Life after debt — III

Mahmoud Mohieldin
Saturday 13 Jul 2024

The developing countries must break the habit of taking out further loans to fund economic development and pay off existing debts, writes Mahmoud Mohieldin


Despite the enormous toll the current debt crisis is exacting on the developing countries, their plight is still not receiving the attention it deserves. This contrasts starkly with previous crises that also wiped out development opportunities, such as the African and Latin American debt crises in the 1970s and 1980s and the Asian financial crisis in the late 1990s.

Interest payments on loans will consume more than half of the revenues of the developing countries this year. This is much higher than average debt-servicing costs before 2020.  

The latest UN Trade and Development (UNCTAD) report also reminds us that the victors in World War II limited the amount of revenues that defeated Germany could spend on external debt-service obligations to five per cent. The purpose was to avoid undermining reconstruction and recovery efforts. Yet today, lower-income countries are paying 23 per cent and low middle income countries are paying 13 per cent of their export earnings on servicing their debts.

The victors in World War II had also experienced the scourge of war, and they were acutely aware of the lessons of the 1919 Versailles Peace Treaty that had imposed harsh punitive measures on Germany after its defeat in World War I. The country’s economic plight, soaring inflation, and widespread unemployment combined with mounting grievances to feed the rise of the far-right Nazi Party, which once again drove Germany into war. Historian John Hirst offers an accessible explanation of the process linking the Peace Treaty to Germany’s crushing debt and the outbreak of World War II in his concise Shortest History of Europe.

However, in today’s world the lessons of the last century seem to be lacking in the seats of power. Positions are often filled by individuals whose folly and recklessness have led to repercussions that have been wreaking untold harm on the developing countries. These individuals only really pay attention to these repercussions when they come knocking on the door in the form of waves of migrants driven to leave their countries by need and destitution.

The countries of the Global South are losing many of their finest minds and most-skilled and dynamic young people as a result. Those countries that are receiving them then complain loudly and wring their hands for fear of strains on their welfare systems and perceived threats to their cultural norms and customs. Yet, the developing world’s migrant labour and brains have contributed enormously to the growth and progress of the advanced countries. This is corroborated by World Bank reports on migration and development.

Some in the developing countries have tried to pin the entire responsibility for the debt crisis on external factors such as pandemics, geopolitical disputes and conflicts, climate change, and other global shocks. But these arguments pointing to exogenous factors can only carry so much weight. While it is true that external shocks are partly responsible for the debt crisis, they are not solely responsible for it.

They triggered borrowing to deal with their impacts, for example, with many countries taking out loans to deal with the repercussions of the Covid-19 pandemic. And the external shocks exposed the excessive borrowing of some developing countries and their tendency to leap at reductions in interest rates to take out further loans without proper planning and precautions.

I warned of the situation we see today in articles that appeared in the Arabic newspaper Asharq Al-Awsat in June 2018. “Public debt, which includes external loans, has grown to such an extent as to render the debtor countries vulnerable to interest-rate fluctuations and sudden changes in exchange rates,” I wrote.

“Financial flows to the developing countries and many emerging markets are becoming either volatile or shrinking, caught as they are in the unpredictable ebbs and flows of hot money. This leads to confusion in monetary policies and aggravates the uncertainties surrounding trends in interest and exchange rates.” I emphasised that “those in charge of economic management in the developing countries should take appropriate measures to guard against the risks of upcoming short-term shocks.”

Such external shocks have functioned to accelerate the present debt crisis, which was inevitable after the end of the era of cheap borrowing in the West and was simply waiting to erupt. While loans at low rates of interest, during the period of “low for longer”, were attractive to many developing countries, the monetary easing spearheaded by the US Federal Reserve in response to the Covid-19 pandemic and fears of recession sparked a borrowing bonanza.

However, then inflation struck, bringing the sharpest increase in prices in four decades. So, after some unhelpful hesitation, the Fed followed by other central banks raised interest rates four times in succession, apparently without caring about the adverse impacts and spillovers this would have on developing economies reeling from negative financial flows and declines in foreign direct investment.

The developing countries are now facing a case of  “high for longer” interest rates. In other words, borrowing will not be as cheap as it was before the external shocks with all their crisis accelerating effects. Nevertheless, some countries in the Global South are being summoned by the sirens of the debt market and, like addicts, seem ready to leap at the first opportunity for a further debt fix to distract them from their problems.

They see debt as the cure, rather than the disease. If they need to develop, they borrow. If they need to fight climate change, they borrow. If they try to pay back old debts, they borrow more to do so.

It is time to break this vicious habit. As global inflation settles down and interest rates fall, the countries of the Global South must explore a completely different approach to finance  growth and development. I will be publishing another article on this soon.


This article also appears in Arabic in Wednesday’s edition of Asharq Al-Awsat.

* A version of this article appears in print in the 11 July, 2024 edition of Al-Ahram Weekly

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