the Latin American debt crisis and the East Asian financial crisis also show that in the face of negative external shocks such as the Fed's interest rate hike, emerging economies can hardly stabilize their debt ratios by simple monetary or fiscal policy adjustments. Limited by the governance capacity of emerging economies and the lack of liquid assets such as foreign exchange reserves, unconventional measures such as exchange rates and capital controls are often ineffective.

(3) Changes in the creditor structure have put forward higher requirements for the participation of all parties in the settlement mechanism

Over the past 20 years, the creditor structure has changed dramatically, creating a diversified landscape. The United Nations Development Programme reported that 90 per cent of the public and publicly guaranteed debt of all 37 countries participating in the HIPC Initiative in 1996 were held by bilateral creditors and multilateral development banks. By 2020, the share of private creditors rose to about one-quarter.

Moreover, for most developing economies facing debt vulnerability, multilateral, bilateral and commercial creditors account for about 30%, 24 and 46 per cent of claims, with bilateral creditors accounting for the lowest share. The composition of bilateral creditors varies considerably from country to country. Of the 54 economies counted, 16 have more than one-third of their debt to China, and 11 more than one-third of their total debt to Paris Club countries.

Changes in the creditor structure have had a triple impact on traditional debt resolution frameworks.

The first shock, the emergence of emerging bilateral creditors, places higher demands on the traditional debt resolution framework, and the new framework must be more inclusive and compatible. The emerging bilateral creditors are all developing countries, and the concept of providing development finance is more based on the parallel paradigm of "South-South cooperation", thus placing new requirements on how financing institutions and the nature of finance are viewed. This must be addressed in the new debt resolution framework.

Second, multilateral development banks (MDBs), represented by the IMF and the World Bank, refused to participate in debt relief as priority creditors.

Historically, multilateral development banks have worked with the Paris Club to promote debt restructuring programmes through the Heavily Indebted Poor Countries (HIPC) Initiative and the Multilateral Debt Relief Initiative. In these initiatives, the IMF and the World Bank have provided substantial debt relief support to low-income countries. Some low-income countries have benefited from these mechanisms and their economies have grown considerably.

However, at this stage, multilateral development banks are not active in participating in debt reduction actions, and they have emphasized their status as priority creditors in many G20 meetings and refused to participate in debt reduction, which has greatly dampened the enthusiasm of other creditors to participate in debt disposal negotiations.

Third, from the perspective of private sector creditors, the use of complex financial instruments (especially bonds) has led to shorter maturities and higher interest rates in the form of sovereign bonds, and significantly increased short-term repayment pressure. These shocks determine the urgency and importance of commercial creditors' participation in negotiations. However, the number and distribution of private-sector creditors is also more widespread, making debt servicing more difficult.

Existing debt workout mechanisms have significant shortcomings. Since the beginning of the global pandemic in early 2020, new debt resolution mechanisms such as the Debt Relief Initiative and the Common Framework have been proposed on the G20 platform. However, IMF Managing Director Georgieva believes that progress under the Common Framework has been slow. While the new resolution mechanism partially addresses the first of the triple shocks described above by including official bilateral creditors, including China, there has been no progress towards the inclusion of official multilateral creditors as well as private sector creditors. This means that existing debt workout mechanisms still face two other important shocks. The absence of private creditors and multilateral official creditors has contributed to the formation of a free-rider and unfair situation in which "official bilateral creditors bear the losses of debt reduction and other creditors receive disguised subsidies".

Debt relief mechanisms involving only bilateral sovereign creditors cannot effectively reduce the debt level of debtor countries, will not help debtor countries as a whole to effectively get out of debt distress, will also reduce the willingness of official bilateral creditors to provide debt relief assistance, and even damage the ability of these creditors to continue to provide additional financing in the future. Therefore, although the debt resolution mechanism of the G20 platform has expanded the Paris Club to a certain extent, fundamentally speaking, the existing debt resolution mechanism still has not adapted to the huge changes in the creditor structure, making it difficult to provide a comprehensive, systematic and effective solution to the existing debt problem.

On the whole, the creditor structure of sovereign debt in developing countries is more dispersed than before, and the concentration of creditors is significantly reduced, which makes it easier to free ride, it is more difficult for creditors to act in agreement, and debtors are more likely to break debt discipline.

What's more, some Western countries have continuously politicized the sovereign debt issue of developing countries, trumpeted the "debt threat theory" and the "debt responsibility theory", and exerted political pressure on the debt relief of emerging creditors represented by China. This political game between major countries directly impacts the traditional sovereign debt governance paradigm and further aggravates the global sovereign debt governance dilemma.

Systematic, comprehensive and effective solution

Integrated framework on debt

Considering the unique external environment and global macroeconomic policy challenges faced by debtor countries, the new debt resolution framework needs to be systematic, comprehensive and effective, and build a new debt resolution framework from three perspectives: development financing concept, full participation of creditors and debt disposal process.

(1) The systematization of the solution: from the perspective of the concept of development finance

The debt crisis was not only a financial problem, but also a development problem, and systemic solutions were needed. Similarly, development finance is not just a financial issue, but fundamentally addresses the problem of development.

Ayi Khan Goss and other scholars also pointed out that in the face of debt difficulties, the ways to reduce debt can be divided into two categories: one is orthodox options, including promoting economic growth, fiscal consolidation, privatization of public assets, and increasing wealth taxes; The other category is unorthodox options such as inflation, financial repression, debt default, and debt restructuring. Each policy option has political, economic and social costs, and developing countries must personalize their choices according to their national characteristics, such as debt type, economic situation, and legal costs.

Guided by the concept of sustainable development, a systemic debt solution should include four pillars: promoting economic growth, ensuring stable and high-quality financing support, providing timely and appropriate debt relief assistance, and strengthening debt management and supervision throughout the process.

First, promoting economic growth is not only the fundamental prerequisite for debtor countries to get out of the debt quagmire on their own, but also the optimal path for creditors to lose the least amount of assets. The debtor country's own economic development is the basis for its external debt servicing. According to the debt dynamics formula, as long as the economic growth rate is less than interest rates, the debt-to-GDP ratio will fall into a vicious circle of "snowballing" automatic increases. One of the great lessons of Latin America since the 60s of the 20th century is that it has fallen into a series of structural imbalances in economic development, and these consequences can only be absorbed in the form of debt crises, which in turn has led to the blockage of modernization.

Conversely, as long as economic growth continues to outpace interest rates, it creates an automatic stabilizer that reduces debt risk with economic growth. In addition, higher economic growth will also strengthen investor confidence, ease capital outflows and currency depreciation pressures, and even bring more new financing for developing countries that is conducive to economic development. In sum, faster economic growth is the least costly option compared to debt reduction modalities such as defaults, debt relief, and inflation.

Second, stable sources of external financing are an important guarantee to avoid liquidity crises and support the economic development of debtor countries, especially development financing with patient capital characteristics and certain concessions.

On the one hand, increasing the proportion of patient capital can optimize the external financing structure of debtor countries, thereby reducing liquidity risks related to fluctuations in the external economic and financial environment. From a liquidity perspective, sovereign debt sustainability means that a government can continue to obtain new financing from actual or potential creditors to ensure that debt can be carried over. In other words, even if the fundamentals of the country's economy do not change, short-term sharp fluctuations in external sources of financing can make a country's debt unsustainable. Private creditors and debtors with a high proportion of short-term debt tend to fall into liquidity crises than official creditors and debtor countries with a high proportion of long-term debt.

On the other hand, development financing with patient capital and certain concessional characteristics is also a high-quality source of financing to fill the financing gap of debtor countries and support their economic development, especially for infrastructure construction projects with large capital demand, long construction period and high uncertainty, but can have huge positive externalities for economic development. In short, debt governance tools to optimize external financing structures, such as increasing the proportion of patient capital and capital concessions, should also become an important part of the debt resolution mechanism.

Third, improving the institutional construction of debt management and supervision in the whole process is an important paving for avoiding future crises and reducing losses for all parties. The best way to deal with a crisis is to avoid it. Debt relief actions that lack institutional norms and policy oversight may exacerbate moral dilemmas and eventually fall into difficulties, such as encouraging debtor countries to blindly borrow and expand and maliciously rely on debts; or create a situation where creditors blame each other, refuse to cooperate and try to free ride. Therefore, it is necessary to improve and implement the whole process management and supervision system on debt formation, fund use, project evaluation, risk early warning, etc., including improving debt transparency, optimizing debt sustainability assessment methods, and strengthening financial and debt management knowledge training.

Fourth, timely and moderate debt relief assistance is the last resort to deal with the debt crisis. While debt defaults and restructurings can have a direct effect on debt burdens, they can also have side effects, such as lower output, lower credit ratings, loss of access to international financial markets, and transfers of national assets and sovereignty. In addition, debt relief assistance is bound to harm the economic interests of creditors, which in turn affects their willingness and ability to provide further financing support to debtor countries.

Therefore, before undertaking debt relief actions, debtor countries and creditors should fully consider the negative effects of these actions and balance the trade-off between reducing existing debt stocks and ensuring additional financing. In addition, different debt restructuring and relief programmes may have different economic impacts, and appropriate options should be selected in the light of specific country conditions. Studies have shown that ex-ante restructuring takes less time than post-restructuring, reduces debt less and loses less output. Compared with present value relief, nominal exemptions and exemptions have a stronger effect on economic growth.

(2) The comprehensiveness of the solution: from the perspective of the scope of participants

First, strengthen macro-policy coordination in developed economies to mitigate negative spillovers. Strengthening macro-policy coordination among different types of economies is essential to preserve the global development financing climate and avoid a systemic debt crisis.

From the perspective of the internal impact of macro policies in advanced economies, advanced economies should do their best to avoid excessive and excessive contraction of monetary policy leading to systemic financial crises or global recessions. The experience of the 2008 US subprime mortgage crisis and the 2012 European debt crisis showed that due to the high degree of financial development, there may be systemic risks within advanced economies, especially in the unregulated non-bank financial sector and peripheral economies in the monetary union system. Since the beginning of 2022, developed economies such as Europe and the United States have tightened monetary policy too quickly, which has also exacerbated and is exacerbating the turmoil in the international financial market and continuing to produce negative spillover effects.

From the perspective of the spillover impact of macro policies in developed economies, in the process of monetary policy shift, developed economies should provide risk hedging mechanisms, debt relief assistance and refinancing support for their negative spillover effects.

From the perspective of multilateral mechanisms, advanced economies can provide public goods to developing countries by replenishing international institutions such as the International Monetary Fund and the World Bank, promoting the redistribution of Special Drawing Rights (SDRs) from surplus to needy countries, and participating in debt relief and relief actions under the G20 Common Framework.

The G20 can give full play to its advantages in fiscal and monetary policy coordination to maintain a stable and predictable international macroeconomic environment. G20 countries should join hands to strengthen macro policy hedging to prevent the world economy from falling into recession. In terms of monetary policy, it is necessary to prevent a "beggar-thy-neighbor" monetary policy and avoid causing serious negative spillover effects to other countries. When introducing fiscal policies, attention should also be paid to preventing and controlling the occurrence of debt risks, and financial supervision should be taken into account when strengthening financial credit policies, so as to prevent and control financial risks.

In addition, the G20 should strengthen policy coordination with international organizations, properly handle the relationship between epidemic control and development, further improve and consolidate the G20 mechanism, and make joint efforts to improve the external environment of debtor countries.

At the same time, advanced economies can increase currency swaps with other central banks, meet their historic commitments to provide $100 billion in climate change financing for developing countries, and provide technical and financial assistance to developing countries to build national and regional financial safety nets.

In the current absence of financial safety nets provided by developed countries for developing countries, the currency swap networks provided by China for some developing countries have alleviated to a certain extent the inequality faced by developing countries in the international financial safety net.

Second, the new comprehensive debt resolution framework should allow for the participation of all creditors. The current creditor structure dictates that debt resolution must be resolved by bilateral creditors, multilateral development banks and commercial creditors.

In terms of bilateral creditors, the G20 Common Framework sets out the principle of equitable burden-sharing among official bilateral creditors, taking into account the interests of creditors and debtors. In addition, by drawing on and building on the experience of previous Paris Club debt disposal negotiations, cooperation between the two mechanisms may further attract multilateral development banks and private creditors to debt disposal negotiations in debtor countries.

However, until a comprehensive negotiating framework is reached, it may not be appropriate for bilateral creditors to reduce debt unilaterally. Unilateral debt reduction not only does not contribute to the fundamental solution to the debt problem, but is more likely to lead to further distortions in the existing debt structure of debtor countries. As a responsible emerging creditor, China should adhere to the concept of "a community with a shared future for mankind" to deal with the debt problems of developing countries, and adhere to working with other creditors to support international debt governance actions under the multilateral framework.

With regard to multilateral development banks, following the Heavily Indebted Poor Countries (HIPC) Initiative and the Multilateral Debt Relief Initiative, the major members of the Paris Club have increased their lending through multilateral development institutions such as the World Bank, the International Monetary Fund and regional development banks, although they have reduced their bilateral loans to varying degrees. Multilateral development banks are still dominated by sovereign creditors of developed countries. Therefore, multilateral development banks should be soberly aware of the reality of the current debt structure changes and rationally make responsible debt reduction actions.

In debt disposal, multilateral development banks should, first of all, increase development financing support to developing countries as much as possible while meeting capital adequacy requirements. According to statistics, multilateral development banks still have tens of billions of dollars of room for additional lending without compromising the AAA rating. In addition, institutions such as the World Bank and the International Monetary Fund can consider fundamentally increasing the overall financing scale by increasing capital, and the increase in capital matching the amount of shareholding can better reflect the current changes in the pattern of development finance providers.

There is no legal basis for MDBs to refuse to participate in debt reduction negotiations on the grounds that they affect their credit ratings or cause capital losses. The credit rating of multilateral development banks is different from that of ordinary financial institutions, but it has a suprasovereign character: if major members are willing to provide support for capital and share increases, the participation of multilateral banks in debt reduction does not necessarily lead to a downgrade. Historically, multilateral development banks have also been involved in debt relief on many occasions. Under the Multilateral Debt Relief Initiative, the International Monetary Fund and the World Bank have granted interim debt relief to countries that have reached the decision-making point of debt negotiations. During the 2007 Liberian debt negotiations, the World Bank, the African Development Bank and the International Monetary Fund cancelled Liberia's debt of $400 million, $255 million and $888 million, respectively.

In terms of commercial creditors, the structure of commercial creditors for the debt of developing countries has also undergone major changes since the 21st century, from mainly commercial bank loans to commercial bondholders. At present, there are no relevant international legal norms restricting commercial creditors from participating in debt negotiations in accordance with the rules of comparability. Compared to bilateral sovereign creditors and multilateral development agencies, commercial bondholders with large numbers may make collective action difficult and coordination costs higher.

However, it is also important to recognize that commercial creditors have long been important participants in international debt negotiations. Even within the framework of the Heavily Indebted Poor Countries (HIPC) Initiative and the Multilateral Debt Relief Initiative, the decision and completion points of debt negotiation measures require the participation of 80 per cent of creditors, which necessarily include commercial creditors. If the current proportion of commercial creditors in the vast majority of developing countries is compared to this standard, few debtors are able to complete debt negotiations in the absence of commercial creditors. In this regard, the international community needs to work together to accelerate the formation of a new comprehensive settlement mechanism covering all creditors.

It is quite feasible for commercial creditors to participate in debt restructuring. From the perspective of the internal structure of commercial creditors, the proportion of bond holding institutions is high, and the holding institutions are relatively concentrated. The top three are BlackRock, Invesco and Vanguard, which are not only sovereign bond holders but also important asset managers with large stakes in the world's top companies.

Commercial creditors should play a more active and constructive role in debt negotiations. In addition, the above three companies are also American companies and are in the same legal and financial market environment. Therefore, the establishment of a multi-party negotiation mechanism can consider starting with US institutions with a high proportion of holdings, and the US government should also actively promote the participation of the above-mentioned bond holders in debt negotiations in this process, and create a good environment for US bond holders to participate in negotiations through necessary administrative, legal and commercial means.

Finally, a comprehensive solution framework could provide ideas for debt disposal in more medium-sized countries. The G20 launched the Debt Service Suspension Initiative in 2020, and as of December 2021, 73 low-income countries had suspended external debt payments totalling US$12.9 billion. In addition, the G20, in partnership with the Paris Club, has created a common framework that is further assisting low-income countries covered by the Debt Relief Initiative to restructure their debt to address insolvency and long-term liquidity. At present, middle-income countries are not covered by the Common Framework, but in the future, a multi-party debt reduction mechanism can be built in accordance with the Common Framework, and this part of the debt can be included in the comprehensive debt negotiation framework, following the principles of shared burden and comparable debt reduction, and at the same time taking into account their differences with low-income countries and heavily indebted poor countries.

(3) The effectiveness of the solution: from the perspective of the process of debt disposal

First, enhance the relevance of the "one country, one policy" principle in debt negotiations. Although the Paris Club also provides for the principle of one country, one policy, it will impose similar debt disposal provisions for countries with the same income type, such as the Naples clause, which is mainly for the poorest and heavily indebted countries, and the Evian Approach, which is mainly for middle-income countries. However, even if they belong to the same income type, the debt structure, debt maturity, and their own endowments and economic structure of different debtors are very different, and the country-one-policy debt negotiation model can conduct targeted debt negotiations according to the specific situation of debtor countries, and improve the efficiency of debt negotiations with the best debt solution.

The international financial institutions needed to move away from a "one-size-fits-all" approach, which unduly restricted policy options for developing countries. For example, from the perspective of the nature of the debt crisis itself, there are two different types of solvency crisis and liquidity crisis, and there are also different types of debt due in debt structure, which should be analyzed on a case-by-case basis in debt negotiations and adopt targeted debt disposal plans.

The debt crisis in some countries is mainly due to the rise in US dollar interest rates and external exchange rate fluctuations since 2022, which is a short-term liquidity crisis and there is no change in economic or export fundamentals. In this regard, simply providing liquidity support can help debtor countries weather the storm. For energy-exporting debtors, the debt crisis will be greatly alleviated by the recovery in energy prices, and the need for debt negotiations will be reduced. For others, there is a risk that short-term bonds will need to be repaid centrally when due, and even if sovereign creditors take debt reduction measures, it will not help debtor countries to get out of the predicament of being unable to service sovereign bonds.

Second, the creditor committee should play a leading role. In the absence of a consensus debt reduction rule covering three creditors at this stage, the Common Framework does not make specific arrangements for the secretariat. On the basis of the principle of one country, one policy, the creditor committee can become a reasonable and convenient debt negotiation and follow-up debt resolution management body, so as to improve the efficiency of negotiation and the implementation of negotiation results. The creditor committee provides a platform for creditors and debtors to negotiate centrally, avoid the risk of secondary negotiation or renegotiation, reduce the cost of negotiation games, and gain valuable time for resolving debt crises. The Debt Commission has also played a major role in several current cases of countries applying for debt negotiations under the Common Framework.

Finally, multiple forms of debt treatment are combined. Creditors are allowed to adopt a variety of forms of debt treatment that are effective and take into account the realities of debtor countries. On the one hand, the burden on debtor countries can be reduced by traditional means such as debt relief, debt reduction, interest rate reduction, interest exemption and rollover. On the other hand, new ideas on debt disposal by issuing additional bonds and replacing bonds with debt can be flexibly and variedly considered, so as to provide new liquidity for debtor countries and new momentum for sustainable investment development. At present, the IMF has issued an additional $650 billion in special drawing rights, and debt negotiations can make full use of this additional funds to provide additional liquidity to promote credit enhancement and debt swaps similar to the Brady plan, and help debtor countries achieve lower-cost refinancing or debt restructuring.

Financial instruments such as "debt-green swaps" and "debt-climate swaps" can turn debts into debtor countries' investment in the SDGs, thereby helping debtor countries facing fragile challenges or ecologically important debtor countries, and leveraging multi-party funding from public welfare institutions, international organizations, and environmental, social and governance (ESG) investors. At the same time, the IMF and the World Bank should also improve the existing debt sustainability analysis (DSA) so that it can better inform policy practices to improve debt sustainability, especially by adding tests of policy effectiveness, so as to provide better guidance for debt resolution mechanisms.

(Xu Qiyuan is Deputy Director, Institute of World Economics and Politics, Chinese Academy of Social Sciences)