FACING A RENEWED DEBT CRISIS: IS USAID PREPARED?

High and unpayable debt levels bring about cuts to essential public services such as health, education, and infrastructure, as well as high taxes. Debt repayment often involves printing money, which raises inflation and exacerbates economic instability. Governance challenges and political turmoil are also common outcomes of debt crises. Research indicates that high foreign debt is associated with reduced government spending on education and healthcare. In LICs, external debt levels have increased significantly, with many countries now facing unsustainable debt burdens. The COVID-19 pandemic has further exacerbated debt vulnerability, as LICs have struggled to service their debt while also addressing the economic impacts of the pandemic. Declining interest rates in the past led to a global debt binge, with many countries taking on excessive debt. However, with interest rates now increasing, sustaining high debt levels has become increasingly challenging. LICs are particularly vulnerable, as they must pay more for debt while also addressing the impacts of fuel and food price shocks and COVID-related costs. Debt crises often stem from ineffective institutions and a weak rule of law. Unsustainable debt may result from a lack of transparency, unaccountable institutions, misused funds, corruption, political competition, and vested interests. The COVID pandemic has highlighted the vulnerability of LICs to debt crises, with many countries now facing significant debt distress. Debt sustainability analyses (DSAs) have shown that over 50 percent of LICs are at high risk of, or in, debt crisis. This represents a significant increase from 30 percent in 2015. The evolution of debt distress risk has been marked by a steady increase in the number of LICs facing high risk or debt distress. The impact of debt crises on LICs can be severe, with debt service indicators showing that debt repayment and interest payments are displacing essential public spending on health and education. The consequences of debt crises can be long-lasting, with real GDP remaining 10 percent lower eight years after defaults.