The arrival of the omicron variant generated a collective gasp from investors in developed economies, followed by a sigh of relief as early reports suggested that current vaccines – if boosted – would provide at least some semblance of protection. Yet, despite the resultant euphoria in equity markets over the past few days, omicron has already produced a slew of negative impacts such as renewed travel bans, testing regimes, and a reversal in the tentative normalization of the tourism industry. Moreover, as the variant continues to spread, so too does the risk of overburdened healthcare systems and additional lockdowns (several European countries were under severe strain even before omicron appeared).
The above risks are especially pronounced for low-income countries, many of which were already straining under the weight of onerous debt burdens. For them, omicron represents an existential threat in new borrowing needs, depressed commodity prices, and further pushing back the horizon for economic normalization. Absent new efforts from G20 countries to streamline debt relief, a cascading debt crisis in the developing world remains a real possibility.
Analysis
Debt distress in the developing world is hardly a new phenomenon, and much was written about the risks it represents even before COVID-19 appeared. In 2015, some 30 percent of low-income countries were designated as high risk of debt distress by the IMF. Now that number is 60 percent.
Take Sierra Leone for example. The economy of the West African country was hit hard by COVID, particularly through 2020, which saw a contraction in real GDP of 2.7% (following 5.4% growth the previous year). The economy has fared much better in 2021, with a projected expansion of real GDP of 3%, though certain sectors – namely services – have remained in contraction. Government finances have also been relatively stable through the crisis, with a fiscal balance of -5.4 in 2020 and -4.2 in 2021, and a relatively stable accumulation of overall public debt at 71.6% debt-to-GDP (which actually fell slightly in 2020).
Thus we have a country that did an admirable job of maintaining its fiscal outlook despite a collapse in exports and certain domestic industries. Yet Sierra Leone still faces major risks should COVID drag on via omicron or any future variant. For one, the government remains at the mercy of global financial markets due to its relatively high level of external debt (which the IMF flagged as a risk in its latest sustainability report). And two, as the IMF has also pointed out, the country’s current account deficit, which is both a long-term weakness and one that’s further compounded by COVID-related drops in exports, creates lingering currency risks, especially in the event of a sudden collapse in investor confidence.
