IMF warns of climate-linked debt crisis

4 min read
Christopher Spink

The International Monetary Fund has warned that countries could see their debt burdens increase significantly relative to their GDP if they only use conventional budgetary measures, such as green subsidies, to meet essential climate pledges to achieve net-zero emissions by 2050.

The IMF’s fiscal monitor, to be published at its meeting in Marrakesh next week, will highlight that the ratio of public debt to GDP will rise by up to 50% without the use of other non-conventional measures such as debt swaps and carbon pricing to reach this mid-century goal.

“Climate action presents policymakers with difficult trade-offs. Relying mostly on spending measures and scaling them up to deliver on climate ambitions will become increasingly costly,” said the monitor’s authors.

Instead, countries should consider carbon pricing to help reduce emissions, effectively charging polluters more and giving credit to those energy users and producers turning to alternative sources and thus offsetting their carbon use.

“No single country can solve the climate threat alone. Nor can the public sector act by itself. The private sector has to fulfil the bulk of the climate financing needs,” it said.

The rush to get to net zero would hit developing countries more since they already have large and increasing debt costs, said the monitor.

“Such an increase in debt would be particularly challenging for most emerging market and developing countries in light of already high debt and rising interest costs, alongside sizeable adaptation needs and aspirations to achieve the sustainable development goals,” it said.

“To navigate these challenges, governments must enhance spending efficiency and build greater capacity for raising tax revenues by broadening the tax base and improving fiscal institutions.”

Last month, African governments called at a meeting in Nairobi for a greater partnership with advanced economies to address climate change, through measures such as climate-linked debt swaps.

“We call for a comprehensive and systemic response to the incipient debt crisis outside default frameworks to create the fiscal space that all developing countries need to finance development and climate action,” they said in the Nairobi Declaration on climate change.

Cutting emissions

Separately, the IMF’s Global Financial Stability Report, to be published next week as well, said around two-thirds of greenhouse gases were currently emitted by emerging market and developing economies.

It estimated that these countries would need around US$2trn annually by 2030 of spending to meet net zero by 2050. It recommended that 80% of that came from the private sector rather than public purses, which were already under pressure.

The report noted several barriers to achieving this. “While China and other larger emerging economies have the necessary domestic financial resources, many other countries are missing sufficiently developed financial markets that can deliver large amounts of private finance,” it said.

“Attracting international investors also faces hurdles, as most major emerging market economies and almost all developing countries lack the investment-grade credit ratings that institutional investors often require.”

Multilateral development banks are increasingly keen to help fill this gap by providing guarantees to issuers in these countries in order to attract private sector finance. The report’s authors welcomed these initiatives.

“More extensive public-private risk sharing is critical to foster climate private investments in emerging markets and developing economies. Multilateral development banks and donors can play an important role in supporting blended finance,” it said.

Last month’s Nairobi Declaration also mentioned multilateral finance reform as necessary but said it alone was “not sufficient to provide the scale of climate financing the world needs” to meet existing net-zero pledges.

The IMF report also noted that phasing out coal power plants could pose a problem in these countries, since most were “still relatively young”.

“Retiring or repurposing them requires large amounts of private investment and public support. Some countries are highly dependent on coal and would need to develop alternative sources of energy relatively quickly,” it said.