MSc International Development and Humanitarian Emergencies student, Milinda Mishra looks at the Bretton Woods’s influences on climate debt.
A delightful paradox that could very well serve as the plot for a Kafkaesque satire: 71 percent of climate finance continues to be provided in the form of debt . Compounding the issue, loans extended to low-income nations already burdened by climate change often come with higher interest rates compared to those offered to developed countries. Consequently, when calamities occur, these nations experience abrupt surges in debt, contributing to AKA “the climate debt.” Today amid a landscape of global crises—including escalating climate-related disasters, the ongoing Covid-19 pandemic, the Ukrainian conflict, and a burgeoning cost-of-living crisis—approximately 55 percent of countries eligible for the Poverty Reduction and Growth Trust (PRGT), and around 30 percent of emerging market economies, find themselves in debt distress. One might reasonably expect the Bretton Woods Institutions (BWIs) would toss out life jackets or, at the very least, sturdy rowboats to keep these floundering economies afloat. Instead, these countries are offered what every sinking ship needs—an umbrella!
The critique of the role of Bretton Woods Institutions (BWIs) in perpetuating the climate debt trap in Least Developed Countries (LDCs) as argued here rests on three arguments: the prioritization of debt-financed development models; the compound effect of sovereign debt and climate change on capital costs for public investment; and lack of transparency & accountability. The first argument focuses on the historical predisposition of Bretton Woods Institutions (BWIs) toward debt-financed development. Such an approach may ostensibly aim to spur economic growth, but the flip side of the coin is the accumulation of sovereign debt. This has two significant repercussions. Firstly, the amassed debt restricts the fiscal space available for countries to allocate resources to different sectors, including climate resilience and mitigation strategies. Secondly, debt repayment obligations impinge upon the policy autonomy of nation-states, thereby subjugating them to the demands of external financial institutions.
A pivotal report rise in the incidence of tropical storms led to an increased government debt in 90% of cases within two years. With the rise of frequency of climate-related disasters leads to higher loan interest rates for these countries, trapping them in a cycle of climate debt. For instance, Belize’s debt doubled from 47 percent to 96 percent of GDP after storms in 2000 and 2001, while Grenada’s rose from 80 percent to 93 percent post-Hurricane Ivan in 2004. Similarly, Mozambique’s debt surged due to cyclones Idai and Kenneth and with the IMF granting loans more than $118 million was added to the country’s debt. It’s akin to residing near a volcano and being charged a hefty premium for fire insurance.
The second argument highlights the interconnection between debt and climate change, focusing on how the challenges compound each other, thereby escalating costs on multiple fronts. With high-interest rates, LDCs find the capital costs for public investments to climate resilience scaling up. Which eventually results in lack of investment climate infrastructure and sets the stage for more climate-induced disasters, necessitating yet more emergency loans. This is not so much a vicious circle as it is a finely-crafted Moebius strip, of financial entrapment.
The third argument critiques that the World Bank Group’s existing policy of categorizing concessionary loans as climate finance without accounting for interest payments and additional fees deserves critical scrutiny for its potential to obscure the true financial burden on borrowing nations. This policy is particularly contentious when considering the demographic of countries often in need of such climate finance—those that are economically vulnerable and disproportionately impacted by climate change. The institution defends its current methodology, positing that the costs of interest payments and additional fees are integral to accessing development bank financing. It argues that including these elements in the climate finance figures would “distort” the actual financial contributions made for climate resilience and mitigation. However, this definition seems to lack a comprehensive view of the real-world implications of such a policy, especially concerning transparency and accountability. By not including the “hidden costs” represented by interest payments and additional fees, the World Bank Group’s portrayal of its climate finance contributions can be argued to be misleading.
The systemic dysfunction in Bretton Woods institutions (BWIs), leading to climate-related debt and economic disparity in the least developed countries (LDCs), can be traced back to structural issues related to governance and loan conditionality. The Bretton Woods institutions (BWIs), despite reforms, continue to perpetuate climate-related debt and economic disparities in least developed countries (LDCs). The 2016 reforms modestly increased China’s voting power, yet the U.S. maintains its unilateral veto, preserving an entrenched power imbalance. Attempts at equitable decision-making, like double majority voting, are often neutralized by informal agreements among the U.S., European nations, and other developed countries. One might frame this situation as a certain “historical inertia,” a persistent reluctance to redistribute power equitably, thereby perpetuating the debt cycle in LDCs. In addition to that, some empirical studies by scholars such as Broz, and Bird have demonstrated that loan terms often reflect the interests of creditor countries far more than the specific needs or conditions of debtor nations. These so-called ‘recommendations’ function more as mandates that restrict the policy options available to LDCs. Far from being neutral, these conditions serve to align more closely with those of creditor nations and often work in the detriment of the LDCs development objectives.
The relationship between climate vulnerability and sovereign debt, managed by the Bretton Woods Institutions (BWIs), offers a riveting case study in the irony of institutional intent versus impact. However, if their goal is to genuinely promote global financial stability and climate resilience, then the current modus operandi of the Bretton Woods Institutions must undergo a radical transformation. However, it seems currently they are stuck in “Historic Inertia” and perpetuate the pre-existing power dynamics, reinforcing a hierarchy as old as the institutions themselves. The result? Least Developed Countries (LDCs) find themselves ensnared in a ceaseless tempest of economic and climatic challenges. While the Bretton Woods say, “An umbrella anyone”.
The views expressed in this post are those of the author and do not reflect those of the International Development LSE blog or the London School of Economics and Political Science.
Image credit: World Bank Photo Collection via Flickr.
