Twin Crises: Debt Burdens and Climate Responses

Martha Molfetas

Debt burdens are a major roadblock to climate adaptation and the energy transition. Today, 3.3 billion people live in nations paying more towards interest on debt burdens than on healthcare or schools-leaving fewer resources to deal with climate shocks, climate resiliency, climate adaptation, or renewable energy. In 2023, global public debts reached $97 trillion globally, with $29 trillion owed by developing countries alone. Meanwhile, emerging and developing economies will need an estimated $2 trillion a year by 2030 to meet climate goals.

A thought leader on the climate-debt-development nexus, Laura Kelly from the International Institute for Environment and Development (IIED) shares insights on the role of debt burdens, development challenges, and potential win-win solutions to alleviate debt and promote a netzero transition.

What should people know about debt burdens that they don't know?

The scale. Countries are using large proportions of domestic revenues to pay debts. Those are funds not going towards health, schools, roads, clean energy, or climate adaptation. It's gotten to the point where many countries are paying more in debt than what they are getting in development aid or paying for social services. Debts are now held by a wider range of creditors too. Bilateral donors were the largest; now, they are the smallest debt holders. Companies like Blackrock and mining companies like Glencore have large debt stocks in developing countries. Solutions need to take that on board. It's not just about development banks. Many private investors have netzero targets and promote environmental credentials, while refusing to form swaps or refinance debts.

How does finance affect a just energy transition and climate responses?

Energy transition is essential for netzero and climate goals. If we're talking about a just energy transition, access to energy and grids beyond cities is something to think about for developing countries. So we don't have an energy transition that's just as unequal as the present reality. Often marginal and remote communities are forgotten. Just Energy Transition Partnerships have taken on board distributional concerns and justice lenses. It's not just about the quantity of finance, it's the pipework of how it gets to where it's needed.

What needs to change that can fix debt burdens?

We're heading for a crisis. The G20 recognized this in 2020 and created a debt service initiative and common framework to help. As we saw with Kenya's recent protests, this is not working. The money Kenya got they couldn't use for social services; they had to pay debt burdens. It's in Kenya's constitution that they will pay debts first; this helps their creditworthiness to access funding. But it means money isn't spent on things Kenyans need. Debt swaps and a range of initiatives are needed. The World Bank, IMF, and others need to work together on debt forgiveness, debt swaps, concessional grants, and commercial loans to offer guarantees. It won't be a one size fits all approach.

How much will developing countries need for climate and the energy transition?

It's about the quality of finance meeting the estimates. United Nations agencies, the International Energy Agency, and even McKinsey have all created their own estimates. McKinsey has the largest estimate that includes agriculture, at $9.2 trillion a year. But behind that headline, it's an additional $3 trillion on top of what's currently being spent. There's a lot of big headline figures, but in the details it's not as challenging a lift as it sounds.

Can debt for nature swaps be a saving grace?

Debt for nature swaps for the most indebted developing economies would release over $100 billion for climate and nature. Traditional swaps the United States and environmental groups created for forest conservation caused exclusion issues. The IIED came up with a locally owned and driven approach. Linking debt relief to key performance indicators for nations on a national level through their NDCs or climate impact risk made a difference. Developing countries want debt forgiveness. The private sector is not thrilled by that-a swap where there is no repayment-but we've achieved things across climate, energy, and nature that could be big for impact investors and philanthropy.

What else needs to be achieved to do this work?

How risk is assessed. Multilaterals do a debt sustainability analysis on climate risk rather than how we address climate risk and impacts. Looking at it from only a risk assessment perspective makes it harder to get resources where they're needed. Changing how risks are assessed would be beneficial. Right now, informal economies are viewed poorly. Across India, 90% of the economy is considered informal. In Kenya and elsewhere, everywhere you go there are open street markets. These informal economies support millions of livelihoods. Rather than seeing informality as increasing risk, it's important to see it as entrepreneurship that supports lives-a bottom up approach to assessments. These are the perspectives we should be changing.

Laura Kelly is the Director of the Shaping Sustainable Markets Group at the International Institute for Environment and Development (IIED). Laura is leading work on sector transformation in agriculture, energy, and minerals addressing climate change and nature loss. Laura has held several senior roles, providing strategic direction on international development, trade, and the Sustainable Development Goals in the United Kingdom's Department for International Development (DFID), now the Foreign, Commonwealth, and Development Office.

You can follow her on Twitter/X.