In 1987, The New York Times reported that the first debt-for-nature swap (DNS) was motivated by a concurrent “global debt and environmental crisis.”1 Unfortunately, that description still rings true 34 years later—many of the same countries struggling with debt sustainability in 2021 also remain highly vulnerable to climate change.
The COVID pandemic exacerbated the dual debt/climate threat as governments faced increased social spending pressures and revenue shortfalls, leaving less fiscal space for improving climate resiliency. In 2020, nearly every country increased its government debt as a share of GDP (Figure 1), necessitating more urgent discussions on improving debt sustainability in highly indebted emerging market countries.
Figure 1
Debt to GDP Increases Were Nearly Universal Last Year
Haver Analytics. For illustrative purposes only.
The International Monetary Fund’s (IMF) Debt Service Suspension Initiative provided temporary relief by pausing some bilateral debt repayments, but the institution has indicated that more structural, long-term action is needed.
“{W}hen we are faced with this dual crisis—the debt pressures on countries and the climate crisis, to which many low-income countries are highly, highly vulnerable—it makes sense to seek this unity of purpose. In other words, green debt swaps have the potential to contribute to climate finance. They have the potential to facilitate accelerated action in developing countries. We are going to work with the World Bank, and by COP26 we will advance that option, which, of course, is then for creditors and debtors to decide whether to embrace.”
–IMF Managing Director, Dr. Kristalina Georgieva, April 8, 2021.2
Hence, DNS-type green debt swap transactions could be on the menu of options when COP26—the United Nation’s Climate Change conference—commences at the end of the month.
Green to Blue
While early DNS transactions focused on rainforest and land conservation, the concept was recently expanded to include ocean preservation. In 2011, the Nature Conservancy (NC) initiated discussions with the Seychelles about restructuring its external debt in exchange for increased marine conservation.
The Seychelles, an archipelago of more than 100 islands in the Indian Ocean, are extremely vulnerable to environmental issues, including rising sea levels, coastal flooding, and overfishing. The Seychelles’ economy is also highly dependent on tourism and fishing. Thus, the collaboration between the NC and the Seychelles resulted in the first “blue” DNS promoting sustainable fisheries, limiting oil and gas exploration, and preserving the coral reefs that protect the islands from extreme weather events.
In 2015, the Seychelles’ Conservation and Climate Adaptation Trust (SeyCCAT) was established as an independent national trust fund responsible for managing the proceeds of the restructuring. NC provided SeyCCAT with grant and loan capital to buy back nearly $22 million of sovereign debt (i.e., about 5% of public external debt outstanding) from bilateral creditors at a discount. SeyCCAT then restructured the debt with more favourable terms and now uses the government’s debt servicing payments to fund ocean conservation work, capitalize an endowment to provide sustainable funding for future projects, and repay investors (Figure 2).3
Figure 2
The Structure of the Seychelles Debt-for-Nature Swap
SeyCCAT. For illustrative purposes only.
In exchange, the Seychelles’ government committed to increase its protected ocean area from 0.04% to 30%, and it hit that target in March 2020. The Seychelles’ success in protecting an ocean area larger than the size of Germany means that it has already tripled the UN’s Sustainable Development Goal of protecting 10% of coastal areas.
Belize’s New/Blue Proposal
Belize has a troubled history with sovereign debt sustainability given it has restructured or defaulted five times over the past 15 years. Additionally, its economy is concentrated in tourism, fishing, and agriculture, which renders it highly vulnerable to climate change and tourism flows.
Belize’s single international bond, a $530 million issue known as the “Superbond,” was already in distressed territory in early 2020 as it traded around 63 cents on the dollar. The price subsequently fell below 40 cents as market participants digested the economic implications of the pandemic, particularly on international travel. By the end of 2020, Belize’s public debt to GDP jumped from 94% to 123%, 69% of which was held externally (Figure 3).4
Figure 3
The Recent Surge in Belize's Debt-to-GDP Ratio
Haver Analytics. For illustrative purposes only.
After struggling to service the Superbond throughout the pandemic and completing two consent solicitations to defer interest payments, the Belizean government proposed for a debt-for ocean swap in September 2021. Using private financing from the NC, Belize launched a cash tender offer to repurchase and cancel all outstanding Superbond debt at the heavily discounted price of 55 cents on the dollar. In return, Belize committed to “accelerate its marine conservation commitments, including enhanced protections for its coastline, reef and ocean territory.”5 Additionally, Belize committed to funding a $23.4 million endowment to support future marine conservation projects. Given that the Superbond was trading in the low 40s before the tender announcement (Figure 4), bondholders had a strong incentive to exchange their bonds for cash at the 55-cent price.
Figure 4
The Price Recovery on Belize's Superbond
Bloomberg. For illustrative purposes only.
While the Seychelles pioneered the first ever blue DNS, Belize’s proposal is on a much more ambitious scale ($530 million vs. $22 million). Additionally, while the Seychelles restructured its bilateral debts, Belize aims to clear the bond market entirely of its international debt held by commercial creditors.
The Belizean government projects that this blue DNS, if successful, will reduce the government’s debt-to-GDP ratio of 123% by about 12%.6 However, the level would remain well above 100%, which is high compared to the EM average of 63%. However, after extinguishing the Superbond, the government’s debt will be either in domestic currency or with multilateral and bilateral external creditors (primarily Taiwan and Venezuela). The debt-for-ocean swap, therefore, will not make a material dent in the country’s overall debt burden, but it will reduce debt service in foreign currency, thus improving the current account and reducing pressure on FX reserves.
Conclusion
DNS-type transactions will likely be most effective in countries with smaller debt loads where a limited amount of money can significantly reduce the debt-to-GDP ratio. Yet, there is scope for many countries to consider these programs as they confront the looming risks of rising debt burdens and climate change. Accordingly, we will be paying close attention to the outcome of Belize’s blue proposal as well as the conversation around DNS at COP26.
1 https://www.nytimes.com/1987/07/14/science/bolivia-to-protect-lands-in-…
2 Transcript of the IMFC Press Briefing, April 8, 2021
3 https://seyccat.org/our-evolution/, https://www.nature.org/en-us/about-us/where-we-work/africa/stories-in-a…, https://clubdeparis.org/en/communications/article/paris-club-and-seyche…
4 International Monetary Fund
5 https://www.centralbank.org.bz/docs/default-source/7.0-news-advisories/…—press-release-announcing-agreement-with-committee—final-version.pdf?sfvrsn=15388c35_2
6 https://www.breakingbelizenews.com/2021/09/24/government-extends-tender…
