Emerging economies and capital flows
Developing and emerging economies
Many are calling for an official decision to temporarily halt the payment of all debt installments owed by developing and emerging economies , in order to prevent the crisis of the Coronavirus disease Covid-19 , and this is a sound decision and is in the interest of global economic growth indicators despite the positive initiatives that many countries and international gatherings called for . According to this argument , it is better for creditors to agree now to hold payments for some time , rather than waiting for debtors to stop fulfilling their obligations .
But while a comprehensive freeze on debt payments may help many low-income countries that lack a better option , it may be counterproductive when it comes to emerging economies that currently maintain access to financial markets . What these countries need now is more inflows of capital , not two problems . First, emerging economies need new net financing - in other words , greater restrictions on outflows .
Debt repayment of developing and emerging economies
Withholding payments forces resources in comparison to what would be available by freezing their debt-service obligations . Second , countries that participate in the stalled payment will face legal action by some shareholders , putting their ability to access capital markets in the future at risk .
A debt freeze may pose a problem , especially for countries that have large foreign investments in capital markets in local currency . The rush of foreign investors to exit could put more pressure on emerging market currencies , thus pushing inflation rates up and reducing the liquidity available to mitigate the economic consequences of the Covid-19 pandemic. Imposing capital controls to prevent financial flows from exiting is an unwise proposition . Same : that the capital will go anyway and wreak havoc on its way out .
While the decision to halt emerging market debt would be beneficial for them , it is unrealistic to expect private capital to provide the financing these countries need now .
It is true that many emerging economies exploited the sovereign bond markets on reasonable terms in April . Mexico placed $ 6 billion in debt , Indonesia raised $ 4.3 billion , Peru raised $ 3 billion, and Paraguay $ 1 billion , while Panama and Guatemala collected smaller amounts in addition . In addition , other countries issued bonds , but these amounts are small , relative to the need for emerging economies to an estimated $ 2.5 trillion in financing for this year and the year that follows .
Moreover , there is no guarantee that future bond issues will be successful . Emerging economies are unlikely to see a V-shaped recovery - the rapid rebound to recovery after a sharp downturn , and this would worsen their credit ratings . The recovery will take some time , and it will come in waves - just like the virus - this, in turn , generates more uncertainty . Amid the frustration caused by modest global economic numbers , investors will increasingly lean toward safer assets and reduce their exposure to emerging economies .
Supporting emerging economies
If it is not advisable to issue a temporary debt repayment moratorium , nor to rely on private capital , then what to do ?
The closest business-as-usual response will be for emerging economies to seek additional support from the International Monetary Fund and multilateral and regional development banks . But these institutions are unable to provide the necessary resources . The International Monetary Fund does not have more than a trillion dollars , while the multilateral development banks cannot provide more than a few hundred billion dollars , which reflects the insufficient capital of these institutions and their fear of losing their credit rating (AAA) . Its capital will take years to replenish , given a number of obstacles , including in the US Congress , emerging economies , and capital inflows .
The solution for emerging economies
The solution to capital flows lies in central banks that issue reserve currencies and should therefore be genuinely concerned with the health of the global economy . In coordination with the International Monetary Fund and the multilateral development banks , it should work to create a special purpose vehicle that serves as a bridge between the vast amount of global liquidity currently available and the growing financing needs in emerging economies .
Specifically , the special-purpose instrument will issue bonds , the leading central banks will buy them as part of their quantitative easing programs , and then emerging economies will lend the returns on those bonds . With some credit enhancements , these loans can be converted into securities and traded like other financial assets . The SPV will need some capital in order to achieve the minimum credit rating required by the central banks that will buy their bonds : it can be provided by multilateral development banks and national governments .
Development banks for emerging economies
The multilateral development banks will also be responsible for structuring , supervising, and servicing new loans , which can be exchanged between the special purpose instrument and the multilateral development banks . But the SPV portion of the loans would not , of course, be recorded on the balance sheets of the MDBs , and would thus not affect their credit rating . Only the special purpose instrument loans should be used to address the COVID-19 pandemic emergency including recovery
The central banks financing this mechanism will decide which countries have access to it . For example , it is possible that the US Federal Reserve is unwilling to provide liquidity to a special purpose vehicle that benefits a nation whose major creditors are Chinese . For that to happen , China will need to finance the plan as well
Moreover , the special purpose instrument could serve as a means of mitigating risks with the goal of bringing more private capital into emerging economies . For example , it can provide capital guarantees for foreign direct investment in public-private partnerships during the post-pandemic recovery phase .
Economic recovery and development banks
Finally , the multilateral development banks should use their own budgets more effectively to support economic recovery . It can and should do much , starting with improving its access to alternative sources of liquidity in order to increase its financial capacity . The proposed special purpose instrument could provide the liquidity support that MDBs currently lack . In fact , the G20 Group of Eminent Persons recommended this specifically in a 2018 report , and its estimates indicated that such a facility would enable the World Bank to expand its lending by at least 10 percent and the multilateral development banks to a much greater extent.
Instead of creating a new international financial architecture in these extraordinary times , policymakers should focus on modifying the current system . It is clear that creating an SPV will be simpler and faster than alternative options requiring legislative action
Of course , the additional global lending mechanism will not solve all the problems facing today's emerging economies . But it will provide her with some new tools . Equipping this mechanism requires decisiveness and coordination at the international level , and these are the same principles that will help us defeat the virus itself