Improving transparency of lending to sovereign governments

By Rodrigo Olivares-Caminal and Shakira Mustapha (ODI).

*** This is a short version of the paper. The full version has been published by ODI (Working Paper No. 583) and is available at https://bit.ly/3g2eD1w

Transparency of the debts owed by governments and the guarantees they have given is an important issue for the international community. The increasing risk of debt distress in many of the world’s poorest countries, coupled with several recent cases of inadequate disclosure that put macroeconomic stability at risk, have highlighted the urgent need to make lending to governments more open, particularly the terms and conditions.

The underlying assumption is that more disaggregated information on public debt will enable borrowers and lenders to make more responsible borrowing and lending decisions, ultimately making a debt crisis less likely. Better quality data can also directly impact sovereign ratings and, by extension, lower borrowing costs. Furthermore, civil society and parliaments require access to the right information in a timely manner to hold governments to account, thus facilitating good governance and aiding the fight against corruption and mismanagement. When debts are hidden, the discovery of the potential misuse of borrowed funds can lead to a country losing market access and/or being cut off from donor funding. This can trigger an economic crisis and bring about a sovereign default – an event that is generally painful for all stakeholders.

Debt transparency is also critical for sound policy decision-making and effective risk management in the context of the Covid-19 pandemic. The risk of debt distress needs to be closely monitored during these uncertain times, given the considerable pressures on governments to spend more and the various shocks to countries’ capacity to service their debts. The international community, therefore, requires a firm grasp of the debt numbers, as well as the characteristics of that debt, if it is to provide timely and appropriate support and avoid a debt crisis in some of the poorest, most vulnerable countries. In addition, countries seeking to access debt-relief initiatives, such as the G20 time-bound suspension of debt service payments, must commit to disclose all public sector financial commitments (debt). This is primarily to ensure that creditors are sharing the burden fairly and to prevent the over-accumulation of new non-concessional debt (with some exceptions) during the suspension period.

The international financial community has actively sought to build the capacity of sovereign borrowers to record, monitor and report debt data. While some countries have improved their debt-recording, monitoring and reporting capacity over the last decade, recent cases of hidden public debt highlight that much more needs to be done (World Bank and IMF, 2018).

Transparency of debt terms and conditions is a prerequisite to responsible borrowing and lending. It allows citizens to subject their government’s borrowing to greater scrutiny and gives lenders more certainty about the repayment capacity of the borrowing country. Debt transparency has been the subject of particular attention recently – not least because public debt surprises have been a contributing factor to the fiscal messes in which some developing countries have found themselves of late (Mozambique and South Africa, for instance). In an effort to address the limited transparency of certain type of bilateral sovereign lending and private-sector lending, in 2017, the G20 countries endorsed the ‘G20 operational guidelines for sustainable financing’, while in 2019, the IIF formulated the ‘Voluntary principles for debt transparency’.

Although these two creditor-led initiatives are important steps forward, more needs to be done, by various stakeholders, to make these principles operational and to ensure that creditors are accountable. In this paper, we recommend the following.

1. The parties to a debt contract should agree to make a disclosure exception for necessary disclosure requirements and/or to include a disclosure annex in the agreement to mitigate concerns that confidentiality clauses may discourage or circumvent compliance. We recommend a disclosure annex, as this will already include pre-approved information and help facilitate data reconciliation between borrower and creditor. 
2. A list of creditors that are compliant with the Guidelines and Principles should be published annually to incentivise compliance with these voluntary codes of conduct. However, we concede that the private nature of lending arrangements makes it difficult to assess whether the reporting is actually taking place or, more importantly, taking place on the required number of transactions.
3. A central registry or database of debt terms and conditions should be created to prevent the development of multiple databases that are not easily comparable.
4. The IIF Principles are currently aimed at a specific set of lower-income countries, but should be expanded to all developing countries and possibly beyond to make transparency the norm.
5. While the G20 Guidelines and IIF Principles focus on developing creditors’ procedures for sharing information, a concerted effort is needed to build the debt-recording and reporting capacity on the side of the sovereign borrower. This will also help the borrower and creditor to reconcile their data with each other on a regular basis, to ensure that the publicly available data is complete and accurate. 

Debt transparency is complex, requiring many players to work together to make it a reality. Moreover, full compliance with the G20 Guidelines and the IIF Principles alone will not curtail irresponsible borrowing and lending. A well-functioning domestic legal system and strong rule of law in the borrowing country are critical to curbing any criminal activity related to sovereign debt.