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Nontraditional loans leave highly indebted frontier economies vulnerable

Frontier economies have benefited from increased financing options in recent years, but those nontraditional options could come back to haunt them in the event of a debt crisis.

The International Monetary Fund's October Global Financial Stability Report states that both emerging and frontier markets benefited from broadly favorable external financing conditions this year. Yet, outstanding hard currency debt held by frontier markets has tripled over the past five years, climbing to more than $200 billion as of mid-2019.

The role of nontraditional creditors and subsequent limits on debt restructuring could put these frontier countries at risk in the event of a significant downturn, according to Mark Flanagan, assistant director of the IMF's Strategy, Policy and Review Department.

"The limits on concessional resources that are available are pushing countries more and more towards these non-concessional sources of financing. These are sources of financing that don't have good debt resolution mechanisms associated with them," Flanagan said during an Oct. 16 panel discussion. "That portends trouble for trying to resolve debt crises when they do rise in specific countries. A lot of these new creditors are seeking collateral, a legal way to try to stymie an effort to restructure debt."

The potential sources of a debt crisis for frontier economies – including commodity shocks and tightening global financial conditions – have not changed, according to Flanagan, although these economies received a temporary reprieve as financial conditions have loosened.

But the diversification of lenders has changed, and that poses a challenge when crafting a policy response, according to Eric LeCompte, the executive director of Jubilee USA Network, a development coalition that works to secure debt relief for the world's poorest economies.

"If we're really serious about stopping the next financial crisis, if we're really serious about preventing and stopping debt [crises], we can't just do the same thing we did in 2008 and hope for better results," LeCompte said during the panel discussion.