DEBT-FOR-CLIMATE SWAPS

In the past decade, debt-for-climate swaps have grown relatively popular among low- and middle-income countries.
Debt-for-climate swaps allow countries to reduce their debt obligations in exchange for a commitment to finance domestic climate projects with the freed-up financial resources.
It was introduced as a debt restructuring device that aims to combat climate change by ensuring that debt-ridden countries do not incur additional debt while addressing climate change locally.

The idea of debt swaps:

Debt swaps possess dual objectives:

to promote specific investment and policy action
some debt relief.
Acquisition of debt with some concession is the logic underlying the concept.
For instance, a debt-for-climate swap is an agreement between the creditor and a debtor by which the former forgoes a portion of the latter’s foreign debt, or provides it debt relief, in return for a commitment by the government to invest in a specific environmental project.

A new agreement would be worked out with a multilateral or bilateral partner to replace the terms of the initial loan agreement.
It would direct the remaining debt on mutually agreed terms towards “green or blue” domestic investments.
Green investments focus on projects or areas committed to preserving the environment.
Blue investments focus on sustainable use of ocean resources.

Why these swaps are attractive?

The signatories to the Paris Agreement and the Glasgow Financial Alliance for Net Zero (GFANZ), a global coalition of financial institutions, have a commitment to provide financial assistance to developing countries to build clean, climate-resilient futures.
Debt-for-climate swaps are one way to fulfil their commitments.

Transparency:

Debt-for-climate swaps are attractive instruments due to their transparency.
The concessional capital is assured to be directed to climate projects with third-party guarantors overseeing the escrow fund.
Transparency is key for assurance of commitment.

Investments in island countries:

Debt-for-climate swaps offer an innovative way to make climate investments in climate-vulnerable island developing economies while creating the much-needed fiscal space.
At the same time, debt-for-climate swaps support climate investment by committing a country to swing their spending from debt service to an agreed public investment.

Conclusion

The main problem with principal financial instruments is that they disturb the already strained economy in exchange for assistance.
However, debt-for-climate swap creates the much-needed fiscal space without causing policy disruptions.
Swaps are mainly advantageous for small developing countries.
However, the scaling up of the debt swap is still much lower than grants as creditors do not see their gain in this deal.
Debt swaps can only be successful if the creditors are not rigid on returning the debt’s whole value.
Rich countries have a responsibility to support poorer nations.
This demands the dispensation of debt to poorer countries in the Global South due to the Global North’s climate debt from disproportionately higher emissions.

SOURCE: THE HINDU, THE ECONOMIC TIMES, PIB

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