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Debt relief and productive capacities key to recovery in middle-income countries

16 June 2021

Solving the challenges facing this diverse group of nations, which are home to three out of four people, is critical to putting the world on a more sustainable and inclusive post-COVID-19 development path.

Road construction outside of São Paulo, Brazil. © Fabio Salles

Middle-income countries (MICs) are home to 62% of the world’s poor, but the challenges they face are often overlooked or seen as less urgent than those of poorer nations.

Yet many MICs – a group of 106 countries that includes small islands like Kiribati, landlocked nations like Uzbekistan and emerging economies like Brazil – face some of the same vulnerabilities as low-income countries, such as crippling debt and a lack of economic competitiveness.

Despite being potential economic powerhouses, they’re at risk of stagnating in their development trajectories, especially in the wake of the COVID-19 pandemic.

“The international community must urgently address the structural obstacles holding back progress on achieving the Sustainable Development Goals in middle-income countries,” said UN General Assembly President Volkan Bozkir.

“The COVID-19 crisis has made it all the more urgent to reinvigorate international support to help these nations avoid falling into the middle-income trap of economic stagnation,” Mr. Bozkir said ahead of a high-level meeting on MICs that he is convening on 17 June and 2 July. 

Finetuning the development system

MICs are divided into lower-middle income and upper-middle income economies. The lower echelon has per capita gross national incomes (GNIs) of between $1,036 and $4,045, while the upper half’s range between $3,046 and $12,535.

The UN General Assembly has recognized the critical role of the UN development system in supporting efforts to address MICs’ diverse development needs, considering variables beyond income criteria, and in a coordinated manner in line with national priorities.

The high-level meeting convened by Mr. Bozkir will be held under the theme “Finetuning the development system approach to address the needs of MICs”.

It will gather current and former heads of state and government, and representatives of multilateral banks, international financial institutions, the UN development system and civil society organizations.

Participants will discuss the gaps and challenges MICs face to implement the 2030 Agenda for Sustainable Development and take stock of progress attained since the first high-level meeting on MICs, held in 2018.

They’ll share national experiences and best practices and identify priority actions to help these nations avoid lost decades of development gains in the wake of the pandemic.

Crippled by debt

A major challenge many MICs face as they try to establish an inclusive, sustainable and resilient recovery from the COVID-19 crisis is crippling debt.  

“Even before the coronavirus outbreak, debt sustainability in middle-income countries was under pressure,” UNCTAD Acting Secretary-General Isabelle Durant said ahead of the high-level meeting. “But the pandemic has worsened the situation considerably.”

MICs’ ratio of total external debt service to exports – an especially useful indicator of trends in debt and repayment capacity – rose from 14.7% in 2019 to 17.5% in 2020, the highest level since 2005.  

“Some features of this group’s external debt profile mean they’re more exposed than low-income countries,” Ms. Durant said.

She cited the increasing share of private non-guaranteed debt in MICs’ total debt and the growing percentage of private creditors in the group’s debt that is public or publicly guaranteed – two trends that started after the 2008-2009 global financial crisis, driven by investors’ growing appetite for high-yield bonds in many MICs.

Private non-guaranteed debt, for example, represents 33.3% of MICs’ external debt compared with 14% for low-income countries (LICs). Likewise, in 2019 the share of private creditors in public and publicly guaranteed debt was much higher in MICs than in LICs – 45% versus 11%.

Excluded from relief initiatives

Yet 40% of MICs have been excluded by initiatives to minimize the mounting debt-service burdens of developing countries, including the G20 Debt Service Suspension Initiative (DSSI) and the Common Framework for Debt Treatments beyond the DSSI.

“This means that in many middle-income countries, the financial resources needed to respond to the pandemic and its social and economic effects are diverted to debt servicing,” Ms. Durant said.

She added that even if the G20 debt initiatives included all MICs this would be insufficient, as many of them face an external solvency problem rather than an external liquidity problem that the temporary suspension of debt services could address.

“What MICs need,” she said, “is comprehensive debt relief and restructuring that would allow them to launch the public investment push needed to ignite a sustainable and equitable recovery from the pandemic.”

This means all creditors – bilateral, multilateral and private creditors – must be at the table.

“If the international community fails to support middle-income countries,” Ms. Durant said, “the debt crisis will threaten global efforts to tackle poverty, inequality and climate change for years to come.”

Held back by low productive capacities

Besides comprehensive debt relief and restructuring, a sustainable and inclusive recovery path requires MICs to build their productive capacities.

UNCTAD defines these as “the productive resources, entrepreneurial capabilities and production linkages that together determine the capacity of a country to produce goods and services and enable it to grow and develop.”

Many MICs get “trapped” between poorer and richer economies, no longer able to compete against lower-cost locations of global value chains, yet still lacking the technological know-how and human capital needed to move into higher value-added activities further up the chain.

Paul Akiwumi, UNCTAD’s director for Africa and least developed countries, said: “Unless middle-income countries build their productive capacities, they’ll remain vulnerable to shocks like the COVID-19 pandemic.”

He added: “Productive capacities are essential to help these countries avoid the middle-income trap by allowing them to structurally transform their economies away from resource-driven economic growth, with low-cost labour and capital, to productivity-driven growth.”

To help, UNCTAD has developed the Productive Capacities Index (PCI), a tool measuring how far productive capacities have been developed or not in each country. It can help governments formulate and implement better their policies and benchmark their achievements.

Mr. Akiwumi said strategies for building productive capacities should be determined by each country’s national development strategy and country-specific conditions.

He called for concerted efforts to support countries in developing and building new productive capacities and fully utilizing their existing ones.