JOHANNESBURG, South Africa – Pakistani Prime Minister Shehbaz Sharif warned world leaders at the COP27 climate talks in November 2022 that developing nations risk falling into a “financial debt trap” if they are forced to turn to the markets to cover the mounting costs of climate change. Six months on, with rates and temperatures rising, his prediction looks prescient.
So far in 2023, cyclones have battered south-east Africa, floods have killed hundreds in Congo, Rwanda and Uganda, and the worst drought in four decades parched crops in the Horn of Africa. Record temperatures are currently being recorded across south-east Asia, Cyclone Mocha has just ripped through Bangladesh and Myanmar, and agricultural regions have dried up in Argentina.
Those events often become humanitarian crises; they are also expensive and getting more so. The average cost of capital for a select group of 58 climate-vulnerable countries is 10.5 per cent, according to a report published in April by the Boston University Global Development Policy Centre. That compares with a sovereign bond yield of 4.3 per cent over the past decade for a Bloomberg Barclays emerging markets index.
Many borrowed heavily when interest rates were much lower, meaning they are often already struggling to pay back debt when a natural disaster strikes. The shift in borrowing costs has also been transferred to small businesses such as farmers, exacerbating the problem for governments.
One such farmer is Mr Thobani Lubisi. In February, he was just beginning preparations for the annual harvest on Dwaleni Farm, a cooperative in eastern South Africa, when heavy raindrops began pounding his neat rows of sugarcane plants. Over two days, almost half a year’s worth of rain gushed onto the fields, waterlogging crops and turning the dirt tracks used to deliver the harvest to the nearest mill to sludge. The nearby Mlumati River burst its banks, completely submerging the farm’s pump house.
In the weeks that followed, as work began to repair the damage from the worst flood locals had ever seen, Mr Lubisi and his colleagues were forced to face up to a new reality. The damaged harvest had blown a hole in household budgets and the repair work quickly drained savings. Ordinarily, the farmers, who were uninsured, could tap the local agricultural bank, but the surge in global interest rates means loans now come with crippling monthly payments.
Mr Lubisi, 43, whose father was one of the first black farmers to start growing sugarcane in the area 40 years ago, has managed to keep going for now, but he is one of the lucky ones. Some in the region have sold their plots. Others are renting out their fields because they cannot afford the repairs.
“You work the whole year for zero because there will be no income,” said Mr Lubisi, holding an umbrella to shield himself from the sun in an interview in early May as a 1.2m Nile monitor lizard slithered into the Mlumati, now a languid stream just a few feet across. “This kind of damage for me looks like it’s a first.”
Mr Lubisi’s story is one that is being increasingly repeated across the developing world. Munich Re calculated the losses from global natural disasters in 2022 at US$270 billion (S$366 billion) and estimates that roughly 55 per cent of that total was not insured. Weather-related natural disasters are already being influenced by climate change, and this influence is likely to grow stronger as temperatures rise.
Dr Alvario Lario, president of the United Nations International Fund for Agricultural Development, said he has seen farmers driven out of business due to extreme weather in Indonesia, Ivory Coast, Kenya and Madagascar. “The depth or the intensity of these shocks is very clearly much more acute than what it was five or 10 years ago. That’s the reality,” he said.
About 5,600km north-east of Dwaleni Farm is an archipelago that faces a similar financing problem on a national scale. The Maldives, a nation of 1,200 islands that are rapidly sinking into the sea, is spending 30 per cent of its annual budget on seawalls, land reclamation and desalination plants. The country’s borrowing costs have surged since it sold a US$500 million bond in early 2021, with the yield on the notes due in 2026 now trading at close to 19 per cent.
To meet its coastal adaptation needs the Maldives would need to spend US$8.8 billion, about four times its national budget, according to Ms Aminath Shauna, the nation’s Minister for Environment, Climate Change and Technology. Already 64 per cent of its islands are experiencing erosion as a result of rising sea levels, she said.
“It is a horrible twist of irony that our climate vulnerability makes us risky, and because we are risky, we can’t borrow the money needed to protect us from climate change,” Ms Shauna said in an e-mailed response to questions.
As natural disasters intensify and become more frequent, investors are increasing the interest rate they charge vulnerable countries, adding to the debt burden, according to the Boston University report. The elevated risk premium could trap countries into a “vicious cycle” of higher debt costs and a decreased capacity to invest in climate resilience, the researchers including Ms Luma Ramos and Ms Rebecca Ray wrote.
That is a state of affairs already playing out on the south-eastern coast of Africa, an area that has been ravaged by a spate of violent storms in recent years, events that the World Weather Attribution initiative has linked to climate change.
Mozambique’s finances were already in poor shape after the so-called tuna bonds scandal shut it out of international debt markets when Cyclone Idai hit in 2019, destroying crops and fuelling inflation. The nation’s outstanding domestic debt has surged more than 100 per cent to 301 billion meticals (S$6.4 billion) since 2019 and a series of late debt payments in early 2023 led Moody’s Investor Service to classify the nation as technically in default to local lenders.
“Liquidity pressures emerged in the context of unusually high debt repayments and higher than foreseen spending” exacerbated by Cyclone Freddy, a storm that ripped through the region in early 2023, analysts at Moody’s wrote in a report. “Recent events also highlight the credit effects of Mozambique’s susceptibility to increasingly recurrent and severe climate shocks.”
The growing frequency of natural disasters has spurred governments in climate-vulnerable countries to step up calls for increased aid from rich nations that have historically contributed the bulk of emissions. A breakthrough agreement was reached at COP27 to create a loss-and-damage facility to pay poorer countries for the harm caused by climate change, but it is not clear how the fund will be financed or structured and wealthy nations have historically handed over much less climate aid than they have promised.
Others have called for measures that would encourage more private sector funding of climate adaptation measures. Green finance has been successful in channelling money into climate mitigation projects such as solar farms, but investors are less inclined to allocate funds to adaptation schemes like building sea walls because the future revenue stream is harder to calculate.
The UN’s Lario estimates that for every US$10-$12 invested in climate mitigation, just one dollar is currently invested in adaptation. One option would be for multilateral organisations such as the International Monetary Fund and World Bank to step in as guarantors of projects to allow private investors to get involved without taking on so much risk.
“We need to focus on how to drive more private sector climate finance mobilisation,” said Mr Norbert Ling, ESG Credit Portfolio Manager at Invesco Asset Management in Singapore. “The role of multilateral development banks in scaling up climate finance is strong, they can de-risk projects for the private sector.”
In Nkomazi, cane growers can access loans from Akwandze Agricultural Finance, a venture between 1,200 small farmers and mill owner RCL Foods. Akwandze doesn’t require land as collateral for its loans because the sugar is grown in communal areas where there are no title deeds. Instead, the borrowings are secured against the farmers’ income from their crops.
But that is not much help when flooding has destroyed the sugar cane or prevented it from getting to the mill on time. Members of the cooperative that helped establish the bank can borrow at a reduced rate of 2 per cent above the so-called prime rate, used by banks to lend to their most creditworthy clients. Currently, the prime rate is 11.75 per cent, the highest since mid-2009.
“We had to dig down into our pockets, I think some they did take loans,” since the flood, said Mr Sabelo Shabangu, a farmer at Khanyangwane sugarcane project, a few kilometres from Dwaleni Farm, who has borrowed from Akwandze in the past and is still paying off the debt. “It gives farmers a huge burden. Once that money starts to be insufficient that loan will carry on and on and on.” BLOOMBERG
