Claudio Santisteban/picture-alliance/dpa/AP Images
A woman works to distribute food to the needy in Buenos Aires, Argentina, August 10, 2022. The country’s rate of inflation reached nearly 80 percent in September.
On a trip to Washington last month, Barbados Prime Minister Mia Mottley met with U.S. Treasury officials to discuss the financial stress spreading across emerging markets.
The circumstances of the visit were grim. As the Federal Reserve hikes interest rates, the value of the dollar is surging, making it more expensive for poor countries to service dollar-denominated debt and import basic goods. In its annual report on the global economic outlook, released yesterday, the United Nations Conference on Trade and Development (UNCTAD) said that central-bank rate hikes threaten to set off a policy-induced global recession.
The souring economy has prompted investors to withdraw a record $70 billion from emerging-market bond funds this year, according to J.P. Morgan. In Egypt, a major wheat importer, foreign investors pulled back billions in the first months of 2022. In Pakistan, even before last month’s catastrophic flooding, the IMF predicted that the government’s external debt payments would reach 47 percent of revenue by next year.
Mottley, who has emerged as a leader for developing countries threatened by climate change, was pitching a set of relatively pragmatic asks. Her Bridgetown Agenda leaves out some of the loftier demands of development activists, focusing on a handful of technical changes to lending policy and short-term proposals for emergency financing. It comes ahead of next week’s annual meetings of the IMF and World Bank, where the U.S. is the biggest shareholder. Mottley’s immediate proposals include giving excess special drawing rights (SDRs), an IMF-issued form of currency, to countries in distress, and reinstating the IMF’s crisis-era rapid financing facilities.
But Mottley’s team faced polite dismissal. Congress looks unlikely to authorize sending SDRs to poorer countries, and the Treasury is resisting calls to provide emergency liquidity.
“Just pouring unconditional money at this point is not going to help most countries, with the exception of those who are clearly suffering from food insecurity and need to get that money right away,” a Treasury official told the Prospect in an interview. “Our view at this point is that after more than two years of the COVID pandemic, and now with the effects of Russia’s war on food and energy prices, countries are facing more protracted needs that really fit within a standard IMF program.”
Emphasizing that economic disruptions could stick around, the official pointed to a new borrowing program just launched by the IMF for countries facing food price shocks, but indicated that expanding the IMF’s rapid credit and financing facilities is unlikely.
Avinash Persaud, an economic adviser to Mottley who previously led currency and commodity research at J.P. Morgan, told the Prospect that in addition to long-term programs, developing countries need immediate financing to address a bevy of shocks. At some level, Persaud suggested, the limited food price support is a giveaway that a bigger liquidity crisis is at hand.
“What is a food lending window but a short-term liquidity response to food prices? We don’t need ten-year loans to buy food for today,” Persaud said. “Going into lengthy negotiations on conditional loans is not the appropriate response.”
THE U.S. IS CURRENTLY TRANSMITTING its domestic economic policy to the rest of the world. America spent more than any other country on coronavirus relief, and has recovered more quickly than countries that face tighter constraints on their ability to finance investment in public health. Some countries anticipated and sought to head off U.S. tightening by raising interest rates before the Fed, and now central banks around the world are hiking to keep up.
All this leaves the growth of poorer countries at the mercy of what is now happening to the dollar—a responsibility the Fed is not eager to embrace. At a news conference last month after lifting the federal funds rate, Fed Chair Jerome Powell said that the central bank takes into account the possibility for “international spillovers,” but said it would continue to raise interest rates to quell inflation.
It might be surprising that the dollar is still so tightly linked to the fate of emerging markets at all. Historically, run-ups in the dollar have slowed global economic growth and prompted recessions in developing countries. That dynamic has persisted over the last 50 years, new research by economists at Princeton and UC Berkeley shows, even as the U.S. share of world GDP has declined.
A fundamental reason, the researchers found, is that “the volume of international financial transactions has exploded compared with directly trade-related transactions.” The breakneck growth of financial markets, where the U.S. is dominant, has meant that decisions made domestically in developing countries depend on fluctuations in the dollar.
Shadow banks are also amplifying the downturn. The ebb and flow of capital to developing countries has become even more volatile in recent years as non-bank financial institutions (NBFIs), such as investment funds and insurers, loaded up on emerging-market debt. Between 2010 and 2019, debt provided by NBFIs to emerging markets excluding China roughly doubled as a share of GDP. Those funds are particularly liable to flee in crisis.
The events that send any one country into default can be idiosyncratic and unpredictable. But as central banks raise interest rates to keep up with the dollar, UNCTAD predicts continued social unrest, more food riots, and a global slowdown that could skid into recession.
Richard Kozul-Wright, the report’s lead author, told the Prospect that rate hikes will carry a huge cost in lost wages, government revenue, and growth. He favors policies aimed at easing supply bottlenecks through greater investment.
“We’re facing a series of interlocked supply-side shocks. If you’re going to use policies that work through the demand side, which is what monetary policy does, then you’re going to have to really trash the economy to pull down the inflation rate,” he said.
While hiking rates to contain surging inflation may now be necessary medicine for the U.S. domestically, many development economists argue that policymakers should blunt the consequences of rate rises for the rest of the world by providing liquidity and investment through multilateral institutions.
INDEED, THE BIDEN ADMINISTRATION HAD PLEDGED to help ease the pain in emerging markets.
In 2021, the IMF issued $650 billion in SDRs, a reserve asset that poor countries can cash in for dollars. Because of the IMF’s structure, they went mostly to the richest member states, with low-income countries receiving just $21 billion. But rich members like the United States can send their SDRs, which sit unused, to poor countries facing the currency crunch.
After last year’s issuance, the G7 said it would aim to redistribute $100 billion of its own SDRs to the poorest countries. The idea was to do this through the new Resilience and Sustainability Trust (RST), a program geared at climate and pandemic relief that will operate alongside the existing Poverty Reduction and Growth Trust (PRGT).
Yet the United States has not contributed any funds. Treasury has asked Congress for authorization in next year’s budget to lend up to $21 billion to the IMF, which would go to the PRGT and the RST. The U.S. already possesses the SDRs, so Treasury just needs legal authorization to push it out. But the administration is not optimistic.
“Others are really looking to us to come up with our money,” the Treasury official said, since the U.S. delivering its portion of the pledge could prompt other countries to do the same. Several analysts said that if the full sum is rechanneled, it could go a long way toward compensating for capital flight in this contractionary phase of the financial cycle.
“$100 billion is actually a quite significant number relative to the amounts that the international bond market made available to low-income countries before the pandemic,” Brad Setser, a former Treasury staff economist who was until recently an adviser to the U.S. trade representative, told the Prospect. “It is a big enough sum of money to make a real difference.”
Congressional opposition to SDR rechanneling stems from concerns about aiding geopolitical enemies. Hawkish lawmakers like Sen. John Kennedy (R-LA) argue that the money will go to “bad actors” like Venezuela and Iran. Others say rechanneling existing SDRs will open the door to demands for a fresh issuance, which lawmakers including Sen. Elizabeth Warren (D-MA) and Rep. Pramila Jayapal (D-WA) have called for.
Treasury still lacks a Senate-confirmed undersecretary for international affairs, which has limited its ability to push Congress. “We are as frustrated as anyone on our inability to get that authorization,” the official said.
For now, Mottley’s longer-term proposals look even more remote. She is urging the U.S. to consider calls to lower capital requirements at development banks in order to boost lending capacity, an idea supported in an independent report prepared for the G20 major economies.
The biggest development banks hew to ultraconservative risk metrics. They could free up more than $1 trillion in lending capacity, analysts say, with technical tweaks to the way they calculate capital adequacy. For example, they could include callable capital, shareholder guarantees to pay debt obligations in an emergency, in those calculations.
“We don’t have a firm position right now on any of these issues, but think they all deserve attention,” the Treasury official said.
