Developing nations need to take steps to limit hit from local debt overhauls -IMF

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FILE PHOTO: The IMF logo is seen outside the headquarters building in Washington

LONDON – Restructuring local sovereign debt burdens will likely play an increasingly important part in emerging markets, according to the International Monetary Fund (IMF), though governments need to take measures to limit the hit on local banks and investors.

The share of debt issued by developing nations in their local markets has risen from 31% to 46% over the past two decades, the IMF’s Peter Breuer, Anna Ilyina and Hoang Pham found in a blog published on Wednesday.

“On the one hand, domestic debt restructuring may be easier to accomplish,” the authors wrote, adding this could be achieved through changing the terms of debt contracts in domestic law.

This would also avoid some costly such as the loss of access to international capital markets during a restructuring of external debt, often contracted under New York or English law.

However, with much of local debt held by domestic creditors, sovereign debt distress can easily spread to a country’s banks, pension funds, households and other parts of the economy and authorities needed to take pre-emptive action to minimise spillovers.

“For example, the impact on banks can be limited by extending the maturities and/or lowering the interest rate rather than reducing the nominal amount of the outstanding claims,” the authors said. “Losses should be recognized early and may need to be paired with a strategy to restore banks’ capital buffers.”

Emergency support measures allowing lenders to convert illiquid assets into cash may be needed as well as temporary measures to slow “panic-driven deposit withdrawals and capital outflows”.

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The IMF said in June that seven of the world’s poorest countries were in debt distress while another 29 countries were at high risk of becoming so. Recent years have seen a number of countries restructure both local and external debt burdens, such as Argentina in 2020

(Reporting by Karin Strohecker; Editing by Angus MacSwan)