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Rescuing Economic Growth in Highly Indebted Developing Countries

For developing countries, economic growth remains an essential ingredient of successful debt deals. But even in the best of circumstances, these countries’ growth is likely to be slower and more domestically oriented, requiring a combination of deeper debt reduction and longer time horizons.

CAMBRIDGE – This year may prove devastating for the developing world, as more and more countries find themselves engulfed in debt crises. Several (Lebanon, Sri Lanka, Russia, Suriname, and Zambia) are already in default, and scores of others urgently need debt relief to ward off economic collapse and sharp rises in poverty.

The prevailing response to debt crises is to negotiate complex packages involving the debtor country, international financial institutions (IFIs), and other external creditors. Domestic bondholders, labor unions, and others play a part, too, as they have their own interests to protect. The bargaining process among all these parties can be lengthy and feature significant domestic and global efforts to game the outcome by pushing a larger burden of losses onto others, even as debtor-country conditions continue to deteriorate.

The rise of emerging markets as major bilateral official creditors has added further complexity to an already difficult process. China, India, countries in the Middle East, and others have not been part of conventional debt-resolution arrangements. Besides complicating coordination, heterogeneity among creditors can unleash more destructive processes led by self-fulfilling expectations, such as sudden capital-flow reversals and banking crises.

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