Resilience Healing the Fractures - SEPTEMBER 2020 - International Monetary Fund
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SEPTEMBER 2020
Reinhart and
Rogoff on debt P.12
Conquering the
great divide P.17
Race in
FINANCE AND DEVELOPMENT economics P.36
Resilience
Healing the Fractures
I N T E R N A T I O N A L M O N E T A R Y F U N D
Contents
We must use
this crisis to
build new
and stronger
bonds, in our
communities,
in our
countries,
4 and globally
RESILIENCE: HEALING THE FRACTURES
4 Rethinking Global Resilience 20 Cultivating Global
The pandemic is straining economic and social fault Financial Cooperation
lines: the only remedy is international cooperation The current crisis highlights the urgency of
Ian Goldin strengthening the global financial architecture
Barry Eichengreen
10 Knightmare Uncertainty
In the COVID-19 world, risk has become riskier 24 Overhauling Health Systems
Geoffrey Okamoto As countries’ first line of defense against a crisis,
health systems need to be strengthened
12 The COVID-19 Debt Pandemic Genevie Fernandes
New tools are needed to handle a coming wave of
debt restructuring 28 Investing in a Green Recovery
Jeremy Bulow, Carmen Reinhart, Kenneth Rogoff The pandemic is only a prelude to a
and Christoph Trebesch looming climate crisis
Ulrich Volz
17 Conquering the Great Divide
The pandemic has laid bare deep divisions, but it’s 32 What Racism Costs Us All
not too late to change course Addressing systemic racism is a moral imperative; it
Joseph Stiglitz can also make economies stronger
Joseph Losavio
Subscribe at www.imfbookstore.org/f&d Read at www.imf.org/fandd Connect at facebook.com/FinanceandDevelopment
FINANCE & DEVELOPMENT
A Quarterly Publication of the International Monetary Fund
September 2020 | Volume 57 | Number 3
DEPARTMENTS
48 People in Economics
Economics Agitator
Bob Simison profiles University College London’s
Mariana Mazzucato, tireless proponent of
government-led innovation
52 In the Trenches
Staying the Course
42 Jamaica’s former central bank governor Brian Wynter
explains the challenges of modernizing monetary policy
58 Picture This
ALSO IN THIS ISSUE
Food Insecure
36 Race in Economics The viral pandemic is bringing a new global hunger crisis
Economists and policymakers need a wake-up call to Adam Behsudi
root out racial discrimination
60 Back to Basics
Martin Čihák, Montfort Mlachila, and Ratna Sahay
What Is Debt Sustainability?
39 Friend or Foe? Many factors go into assessing how much debt a
Technology can boost either resilience or inequality, developing economy can safely carry
depending on how much you have of it Dalia Hakura
Andreas Adriano
62 Book Reviews
42 Portraits of Resilience Angrynomics, Eric Lonergan and Mark Blyth
Three people cope with change as the pandemic The Economics of Belonging, Martin Sandbu
upends their world
Raphael Alves, Ariana Lindquist, and K. M. Asad 64 Currency Notes
54 An Ounce of Prevention Making History
Our approach to vaccine finance Tunisia honors the country’s first female physician
is ill-suited to addressing epidemic risks on its 10 dinar banknote
David E. Bloom, Daniel Cadarette, Melinda Weir
and Daniel L. Tortorice
54
PHOTO: TANIA/CONTRASTO/REDUX
48
September 2020 | FINANCE & DEVELOPMENT 1
EDITOR'S LETTER FINANCE & DEVELOPMENT
A Quarterly Publication of the
International Monetary Fund
EDITOR-IN-CHIEF:
Gita Bhatt
MANAGING EDITOR:
Maureen Burke
SENIOR EDITORS:
Andreas Adriano
Adam Behsudi
Peter Walker
DIGITAL EDITOR:
Rahim Kanani
ONLINE EDITOR:
Lijun Li
Cracks PRODUCTION MANAGER:
Melinda Weir
COPY EDITOR:
of Light Lucy Morales
ADVISORS TO THE EDITOR:
Bernardin Akitoby Rupa Duttagupta
WHEN THE WORLD returns to work, we face many unknowns. Will jobs come Celine Allard Tommaso Mancini Griffoli
back? How will we travel again? What will recovery look like? Much is still a Bas Bakker Gian Maria Milesi-Ferretti
Steven Barnett Christian Mumssen
question mark. What we do know is that the age of COVID-19 has painfully Nicoletta Batini İnci Ötker
exposed and widened existing economic and social divisions and created new Helge Berger Catriona Purfield
ones. It has accentuated disparities among workers, especially the young, Paul Cashin Uma Ramakrishnan
Luis Cubeddu Abdelhak Senhadji
female, and least educated. It has made more acute frailties in public health Alfredo Cuevas Alison Stuart
systems, the precariousness of work, and the digital divide. It has challenged Era Dabla-Norris
governments, which now face higher spending needs and ballooning debts.
And it has brought to light the simmering issue of racial injustice. © 2020 by the International Monetary Fund. All rights reserved.
For permission to reproduce any F&D content, submit a request
Yet this crisis and the fault lines it is exposing are inspiring calls for a via online form (www.imf.org/external/terms.htm) or by e-mail
rethinking of our priorities and reconsidering the very structure of the to copyright@imf.org. Permission for commercial purposes also
world economy toward a future that is more equitable, adaptable, and available from the Copyright Clearance Center
(www.copyright.com) for a nominal fee.
sustainable—more resilient. This issue of F&D gives voice to diverse con-
tributors on what needs to be done. Opinions expressed in articles and other materials are those of
the authors; they do not necessarily reflect IMF policy.
“The networked problems of our time are amenable to networked solu-
Subscriber services, changes of address, and
tions,” writes Ian Goldin, making the case for international cooperation advertising inquiries:
not only among governments but also in civil society and business. Joseph IMF Publication Services
Stiglitz argues for rewriting the rules of the economy to protect workers and Finance & Development
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the environment, calling for greater global and national solidarity. Carmen Washington, DC 20090, USA
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E-mail: publications@imf.org
digital technology, climate, and public health, including vaccine development.
The post-pandemic world will be transformed in important ways. If the Postmaster: send changes of address to Finance & Development,
International Monetary Fund, PO Box 92780, Washington, DC
crisis prompts a radical reset of our economic and social life with policies 20090, USA.
that invest in people and reflect a shared sense of our fate as human beings, The English e dition is printed at Dartmouth Printing Company,
so much the better. The world will emerge resilient from this dark chapter. Hanover, NH.
In the words of songwriter Leonard Cohen, “There’s a crack in everything, Finance & Development is
that’s how the light gets in.” published quarterly by the
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GITA BHATT, editor-in-chief 20431, in English, Arabic, Chinese,
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English edition ISSN 0145-1707
ON THE COVER
Our September 2020 issue shines a light on the fault lines exposed by the COVID-19 crisis
while holding out hope that the world will emerge resilient. Illustrator Davide Bonazzi’s
cover likens that resilience to a green shoot bursting forth from the parched earth.
2 FINANCE & DEVELOPMENT | September 2020
Ending Waste
in Public Investment
Well Spent addresses how countries can attain quality infrastructure outcomes
through better infrastructure governance. The authors cover critical issues
such as infrastructure investment and Sustainable Development Goals,
controlling corruption, managing fiscal risks, and identifying best practices in
project appraisal and selection. Emerging areas in infrastructure governance,
such as maintaining and managing public infrastructure assets and building
resilience against climate change are also reviewed in the book.
“High-quality and well- “Infrastructure investment,
functioning infrastructure is including now health
crucial to the achievement of infrastructure, is going to be
the Sustainable Development central to national economic
Goals (SDGs). Much of it will strategies. Quality of investment
come from the public sector. gets much less attention but is
To achieve the quality and probably more important that
quantity necessary for the quantity investment. This very
SDGs, sound governance is valuable book has important
crucial.. This book offers a very lessons for countries ranging
thoughtful and instructive from Chad, to China, to the
account of the governance United States and every place in
that is necessary to turn between.”
aspiration into action. It is a LARRY SUMMERS, Professor
most valuable contribution.” and President Emeritus,
NICK STERN, LSE and Harvard University
Grantham Research Institute
on Climate Change and the
Environment
$35. Fall 2020. Paperback. ISBN 978-1-51351-181-8
To learn more visit bookstore.IMF.org
I N T E R N A T I O N A L M O N E T A R Y F U N D
4 FINANCE & DEVELOPMENT | September 2020
RETHINKING
GLOBAL
RESILIENCE
The pandemic is straining economic and social fault lines:
the only remedy is international cooperation
Ian Goldin
September 2020 | FINANCE & DEVELOPMENT 5
A n infected passenger flies from
Wuhan to Milan, a computer
virus invades an internet con-
nection, subprime defaults in the
US Midwest trigger a global eco-
nomic crisis. The super-spreaders
of the goods of globalization—
airport hubs, fiber-optic cables,
global financial centers—are also
the super-spreaders of the bads.
This is the “butterfly defect” of
globalization, the systemic risk
endemic to our hyperconnected
world, in which small actions in
one place can spread rapidly to
have global effects.
My book The Butterfly Defect
shows why globalization creates
systemic risks. It also shows why
stopping globalization will not
stop global threats but rather will amplify them.
There is no wall high enough to keep out cli-
mate change, pandemics, and other catastrophic
risks. But high walls undermine the potential for
cooperation required to manage our shared risks.
Protectionism reduces investment, trade, tourism,
and technological advances, which create jobs and
higher incomes, reducing the capacity of countries
to build resilience. The solution is in working
together to make globalization safe and sustainable,
not in working against each other.
Leadership is required to manage the negative
dimensions of globalization and harvest the positive,
to ensure progress is not overwhelmed by common
threats. Resilient systems are only as strong as their
weakest links. Stopping the next pandemic, which
could be even worse than COVID-19, must be a
priority. This requires reinforcing and reforming
the World Health Organization (WHO) to give it
the governance, staff, and capacity it needs to be the
doubting the pandemic threat, the slower-moving
but accumulating dangers posed by climate change
require equally concerted action.
The pandemic has highlighted our lack of
immunity to natural threats, but also created an
opportunity to reset our economies. There is no
shortage of ideas regarding green stimulus policies,
which offer the potential to build back better and
accelerate the transition from fossil fuels. Global
protests, from climate to race, have demonstrated
the appetite for fresh thinking. And COVID-19
has also demonstrated that citizens are prepared
to change their behavior when required to do so.
All that remains is for governments to act.
Networked solutions needed
COVID-19 has highlighted the pressing need for
better global risk management. So too has esca-
lating climate change. As did the financial crisis.
Urgent reform is required to tame the butterfly
defect of globalization.
These networked threats require changes in all
parts of the system. Action must begin with us as
individuals changing our behavior—for example
by wearing masks and weaning ourselves off fossil
fuels. Resilience cannot be delegated to others. It
is everyone’s responsibility. Firms should value a
prudent level of spare working capital as a valuable
investment in resilience, not just as excess fat to
be trimmed to maximize leverage. Minimizing
the amount of capital or spare capacity tied up
through just-in-time or lean management systems
can undermine resilience. Regulators should note
the lessons from the Eyjafjallajökull volcano, the
Tohoku tsunami, Hurricanes Katrina to Maria,
and now COVID-19—that widespread leanness
can multiply into systemic fragility.
Our financial, digital, trade, and other systems
are intertwined through complex networks. The
intersecting nodes and hubs are concentrated in
world’s rapid-response fighting force on global health. specific locations, such as global financial centers
In recent decades, globalization has led to revo- and major ports and airports. The concentration
lutionary changes that have outstripped the slower of logistic or other nodes in one location makes
evolution of institutions, causing a widening gap them vulnerable, as does the concentration of
between our increasingly complex systems and key personnel and information in headquarters
our methods for managing their risks. As we saw buildings. Resilience can be enhanced by greater
with the financial crisis and now with COVID-19, geographic diversification, but its benefits have not
systemic risks can quickly overwhelm processes yet found their way into competition policy or risk
that previously appeared robust. While there is no management strategies.
6 FINANCE & DEVELOPMENT | September 2020
THEME
RESILIENCE
TITLE
A growing number of shareholders and manag- consequences come from 20 percent of causes),
ers of forward-looking firms have expressed their since a small set of actors can usually resolve a
desire to improve their companies’ resilience to large part of any problem. And those that con-
systemic shocks. And politicians are similarly tribute the greatest share of the problem have
keen to improve the resilience of the public sector. the greatest responsibility to resolve it. A small
Although welcome, this requires deeper analysis, number of countries and companies account for
including to determine how much resilience, and well over two-thirds of carbon emissions. New York
to what; firms and governments do not have the state accounts for more carbon emissions than 45
financial or other resources to insulate themselves African countries. It also consumes more antibiotics
totally from all possible shocks. than all these nations combined. As the Oxford
Resilience can be improved by decentralization, so Martin Commission for Future Generations report
that individuals, businesses, and countries are empow- “Now for the Long Term” argues, a C20-C30-C40
ered to make their own decisions. The principle of partnership of the largest countries, companies,
subsidiarity is, however, a complement not a substitute and cities would include enough key players to
for higher levels of authority. Overarching principles make a significant difference in addressing climate
are necessary for risk management, and for global change. The success of coalitions that emerged to
systemic risks. This requires that countries yield some tackle ozone depletion or reverse the tide of HIV/
autonomy to supranational institutions. Countries AIDS provides inspiring insight into the ability of
that have assiduously followed the guidelines of the coalitions of committed citizens, companies, and
WHO have done best, whether they are relatively countries to make a difference, bolstering the efforts
poor, such as Vietnam, or richer, such as Canada. Stark of the United Nations and multilateral institutions.
differences in the management of COVID-19 have
demonstrated the importance of operating at multiple Global governance
levels to contain risk and that robust international, in the 21st century
national, subnational, and local actions are required. Multilateral institutions can only be as effective as
Multilateral institutions should be at the apex their shareholders allow. In response to the COVID-
of this layered approach. Yet there remains a set 19 crisis, the IMF has streamlined its processes and
of orphan issues with no institutional home. A provided unprecedented support for its members.
number of international agencies provide analysis But not all institutions have been able to rise to the
and information on climate change, such as the challenge, and developing economies remain in
International Panel on Climate Change. But there dire need of additional multilateral support. The
is no global institution with decision-making and WHO should be the world’s rapid-response force on
enforcement power to coordinate responses. There global health but has been undermined just when
also is no major global organization working on it is needed most. And while global trade could use
cybercrime, even though a single computer virus, a shot in the arm, the effectiveness of the World
such as WannaCry or NotPetya—whether pro- Trade Organization is stymied by trade wars and the
duced by organized state agencies or lone-wolf blocking of much-needed appointments and reforms.
individuals—can spread globally and cause billions China-centered institutions are becoming increas-
of dollars of damage within days. This threat, like ingly important, including the Asian Infrastructure
that of extremist ideologies and the subversion Investment Bank and the constellation of bilateral
of democracy or vaccination campaigns through agreements forming the Belt and Road Initiative.
fake news, is spread opportunistically through Working with these institutions, rather than against
the digital networks of globalization. While these them, is essential, as solving global problems requires
threats transcend national borders, as do the threats more firepower and coordination. More diverse per-
posed by climate change, pandemics, and terrorism, sonnel also bring greater effectiveness and legiti-
current responses are predominantly national (or macy, with broader engagement providing a source
regional, in the case of the European Union). of strength rather than anxiety.
Significant progress can still be made using the In addition to the rise of new powers and the
Pareto principle (which states that 80 percent of inclusion of more diverse government views, the
September 2020 | FINANCE & DEVELOPMENT 7
Airlines and the Pandemic
The initial spread of the virus was aided by the international flight network.
International air routes Low-high COVID-19 deaths per population by March
Sources: Deaths – Our World in Data; Flights – OpenFlights.org.
growing role of private companies needs to be we must confront the four meta-horsemen: short-ter-
factored into the global architecture. Amazon Web mism, nationalism, cost, and capture. Electorates
Services and Google Cloud are now systemically can prevent governments taking long-term actions
important financial infrastructure, while Amazon and may support protectionist policies, while gov-
Marketplace is critical for commerce. Facebook ernments themselves have only limited finances and
has emerged as a dominant distribution system feel the need to prioritize the urgent issues of the
for public health information, and Alibaba for day rather than vitally important looming issues.
personal protective equipment; Apple and Google COVID-19 shows that where there is a will, all
lead Western attempts at app-based contact tracing. four meta-horsemen can be overcome. Politicians
As ever, the next crisis will not conform to our old have a limited attention span and focus on the
mental maps; establishing partnerships with those who issues of the day, but electorates shaken by COVID-
understand the new landscape is vital to prepare for 19 will demand long-term solutions. Leaders in the
it. But the private sector is not always benign, and we United States, the United Kingdom, Russia, Brazil,
require independent regulators who are able to control and beyond are facing growing criticism over their
the rising power of superstar firms. A constant renewal responses to the pandemic; voters will not forgive
of technical expertise is also necessary to ensure that governments caught unprepared a second time.
the experience of the financial crisis, when experts and Nor will history forgive a generation of leaders
regulators failed to understand credit derivatives, is who fail to prevent catastrophic climate change. As
not repeated with newly emergent threats. the inspiring leaders who forged a new world order
while fighting World War II taught us, it is possible
Four meta-horsemen to focus on both short-term and longer-term chal-
What are the biggest barriers to reform of global lenges simultaneously. The shareholders of global
institutions? We can fight pestilence, war, famine, institutions, and of private companies, need to do
and death—and we have in the past—but to do so the same thing.
8 FINANCE & DEVELOPMENT | September 2020RESILIENCE
The next crisis will not conform to our old mental maps;
establishing partnerships with those who understand the
new landscape is vital to prepare for it.
The COVID-19 health and economic emergen- Union, which has taken on a wide range of national
cies demonstrate that coordinated global efforts responsibilities. Crisis can be a catalyst. The United
are required. To stop boomerang infections takes Nations, IMF, World Bank, Marshall Plan, and
international cooperation on vaccines. To overcome welfare state were all forged in the fires of World
chronic shortages of skilled doctors and nurses we War II. In recent months the IMF has approved a
need immigrants. And to address climate change, record number of loans in record time, with fewer
stop future financial crises, and overcome poverty conditions attached, while its staff was working
we must harvest the benefits of globalization while remotely. National governments have torn up the old
resolutely remedying its weaknesses, not least the rulebooks to provide direct support to workers and
butterfly defect of systemic risk. firms. What once seemed impossible has been done.
Resources are available in high-income coun- The devastation caused by COVID-19 compels
tries—governments and electorates simply need to us to redouble our efforts to create a fairer and
reorder their priorities. Governments around the more inclusive world. This requires that we address
world allocate an average 6 percent of their expendi- the threats that endanger our lives and exacerbate
tures to the military but less than one one-hundredth inequality, poverty, and climate change. Building
of this amount to the prevention of pandemics, a resilient and sustainable future requires action
despite their much greater threat to the population by all of us, from the individual level up to the
than war. At the international level, the budget of global level. International cooperation is vital not
the WHO is less than that of a single major hospital only between governments, but through civil soci-
in the United States. Rapid growth in response to ety, business, and professional collaboration. The
the COVID-19 crisis shows that when the national networked problems of our time are amenable to
interest is at stake the resources can be found. These networked solutions. We must use this crisis to
lessons need to be carried forward. build new and stronger bonds, in our communities,
The financial crisis highlighted the risks arising in our countries, and globally.
from groupthink and capture of regulatory agencies
by lobbies. Ensuring that gamekeepers have the IAN GOLDIN is professor of Globalization and Development
knowledge and independence to keep increasingly at Oxford University, presenter of the BBC Series The Pandemic
agile and well-resourced poachers at bay is essential That Changed the World, and coauthor of Terra Incognita. Alex
for resilient systems. Copestake provided research assistance for this article.
Inertia bedevils institutional reform. Overcoming
the capture of organizations by vested interests is References:
vital to ensure that their governance, staff, and Goldin, Ian. 2018. Development: A Very Short Introduction. Oxford: Oxford University Press.
activities reflect the needs of the future rather than ———, and Mike Mariathasan. 2014. The Butterfly Defect: How Globalization Creates
those of the past. The institutional landscape is Systemic Risks, and What to Do about It. Princeton, NJ: Princeton University Press.
littered with well-intentioned reforms that have Goldin, Ian, and Robert Muggah. 2020. Terra Incognita: 100 Maps to Survive the Next 100
not been implemented. Years. London: Penguin.
Progress is possible, as is evident in the radical Hepburn, Cameron, Brian O’Callaghan, Nicholas Stern, Joseph Stiglitz, and Dimitri
changes that many institutions have undertaken. Zenghelis. 2020. “Will COVID-19 Fiscal Recovery Packages Accelerate or Retard Progress
Once a limited technical organization, the European on Climate Change?” Oxford Review of Economic Policy 26 (S1).
Coal and Steel Community grew into the European Oxford Martin Commission for Future Generations. 2013. “Now for the Long Term.” Oxford.
September 2020 | FINANCE & DEVELOPMENT 9STRAIGHT TALK
devastation and restore jobs and growth, the pan-
demic will have a lasting impact on how we choose
to live our lives. The 1920s economic chaos left
many Germans traumatized about inflation to
this day; Americans who experienced the Great
Depression remained frugal throughout their lives.
This pandemic could fundamentally change how
we view and manage risk and uncertainty, with
lasting consequences on investment decisions,
business strategies, government policies, and overall
economic productivity.
Individuals may change their risk perceptions
permanently after a sharp and sudden loss of
income, leading to higher precautionary saving.
In the short term, this may mean less debt, but
in the long term it could lead to deeper struc-
tural changes, such as less willingness to take on
a 30-year mortgage. In many countries, home
ownership is low because long-term debt is seen
PHOTO: IMF/CORY HANCOCK
more as a risk than an opportunity. Consumption
patterns may change if people whose health is at
high risk avoid certain activities. Consumers may
decide to hold more essential goods in fear of new
lockdowns—good news for toilet paper manufac-
Knightmare Uncertainty turers, at least! But what about a young woman who
has mulled over a transformational business idea
night after night at her kitchen table, but whose
In the COVID-19 world, risk has become riskier now-heightened aversion to risk means a business
is never started, employees are never hired, and
Geoffrey Okamoto products are never launched? High uncertainty
makes it harder still to predict the net impact of
THE AMERICAN ECONOMIST Frank Knight theorized so many behavior changes.
about the difference between risk and uncertainty Companies also face a new set of uncertainties.
in his classic book Risk, Uncertainty and Profit. US carmakers have experienced parts shortages
Risk is “a quantity susceptible of measurement.” because the Mexican state of Chihuahua, where
A precise outcome may not be known, but the many suppliers are based, has limited factory atten-
probability of a few that are most likely can be dance to 50 percent of employees. Such disruptions
calculated. Uncertainty means there is not enough may lead manufacturers to diversify their supply
information to even narrow down the possibilities. chains or keep more inventory on hand. Employee
When a situation is “not susceptible to measure- health is another new operational risk. Will compa-
ment” economists call it Knightian uncertainty. nies decide to rely more on automation as a result?
If this sounds familiar, it is because we are living Changing suppliers, keeping more inventory, and
in the most unmeasurable of times. All aspects of needing to invest in more advanced machinery all
life have been disrupted by the simple fact that it is bear costs for manufacturers often operating on
harder to quantify the risk of going to work, shop- thin profit margins. But raising prices in a recession
ping for groceries, or having a wedding. Despite is also difficult. For goods deemed “essential,” like
necessary optimism, there is great uncertainty medical supplies, countries may change regulations
about treatments for COVID-19 and a vaccine: or subsidize domestic production, altering the com-
when they may be available, how effective they petitive landscape. Similar to households, companies
will be, how willing people will be to take them. hit by a sharp drop in revenue may keep higher
While it will take years to rebuild the economic liquidity buffers. Some changes may be quantifiable
10 FINANCE & DEVELOPMENT | September 2020RESILIENCE
once shifts in production stabilize and the impact scenarios and estimate their likelihood. Following
on earnings becomes clearer, but uncertainty will the global financial crisis, the approach had already
remain for a long time for many companies. been broadened by developing various scenarios
Market volatility, defaults, and evolving regu- and analyzing their probability so as to better
lation will change the landscape for the financial understand the risks around numeric forecasts.
sector. The extreme swings in market conditions and The size and simultaneity of the pandemic shock
asset prices seen early in the outbreak will change make for extreme Knightian uncertainty and
risk management models, with impacts on liquid- ever-changing landscapes. We have had to become
ity and capital buffers held to manage such risks. more agile in that regard. When the infection was
Regulations may also change, as policymakers seek still a suspicious pneumonia outbreak in China,
to prevent a recurrence of the volatility and reduce we reached out to epidemiologists to learn how to
the need for central bank interventions to preserve combine their forecasting models with ours. New
market functioning. Moreover, the recession will sources of big data were incorporated to understand
increase losses. consumer behavior changes where traditional sta-
Economic policymakers are confronted with an tistics fell short. Even before the pandemic, we had
intricate new puzzle: how to finance higher spending started using military-style simulations to study
demands amid falling revenue and ballooning debt. escalating trade tensions. The approach has proved
Without a solution to the health crisis, governments helpful as we attempt to quantify new risk.
will be dealing with unmeasurable variables in Some time ago, I came across an article about
trying to plan the future. Private sector interven- how a US epidemiologist teamed up with a German
tions through guarantees or direct ownership may reinsurance company to develop pandemic insur-
have lasting and hard-to-quantify implications for ance product. They designed health models and
competition and private risk-taking, beyond the early warning systems, estimated the economic
immediate impact on public sector balance sheets impact for vulnerable industries, and determined
What does all this mean for the IMF? We have how to distribute the risk. The policy became
been called to action like never before, providing available in late 2018, but potential clients found
emergency support to a record number of countries it too expensive for such an unlikely event. When
within a short time frame. We have introduced the catastrophe materialized in early 2020, it was
new support facilities and expanded the borrowing too late to buy insurance.
limits on existing ones. This cautionary tale shows how much we need
The IMF faces new operational challenges. Many to improve risk assessment and management.
countries have requested financial assistance to Manufacturers, for example, must strike a balance
weather this storm. Some have challenging debt in their supply chains between just-in-time (cheaper
loads, where sustainability is hard to measure amid but inflexible) and just-in-case (more resilient but
elevated uncertainties about growth and trade pros- costlier) methods while factoring in trade, logis-
pects. And if some countries do need to renegotiate tics, and sanitary conditions. Going back to the
their debts in a post-COVID world, the private old ways seems reckless; erring too much on the
sector will have to play a larger role in providing resilience side might decrease the productivity of
financing assurances to reduce uncertainty, given its the economic engines.
increased importance as a creditor. Our members are Finding this new equilibrium between risk and
also asking for policy advice and for help developing resilience when there is so much uncertainty is a
the capacity to cope with this severe shock. We must challenge we will face far into the future. It will
respond while still largely working remotely and require effort, patience, and innovative thinking.
unable to travel. Similar operational restrictions Fundamentally we will need more global cooper-
have challenged production of one of our key raw ation. Everyone will be safe only when each one is
materials: timely and accurate country statistics. safe. Only by working together will we overcome
In fact, one of our core functions, economic the massive uncertainty and the economic turmoil
surveillance, has had to reinvent itself. Going back caused by this mighty microscopic scourge.
to Knight’s concepts, much of our work focuses
on measuring and addressing quantifiable risks. GEOFFREY OKAMOTO is the first deputy managing director
We use macroeconomic data to create baseline of the IMF.
September 2020 | FINANCE & DEVELOPMENT 11THE DEBT
PANDEMIC
New steps are needed to improve sovereign debt workouts
Jeremy Bulow, Carmen Reinhart, Kenneth Rogoff, and Christoph Trebesch
ART: ISTOCK / RUDALL30
12 FINANCE & DEVELOPMENT | September 2020T
he COVID-19 pandemic has greatly international travel will face roadblocks, and
lengthened the list of developing and uncertainty among consumers and businesses
emerging market economies in debt dis- is likely to remain high. World poverty has
tress. For some, a crisis is imminent. risen sharply, and many people will not be
For many more, only exceptionally low returning to work when the crisis passes. The
global interest rates may be delaying a reckoning. political ramifications of the crisis in advanced
Default rates are rising, and the need for debt economies are also still unfolding. The back-
restructuring is growing. Yet new challenges may lash against globalization, already rising before
hamper debt workouts unless governments and COVID-19, may intensify.
multilateral lenders provide better tools to navigate Although many emerging market governments
a wave of restructuring. have succeeded in borrowing more in local curren-
The IMF, the World Bank, and other multi- cies, businesses have continued to accumulate for-
laterals acted quickly to provide much-needed eign currency debt. Under severe duress, it’s likely
funding amid the pandemic as government reve- that emerging market governments would yield
nues collapsed alongside economic activity, while to pressure to bail out their corporate national
private capital flows came to a sudden stop (see champions, just as the United States and Europe
Chart 1). In addition to new loans from multilat- have done.
erals, Group of Twenty (G20) creditors granted a On top of the dramatic retreat in private fund-
debt moratorium to the world’s poorest countries. ing, remittances from emerging market citizens
They have encouraged private lenders to follow working in other countries are expected to drop
suit—albeit with little success. by more than 20 percent this year. At the same
So far, the pandemic shock has been limited to time, borrowing needs have skyrocketed, as
the poorest countries and has not morphed into a emerging market and developing economies
full-blown middle-income emerging market debt contend with the same budgetary stresses as
crisis. Thanks in part to favorable global liquidity advanced economies. Health systems must be
conditions conferred by massive central bank strengthened and support must be provided for
support in advanced economies, private capital citizens whose lives are affected most acutely.
outflows have moderated and many middle-in- Borrowing needs will only rise further as the
come countries have been able to continue to economic damage mounts.
borrow in global capital markets. According to Rising budget pressures have been accompa-
the IMF, emerging market governments issued nied by a new wave of sovereign debt downgrades,
$124 billion in hard currency debt during the surpassing peaks during prior crises (see Chart
first six months of 2020, with two-thirds of the 2). They have persisted even as major advanced
borrowing coming in the second quarter. economy central banks have eased credit condi-
Yet there are still reasons for concern about tions. Central bank purchases of corporate bonds
sustained emerging market access to capital to provide support for local firms in emerging
markets. The riskiest period may still lie ahead. market and developing economies have also
The first wave of the pandemic is not over. handicapped their debt ratings.
Experience from the 1918 influenza pandemic History shows that it is not unusual that coun-
suggests the possibility of an even more severe tries can keep borrowing even when default risk is
second wave, especially if it takes until mid- high. A review of 89 default episodes from 1827
2021 (or later) for an effective vaccine to become to 2003 shows the typical experience to be a sharp
widely available. Even in the best-case scenario, rise in borrowing, both external and domestic, in
September 2020 | FINANCE & DEVELOPMENT 13the run-up to default (Reinhart and Rogoff 2009). retrench, official lenders often step in (Horn, Reinhart,
Ideally this time will be different, but the record is and Trebesch 2020, cited in Chart 1).
not encouraging. A recent analysis comparing losses (haircuts)
Amid massive and synchronous financing needs taken by official and private creditors raises further
across a broad swath of countries, there is brewing in doubt about the supposed seniority of official sector
the background a growing need for debt restructurings loans (Schlegl, Trebesch, and Wright 2019).
in numbers not seen since the debt crisis of the 1980s. These outcomes should not be surprising. After
Official creditors should be prepared to act as needed. all, governments have a history of protecting
Here they will be impeded by two trends that have domestic creditors who lent abroad (think north-
been developing independently of the COVID-19 ern European banks in the case of Greece), and at
crisis. Call them “preexisting conditions.” the same time also care about stability and welfare
First, private creditors are increasingly claiming in the borrowing country. Such altruism, in turn,
outsize shares of repayment in debt restructurings. weakens the official sector’s bargaining position—
Although theoretically the official sector is a senior especially vis-à-vis private creditors. Thus, official
creditor to the private sector, much of the historical creditors may be left holding the bag for the bulk
experience suggests otherwise. of the losses, even when they start with little of
During the 1980s emerging market debt crisis, the outstanding debt, as in Greece.
private creditors were quite successful at pulling out A further challenge comes from new holdout
funds as official creditors went in ever deeper (Bulow, and litigation tactics by private investors to resist
Rogoff, and Bevilaqua 1992). Similar developments large debt write-downs and restructurings. As the
were at play during the European debt crisis, when number of restructurings has declined, an increasing
investors did take some losses in Greece; a large share of them have involved lawsuits (see Chart 3,
portion of their funds had been pulled out, with from Schumacher, Trebesch, and Enderlein 2018).
Bulow, 08/04
repayments facilitated by large-scale loans by euro While this may not completely explain the private
area governments (Zettelmeyer, Trebesch, and Gulati sector’s success in maximizing its share in debt
2013). This pattern has recurred over two centuries restructuring, it is disconcerting.
of private and official lending: when private investors The second preexisting condition is the length
of time debt crises are dragging on. As former
Citibank chairman William Rhodes famously said
Chart 1 during the debt crisis of the 1980s: “It is easy to
Multilateral lifeline get into a debt moratorium. It’s tough to get out.”
Quick funding by multilaterals helped offset a collapse of government Default episodes have taken, on average, seven years
revenues and the withdrawal of private capital. to resolve and typically involve multiple restructurings
(see Chart 4). Unfortunately, debt restructurings can
(billions of dollars)
become a bargaining game in which the country
150
Official international capital flows debtor is often (rightly) willing to exchange higher
(cumulative multilateral commitments) future debt for lower payments now, fully intending
100
IMF to restructure debt again as necessary. Delay also helps
50
Regional banks both sides bargain for larger infusions from official
0
World
*+,-
Bank creditors (Bulow and Rogoff 1989). And creditors may
Jan. 2020 Feb. 2020 Mar. 2020 Apr. 2020 May 2020
often be willing to repeatedly renew (or “evergreen”)
–50 debt in order to temporarily make their balance sheets
–100 look better. The COVID-19 crisis could, in the worst
Private international capital flows
(net debt and equity purchases of
case, lead to another “lost decade” in development,
–150 with long delays in debt resolution.
nonresidents, 32 emerging markets,
–200 Institute of International Finance data) What can governments and multilateral lenders
do to make sure new funding ends up benefiting
–250 the citizens of debtor countries affected by the pan-
Source: Horn, Sebastian, Carmen M. Reinhart, and Christian Trebesch. 2020. "Coping with demic rather than lining the pockets of creditors?
Disasters: Two Centuries of International Official Lending," NBER Working Paper 27343,
National Bureau of Economic Research, Cambridge, MA.
And how can they make debt restructuring more
expedient? Here are three practical ideas:
14 FINANCE & DEVELOPMENT | September 2020RESILIENCE
Bulow, 8/4/20
Chart 2
Sovereign debt downgrades
A surge in rating downgrades in 2020 has surpassed peaks in previous crises.
(three-month sums of share of sovereign downgrades, 1980–2020)
30
25
20
15
10
5
0
Jan 1980
Apr 1981
Jul 1982
Oct 1983
Jan 1985
Apr 1986
Jul 1987
Oct 1988
Jan 1990
Apr 1991
Jul 1992
Oct 1993
Jan 1995
Apr 1996
Jul 1997
Oct 1998
Jan 2000
Apr 2001
Jul 2002
Oct 2003
Jan 2005
Apr 2006
Jul 2007
Oct 2008
Jan 2010
Apr 2011
Jul 2012
Oct 2013
Jan 2015
Apr 2016
Jul 2017
Oct 2018
Jan 2020
Sources: Fitch; Moody’s; Standard and Poor’s; and Trading Economics.
• More transparency on debt data and debt contracts pension burdens is also increasingly important, as
recent debt workouts in Detroit and Puerto Rico
It is of utmost importance that the World Bank, the vividly illustrate.
IMF, and the G20 continue to insist on strength-
ening the transparency of debt statistics. • Realistic economic forecasts that incorporate
A new and significant complication in assessing downside risks
the external indebtedness of many developing econ-
omies involves China, which has become the largest Realistic growth forecasts are critical to avoid
bilateral creditor in recent years. Unfortunately, underestimating a country’s near-term financ-
China’s lending is often shrouded in nondisclosure ing needs and overestimating its capacity to ser-
clauses, and a full picture is still elusive. More gran- vice its debt commitments. IMF historian James
ular data on private sector creditor exposure may Boughton notes that during much of the 1980s
facilitate, in case of debt distress, more expedient debt crisis, overoptimistic growth expectations
creditor-debtor negotiations and allow both creditors persisted, especially in Latin America. Realistic
and governments to identify which bonds are at risk forecasts, particularly recognizing the fragility of
of holdout or litigation tactics. An encompassing highly indebted countries, can speed resolution
transparency initiative would include, for instance, of any crisis. Earlier detection of insolvency and
full disclosure on sovereign bond ownership as well identification of cases in which large write-downs
as credit default swaps that shift lender composi- are necessary cannot guarantee a faster resolution
tion overnight. Knowing the players involved and but are a step in that direction.
the amounts owed would allow the international
community and the citizenry of affected countries • New legislation to support orderly sovereign
to better monitor how scarce resources in a time debt restructurings
of crisis are being deployed. The accounts for the
country itself must become more comprehensive, Legal steps in jurisdictions that govern interna-
with improved data on domestic debt and debt tional bonds (importantly but not exclusively
owed by state-owned enterprises. Accounting for New York and London) or where payments
September 2020 | FINANCE & DEVELOPMENT 15Bulow, 08/04
government bonds bought at a deep discount. In
Chart 3 2010, the United Kingdom enacted such a law
Legal risks for countries taking part in the Heavily Indebted
An increasing share of sovereign debt restructurings involve litigation. Poor Countries (HIPC) debt relief initiative,
(number of restructurings) (share of restructurings affected) while Belgium in 2015 passed the so-called
16 100 Anti–Vulture Funds Law, which prevents liti-
Restructurings (left scale) gious creditors from disrupting payments made
14 Restructurings with litigation (left scale)
Share affected by litigation (5y m.a. right scale) 80 via Euroclear. It would also energize legislation to
12
facilitate a majority restructurings, which would
10 60 allow a sovereign and a qualified majority of
8 creditors to reach an agreement binding on all
40 creditors subject to the restructurings.
6
The global pandemic is a once-in-a-century
4 shock that merits a generous response from offi-
20
2 cial and private creditors toward emerging market
0 0
and developing economies, including preserving
the global trading system and helping countries
1978
1980
1982
1984
1986
1988
1990
1992
1994
1996
1998
2000
2002
2004
2006
2008
2010
Bulow, new 08/11
weather debt problems.
Source: Schumacher, Julian, Christoph Trebesch, and Henrik Enderlein. 2018.
"Sovereign Defaults in Court." CEPR Discussion Paper 12777, Centre for Economic Support must be forthcoming, regardless of
Policy Research, London. what progress can be made in better managing
Note: 5y m.a. = five-year monthly average.
debt workouts. However, to make sure as much aid
as possible gets through to debtor country citizens,
it is essential to ensure inter-creditor equity and
fair burden sharing, especially between official
Chart 4
and private creditors. The more official aid and
Long sovereign workouts soft loans can go toward helping needy citizens
Defaults, on average, last more than seven years. around the globe—and the less such assistance
(number of default spells, 1970–2015) ends up as debt repayments to uncompromising
50 creditors—the better.
45 Descriptive statistics (in years)
40 Average 7.2 JEREMY BULOW is the Richard A. Stepp Professor of Economics
35 Median 5 at Stanford Business School; CARMEN M. REINHART is
Max 30
30
No. of observations 107
vice president and chief economist of the World Bank Group;
25 KENNETH ROGOFF is Thomas D. Cabot Professor of Public
20 Policy and professor of economics at Harvard University; and
15 CHRISTOPH TREBESCH is a professor of International Finance
10 at the Kiel Institute for the World Economy.
5
0 References:
0 5 10 15 20 25 30
Bulow, Jeremy, and Kenneth Rogoff. 1989. “A Constant Recontracting Model of Sovereign
Default spell duration (in years) Debt.” Journal of Political Economy 97 (February): 155–78.
Source: Meyer, Josefin, Carmen M. Reinhart, Christoph Trebesch, and Clemens von ———, and Afonso Bevilaqua. 1992. “Official Creditor Seniority and Burden Sharing in
Luckner, 2020. "Serial Sovereign Debt Restructurings and Delay: Evidence from the 1930 the Former Soviet Bloc.” Brookings Papers on Economic Activity 1, 195–222. Washington,
and 1980s Default Waves." Unpublished, Harvard University, Cambridge, MA. DC: Brookings Institution.
Reinhart, Carmen M., and Kenneth Rogoff. 2009. This Time Is Different: Eight Centuries of
Financial Folly. Princeton, NJ: Princeton University Press.
are processed can contribute to more orderly Schlegl, Matthias, Christoph Trebesch, and Mark L. J. Wright. 2019. “The Seniority
restructuring by promoting a more level playing Structure of Sovereign Debt.” NBER Working Paper 25793, National Bureau of Economic
Research, Cambridge, MA.
field between sovereign debtors and creditors.
For instance, national legislation can cap the Zettelmeyer, Jeromin, Christoph Trebesch, and Mitu Gulati. 2013. “The Greek Debt
Restructuring: An Autopsy,” Economic Policy 28 (75), 513–63.
amounts that may be reclaimed from defaulted
16 FINANCE & DEVELOPMENT | September 2020POINT OF VIEW
Conquering the Great Divide
The pandemic has laid bare deep divisions, but it’s not too late
to change course
Joseph Stiglitz
Around the world, there are marked differences
in how the pandemic has been managed, both in
terms of how successful countries have been in
maintaining the health of their citizens and the
economy and in the magnitude of the inequali-
ties on display. There are many reasons for these
differences: the preexisting state of health care
and health inequalities; a country’s preparedness
We need a comprehensive rewriting
of the rules of the economy.
and the resiliency of the economy; the quality of
public response, including reliance on science and
expertise; citizens’ trust in government guidance;
and how citizens balanced their individual “free-
doms” to do as they pleased with their respect for
PHOTO: DANIEL BAUD AND SYDNEY OPERA HOUSE
others, recognizing that their actions generated
externalities. Researchers will spend years parsing
the strength of various effects.
Still, two countries illustrate likely lessons that
will emerge. If the United States represents one
extreme, perhaps New Zealand represents the
other. It’s a country in which competent gov-
ernment relied on science and expertise to make
COVID-19 HAS NOT BEEN an equal opportunity virus: decisions, a country where there is a high level
it goes after people in poor health and those whose of social solidarity—citizens recognize that their
daily lives expose them to greater contact with behavior affects others—and trust, including trust
others. And this means it goes disproportionately in government. New Zealand has managed to
after the poor, especially in poor countries and in bring the disease under control and is working
advanced economies like the United States where to redeploy some underused resources to build
access to health care is not guaranteed. One of the the kind of economy that should mark the post-
reasons the United States has been afflicted with pandemic world: one that is greener and more
the highest number of cases and deaths (at least knowledge-based, with even greater equality, trust,
as this goes to press) is because it has among the and solidarity. There is a natural dynamic at work.
poorest average health standards of major devel- These positive attributes can build on each other.
oped economies, exemplified by low life expectancy Likewise, there can be adverse, destructive attri-
(lower now than it was even seven years ago) and butes that weigh down a society, leading to less
the highest levels of health disparities. inclusiveness and more polarization.
September 2020 | FINANCE & DEVELOPMENT 17POINT OF VIEW
Unfortunately, as bad as inequality had been We need a comprehensive rewriting of the rules
before the pandemic, and as forcefully as the pan- of the economy. For instance, we need monetary
demic has exposed the inequalities in our society, policies that focus more on ensuring full employ-
the post-pandemic world could experience even ment of all groups and not just on inflation; bank-
greater inequalities unless governments do some- ruptcy laws that are better balanced, replacing those
thing. The reason is simple: COVID-19 won’t go that became too creditor-friendly and provided too
away quickly. And the fear of another pandemic little accountability for bankers who engaged in
will linger. Now it is more likely that both the predatory lending; and corporate governance laws
private and the public sectors will take the risks that recognize the importance of all stakeholders,
to heart. And that means certain activities, cer- not just shareholders. The rules governing global-
tain goods and services, and certain production ization must do more than just serve corporate
processes will be viewed as riskier and costlier. interests; workers and the environment have to be
While robots do get viruses, they are more easily protected. Labor legislation needs to do a better
managed. So it is likely that robots will, where job of protecting workers and providing greater
possible, at least at the margin, replace humans. scope for collective action.
“Zooming” will, at least at the margin, replace But all of this will not, in the short run at least,
airline travel. The pandemic broadens the threat create the equality and solidarity that we need. We
from automation to low-skilled, person-to-person will need to improve not just the market distri-
services workers that the literature so far has seen bution of income but how we redistribute as well.
as less affected—for example, in education and Perversely, some countries with the highest degree
health. All of this will mean that the demand for of market income inequalities, like the United
certain types of labor will decrease. This shift will States, actually have regressive tax systems where
almost surely increase inequality—accelerating, in top earners pay a smaller share of their income in
some ways, trends already in place. taxes than workers lower down the ladder.
Over the past decade, the IMF has recognized
New economy, new rules the importance of equality in promoting good
The easy answer is to accelerate upskilling and economic performance (including growth and
training in tandem with the changing job market. stability). Markets on their own pay no attention
But there are good reasons to believe that these to the broader impacts that arise from decentral-
steps alone will not suffice. There will need to ized decisions leading to excessive borrowing
be a comprehensive program to reduce income in foreign-denominated currencies or excessive
inequality. The program needs to first recognize inequality. During the reign of neoliberalism, no
that the competitive equilibrium model (whereby attention was paid to how policies (such as capital
producers maximize profit, consumers maximize and financial market liberalization) contributed
utility, and prices are determined in competitive to greater volatility and inequality, nor to how
markets which equate demand and supply) that other policy changes—such as the shift from
has dominated economists’ thinking for more defined-benefit to defined-contribution retire-
than a century does not provide a good picture ment (or pension) plans, or from public to private
of the economy today, especially when it comes pensions—led to greater individual insecurity, as
to understanding the growth of inequality, or well as to greater macroeconomic volatility, by
even innovation-driven growth. We have an econ- weakening the economy’s automatic stabilizers.
omy rife with market power and exploitation. The The rules are now shaping many aspects of econ-
rules of the game matter. Weakening constraints omies’ responses to COVID-19. In some coun-
on corporate power; minimizing the bargaining tries, the rules encouraged shortsightedness and
power of workers; and eroding rules governing the inequalities, two features of societies that have not
exploitation of consumers, borrowers, students, managed COVID-19 well. Those countries were
and workers have all worked together to create a inadequately prepared for the pandemic; they built
poorer-performing economy marked by greater global supply chains that were insufficiently resil-
rent seeking and greater inequality. ient. When COVID-19 hit, for instance, American
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