Debt relief for low-income countries

In December 2023, the World Bank warned that “record debt levels and high interest rates have set many countries on a path to crisis” and there is a need for “quick and coordinated action” to “avoid another lost decade”.

The World Bank reports that 39 low-income countries are in debt distress, or at high risk of being so. These are mostly in Africa and Asia. Debt distress means they cannot meet their financial obligations or are already restructuring their debts.

This Commons Library research briefing describes the current level of indebtedness in countries with low or middle incomes, UK policy on debt relief, the increasing role of China and private creditors, and schemes to address debt distress, including by the G20 and ‘debt for environment swaps.’

Who is the debt owed to?

In 2022 external debts (borrowed from foreign lenders) of countries with low and middle incomes stood at US$9 trillion, double the figure in 2010.

Seventy-five countries with a gross national income (GNI) per person of less than US$1,315 saw their external debts double from 2012 to 2022, to reach US$1.1 trillion.  

In contrast to historic patterns in global debt, traditional creditors such as the World Bank, International Monetary Fund (IMF) and the Paris Club (which includes the United States, Japan, and European countries, including the UK), are owed a smaller proportion of this debt. More is now borrowed from commercial creditors, domestic creditors in lower-income states, and China. The range of creditors and their terms of lending have complicated negotiations to arrange relief.  

What support is in place for debt relief?

In response to the Covid-19 pandemic, the G20, whose members include the United States, UK, China, and the European Union, launched the Debt Service Suspension Initiative (DSSI) in May 2020. This arranged for a pause in debt service payments from 48 economies to official creditors (only one private creditor participated). US$12.9 million in payments were suspended.

To conduct wider debt restructuring, which would mean external debts are reduced or written off, the G20 has launched a successor, the Common Framework beyond the DSSI. The UK Government, IMF and World Bank acknowledge the scheme has moved slowly to help countries address unsustainable debt burdens.

Four countries have applied since the Common Framework was established, of which two have reached an agreement (Zambia and Chad, while Ethiopia has agreed a debt service suspension with its bilateral creditors, talks with Ghana are ongoing). In contrast to the DSSI, countries with debt are required to seek comparable treatment from private creditors in any agreements.

These schemes build on the work of the Paris Group of creditors and initiatives such as the Heavily Indebted Poor Countries (HIPC) initiative established in 1996 (only two countries eligible for the HIPC have now not completed it).

The role of the UK and English law

The UK has written off a substantial amount of the debt owed by lower-income countries. From 2001 to 2010, at least 49 low-income countries owing debts to the UK had all or part of their debts forgiven. The total amount of debt owed to the UK is now US$1.8 billion (US$70 billion is owed to all Paris Club members).

In its 2023 report on debt relief in low income countries, the Commons International Development Committee acknowledged the “limited scope” for the UK to cancel or provide relief, as it cannot act unilaterally in many cases, being subject to comparable treatment clauses with the Paris Club.

The Committee argued the Government should consult on new legislation to either compel private creditors to participate in debt relief schemes if a majority of creditors agree, or to ensure private creditors cannot sue debtor countries for more money than they would have received if they had participated in the DSSI.

The Committee said the UK is “uniquely placed” to legislate because 45% of sovereign debts are governed under English law. Legislation may also prevent private creditor “holdouts” when creditors refuse to partake in debt reduction.

The Government has rejected the Committee’s recommendation and instead backs “market-based solutions,” citing work from the IMF that suggests collective action clauses in sovereign bonds are reducing creditor holdouts.

Climate change and debt restructuring

The Bridgetown Initiative, ­launched by the Barbadian Prime Minister, argues debt distress, climate change and the impact of the war in Ukraine on global prices must be dealt with together. Countries vulnerable to climate change are often also the most vulnerable to debt distress, a status which may worsen.

The UK Government has said it is “working closely” with Barbados on the initiative, which includes a call for a “far more ambitious debt suspension initiative” than the Common Framework. The Government’s 2023 White Paper on international development also includes commitments to reform the international financial system and acknowledges that the Common Framework “has taken too long to deliver” debt restructuring.

‘Debt for environment swaps,’ where debts are forgiven in exchange for the debtor state investing in their environment, first took place in the 1980s.

Both the UK Government and International Development Committee have expressed caution about the impact of these initiatives, given the small value of the swaps to date and perceived loss of focus on debt sustainability. A recent debt for environment swap by Ecuador (valued at US$1.2 billion) is seen by some as representing a step-change in their scale.

Update log

January 2024: Updated statistics on debt and added references to the November UK Government White Paper.