In his first working visit to Purdue’s West Lafayette campus since joining the Mitchell E. Daniels, Jr. School of Business, David Malpass met with faculty, students, university leadership, and members of the community and media for wide-ranging discussions on the developing world, currencies, the debt crisis and more.
Malpass joined the Daniels School on January 1, and serves as the school’s Distinguished Fellow of International Finance. He is also the Inaugural Fellow of Global Business and Infrastructure at Purdue@DC.
Between January 17-19, 2024, Malpass gave a public talk on global challenges; served as the school’s Executive Forum speaker that Friday; met with the Purdue Investment Banking Academy; moderated an ECON 370 class discussion on U.S. trade deficits, and more.
What follows is a paper that informed Malpass’ presentations and discussions while on campus.
Stalled Path to Development
by David Malpass
Development is important to everyone because of global interlinkages. Development finance is a key part of development because it helps fund new investment. Here, I’ll describe the development crisis and then focus on the problem of unsustainable debt.
Crisis Facing Development
The outlook for global growth continues to weaken. The World Bank’s January Global Economic Prospects report finds that the global economy is set for its weakest half- decade in 30 years, with growth slowing to 2.4% in 2024 and little improvement in 2025.
Slow growth creates a crisis for development and development finance. The consequences include reversals in education, health, infrastructure, poverty, and median income. The crisis is intensifying. Debt levels have reached new highs, with no real progress in providing debt relief. Russia’s invasion of Ukraine added major new development costs as did the sharp rise in interest rates, prices, and debt service. The weak outlook for growth is particularly devastating for many of the poorest economies, where poverty is rising.
Slow Growth Due to Capital Misallocation
An urgent concern is the weakness in the medium-term outlook for growth and investment. Growth is likely to be well below the rate needed to make progress -- because the current investment rate isn’t enough to even maintain capital stocks, much less increase them. Access to electricity, fertilizer, food, capital and export markets is likely to remain limited for a prolonged period.
An overarching problem is that global capital isn’t flowing to development. It is being misallocated to advanced country governments and to companies that have ample capital. It needs to flow to more productive uses. For now, much of the gain in global wealth is limited to a narrow group. The World Bank’s GEP report estimates that “per capita investment growth in developing economies between 2023 and 2024 is expected to average only 3.7%, just over half the rate of the previous two decades.”
Key obstacles to effective global investment include the huge spending by governments of advanced economies, draining global capital; the international financial regulatory structure that guides capital to advanced country governments and big businesses, not growth; and the unfriendly investment climate in many developing countries. As U.S. Treasury Undersecretary and World Bank President, I advocated specific policy changes that would address these barriers. I’ll focus on three.
First, the advanced economies should restrain excess government spending, recognizing the global cost. Ineffective U.S. government spending is the largest drain on global capital, contributing to the shortage of capital for development. I’ve advocated rewriting the U.S. debt limit law to create stronger checks and balances on government spending and remove the current law’s counterproductive default threat. Spending restraint in the advanced governments would be highly beneficial to development finance.
Second, the current central bank policy framework consists of 1) holding interest rates high for long to offset the damage from holding them low for long; 2) financing long- duration government bonds with short-term floating rate liabilities; and 3) biasing financial regulations in favor of loans to government and big corporations. These three policies directly harm development since development finance is overwhelmingly based on risk-based short-term floating rate debt. As with the fiscal crisis, the central bank crisis is materially slowing global growth. Central banks in advanced economies are maintaining high-rate short-term liabilities of over $15 trillion which are invested ineffectively in their governments. This crowds out other floating rate borrowers.
Third, substantial change must also come from developing countries. They are burdened by lack of access to electricity; currency devaluations that hammer the poor; and the proliferation of subsidies that distort markets, particularly in agriculture, water and energy. They should adopt policies that encourage more investment; improve the business enabling environment and rule of law; increase debt transparency and sustainability; integrate climate and development in ways that increase energy access; and reduce expensive protectionist measures including export bans on food and fertilizers, subsidies, quotas, high tariff rates, and anti-growth regulatory policies.
Stalled Path to Development
None of those three key repairs is under way, so I’m not optimistic about the path for development. The recipe is relatively straightforward, but many populous developing countries – Nigeria, Egypt, Pakistan, Argentina, Ethiopia, DRC, and South Africa to name just a few – are losing ground. Billions of people are likely to see their living conditions worsen.
The drain on world resources caused by the concentration of global capital in the advanced economies is getting worse, and only a handful of developing countries are implementing policies that will cause sustainable growth in median income. There is no process to alleviate these problems despite the proliferation of international institutions and conferences. Development barriers include distortionary currency regimes, devaluations, poor tax systems, fertilizer shortages, lack of access to markets, poor government spending policies, unfavorable regulatory and legal systems, and physical insecurity. At Treasury and at the World Bank, I strongly advocated new initiatives that would lay the groundwork for increased infrastructure investment and ultimately an asset class to lower the cost of infrastructure finance. This will be critical to mobilize the volume of finance needed for growth in developing countries. For now, however, the gap between developed and developing countries is widening, not narrowing.
Debt Problem Overhangs Development Finance
The debt problem in development finance is one of the most problematic because of the size of the drain on the countries, the inability of the international system to restructure the debt, and the continuation of harmful lending practices that perpetuate the problem. Secretive contracts are still common, locking up collateral, imposing escrow accounts, and blurring the quality of the investment by linking the financing. With the failure of the traditional debt restructuring process, bilateral debt deals with China are increasingly common, including through central bank swap lines used for budgetary purposes.
The result is that many developing countries are burdened by unsustainable debt that is often non-transparent and hard to restructure. The World Bank’s December 2023 debt report found that about 60 percent of low-income countries are at high risk of debt distress or already in it. This blocks development. “Developing countries spent a record $443.5 billion to service their external public and publicly guaranteed debt in 2022.”
I highlighted the negative impact of high debt service in my 2018 testimony to the Senate Foreign Relations Subcommittees: “Developing countries need investment to grow, including in infrastructure. But much of the lending to low-income countries is non-concessional, non-transparent, and funneled into poor quality projects. This raised debt burdens without boosting productivity and growth. This, in turn, results in countries diverting scarce budget resources to service high levels of debt and reduces growth prospects and overall economic stability.” November 27, 2018, to Senate Foreign Relations Subcommittee.
My Treasury testimonies in 2017 and 2018 also described the changing composition of sovereign debt -- from syndicated bank loans in the 1980s addressed by Brady bonds; through the official debt crisis of the late 1990s addressed by the HIPC initiative; to the rapid buildup of debt in the 2010s to China and commercial sector creditors. The significance of this evolution was discussed in detail in the World Bank’s Global Waves of Debt report which we launched in December 2019. It advocated changes in the international system to adjust to the new composition of debt, but few changes have been accepted.
We need quicker and more efficient debt restructuring processes. There’s no equivalent of bankruptcy court to address excessive sovereign debt. Many governments face a fiscal crisis and political instability while they wait to resolve unsustainable debt. Blockages by the international bureaucracy are pushing tens of millions into poverty and hindering access to electricity, clean water, and foundational learning skills.
One key is to increase the transparency of debt including terms, collateral, disclosure, and project requirements. There have been (only) a few successes. It was a welcome step in 2019 when Ecuador disclosed its previous oil-related contracts with China, giving the world new insight into China’s loan collateralization and cash escrow. I was pleased that the G7 made progress in 2019-2021 on reconciling debt records with other sources, but disappointed that most of the G20 did not follow the G7 example.
When Covid hit in March 2020, I called for a moratorium on debt payments by the poorest countries. This initiative was absorbed by the G20 apparatus in April 2020 in its Debt Service Suspension Initiative (DSSI). The G20’s DSSI had multiple flaws, undercutting its effectiveness. In particular, the suspension didn’t apply to commercial creditors or to the Chinese government-related lenders that considered themselves commercial. Also, the suspended debt service continued to accumulate interest, leaving much more debt after the DSSI than before. That debt is now coming due at higher interest rates.
Per the World Bank’s December debt report, official bilateral debt service expected from IDA countries is over $29 billion in 2023. That amount was almost as large as IDA’s entire financing commitments, helping explain the complaints of the Global South. The 2023 debt service was nearly triple the $10 billion in 2021. China was due to receive $16 billion in 2023, up from $6 billion in 2021. Increased debt service payments are hitting at a time when financing flows to developing countries have reversed. This leaves developing countries providing more capital to the world than they receive. Lack of development finance and the large debt service outflow severely limit the delivery of services such as health, education and adaptation to climate changes.
The G20’s subsequent Common Framework initiative, launched in late 2020 has failed to resolve key issues. I called for it to speed up the timeline, provide support for a broad standstill on debt payments, insist on early debt reconciliation and sharing of the World Bank/IMF Debt Sustainability Analysis, and discuss in detail how to handle penalty interest, interest on arrears, cut-off dates, and the perimeter of the debt to be restructured. Little progress has been made on this.
The global landscape is littered with the failures of the G20’s Common Framework. After years of delay, Chad finished its debt negotiations without any relief or prospect of relief (though the international community claimed success); people in Zambia have been waiting three years; and two years into Ghana’s restructuring process, progress is agonizingly slow with the debt reconciliation process having been completed just recently. After a long wait and many debt payments, Ethiopia has defaulted. Suriname and Sri Lanka are moving bilaterally with China after a frustrating experience with the international system.
Comparability of treatment among creditors was called for in the Common Framework but is still a key sticking point three years later, contributing to the breakdown of the Zambia restructuring in 2023 over the comparability of the bilateral agreements with those proposed by the private sector. The IMF pointed out in a December New York Times article that the IMF’s role is limited: it is providing input on whether different proposals meet debt sustainability and program targets but isn’t involved in deciding what constitutes comparable treatment.
Possible Steps on Debt Crisis
The international debt system is primarily organized to protect creditors rather than encourage development. There is little interest in the international community in taking the transformative steps needed to create a more balanced system. This gives China, as the largest creditor, increasing power in sovereign debt restructurings, development institutions, and developing countries.
As World Bank President, I advocated changes in the G20's Common Framework including earlier inclusion of debtors and private sector creditors and debt restructuring committees that were led by active creditors rather than traditional creditors in the debt restructuring process. This would be an important step toward accountability for delays.
To try to break through the gridlock in the G20's Common Framework, I asked world leaders to allow the IMF and World Bank to advocate debt relief and play a bigger role in helping creditors agree on a clear and transparent methodology on how to assess and implement comparability of treatment. This approach was rejected in favor of the status quo.
I along with IMF Managing Director Giorgieva initiated the Global Sovereign Debt Roundtable at the end of 2022. My hope was that it become a mechanism to facilitate debt reduction and encourage steps to improve the process. It has met several times but doesn't have a mandate from world leaders to make progress.
To conclude, I've outlined the crisis facing development and some of the major problems and solutions. Global growth is dangerously slow and expected to remain slow. That’s in part because advanced country governments are absorbing huge amounts of capital but not generating much growth. Many indicators of development are going backward, and many countries are facing unsustainably high debt burdens. For many poorer countries, debt service is too high and investment too low to gain ground. Resolving the debt impasse is a critical step in expanding development finance. Major changes in the international system are needed to match the shift in the composition of debt toward China and the private sector, but there’s been little progress. This leaves a grim outlook for the hundreds of millions of people living in countries that don’t have a path to debt relief or growth.