The global economy may soon see a wave of debt crises – a large number of countries watch in horror as the US tightens its monetary policy

The global economy may soon see a wave of debt

When the US central bank FED makes an interest rate decision, its consequences are felt in different parts of the world.

In many developing and emerging economies – such as Pakistan, Ghana, Tunisia and Turkey – the Fed’s interest rate hike is being watched with nervousness. For these countries, the rise in interest rates and the strengthening of the dollar mean ever deeper debt worries.

Chief analyst of banking group Danske Bank Minna Kuusiston according to the question is whether the heavily indebted poorer countries will be able to cope with the payment of their debts under these circumstances and, if so, on what schedule.

– Developing and emerging economies are in the most vulnerable position of all in the global economy when we think about this general rise in interest rates.

In the worst case, the world will see more developments similar to those in Sri Lanka.

The country drifted into insolvency in the spring. It was unable to pay its foreign debts by the agreed deadline. For example, gasoline and basic foodstuffs became scarce. Economic difficulties and political tensions drove citizens to the streets and also created unrest.

There is an increasing need for IMF support

The US central bank FED has raised its key interest rate since the spring in order to curb the rapid pace of price increases. This week, the central bank is expected to announce a further increase. Analysts predict that the interest rate will be raised on Wednesday by 0.75 percentage points or even by a whole percentage point.

The US central bank’s interest rate decisions are reflected in the economic situation of poorer countries in three ways, says the chief economist of the development financier Finnfund Kristiina Karjanlahti.

With the tightening of the FED’s monetary policy, the value of the dollar will remain strong or will strengthen even more. A large part of the debts of poorer countries are denominated in dollars, and when the value of the dollar strengthens, the debt burden and debt service costs also increase accordingly.

Secondly, the increase in the interest rate affects the movements of investors. The period of record low interest rates was favorable for developing and emerging economies. According to Karjanlahti, many countries received more funding from the private market thanks to it.

– Now, however, investors are pulling their investments away from higher-risk targets and back to safer ones, because Europe and the United States are getting better returns once the interest rate has risen, says Karjanlahti.

The FED’s interest rate decisions are reflected in developing and emerging economies also through the general growth outlook. Raising interest rates slows down the economic growth of the United States and thus the growth of the world economy.

– The slowdown in global economic growth weakens the export opportunities of developing and emerging economies, says Karjanlahti.

Debt burdens have increased during the pandemic

the IMF according to the estimate (you switch to another service) more than 30 percent of emerging and developing economies are at high risk of a debt crisis or are already in a debt crisis. When only low-income countries are considered, the corresponding share is up to around 60 percent.

Kuusisto and Karjanlahti pay particular attention to the situations in Tunisia, Egypt, Pakistan and Ghana. In these countries, the availability of external financing has weakened significantly – and at the same time they are suffering from rising food and energy prices.

This year, the IMF has granted new emergency financing to already insolvent Sri Lanka and Zambia. The IMF is also negotiating a new loan program with, for example, Ghana.

According to Kristiina Karjanlahti, there is a growing need for IMF support all the time. It can be assumed that crises and financial difficulties will increase once the interest rate rises again, says Karjanlahti.

Debt problems are also reflected in Finnfund’s work. Finnfund, which is almost entirely owned by the Finnish state, offers financing to companies operating in developing countries.

– Most of the African countries in which we have invested this year either have an existing IMF program or negotiations are ongoing. With less money available from the private sector, developing and emerging economies have turned to international financial institutions.

At worst, there is a wave of unrest ahead

First the pandemic and economic recovery slower than industrialized countries, then the sharp rise in energy and food prices and now the debt problems brought about by the rise in interest rates. The economies of developing and emerging countries have experienced one shock after another.

Danske’s Minna Kuusisto warns that tightening financial conditions may soon lead to a wave of unrest.

He refers to a US professor of development policy By Naomi Hossain to the estimate that the world has seen at least 10,000 protests related to the rise in food and energy prices since November last year.

– If a developing country has too little foreign currency, then goods cannot be brought into the country and there will be a shortage of vital products. Hungry stomachs lead to the streets, so this will increase unrest.

The topic can be discussed until Wednesday 21 September. until 11 p.m.

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