The rich world bears responsibility for much of the carbon dioxide in our atmosphere. The average person living in a high-income country today emits twice as much CO2 as someone resident in a middle-income country, and at least 30 times more than a person living in a low-income country. On current estimates, however, developing countries (excluding China) could account for more than 50 per cent of global greenhouse gas emissions by 2030. It’s clear that limiting global warming to no more than 1.5°C, as stipulated by the Paris Agreement on the climate, cannot be done without all countries, rich and poor, playing their part.
It is hard to imagine a single international authority powerful enough to coordinate the effort needed to meet this challenge. Collective action will be more achievable through voluntary associations of countries—or “climate clubs”, as first suggested by the American economist William Nordhaus—where the members of each group, led by a large stakeholder, pursue mitigation policies among themselves. The mega-states, meaning the EU, the United States and China, are the natural leaders, and they account for around half of global GDP and half of global CO2 emissions. Allies of the three hegemons, which include all other high-income and upper middle-income countries, account for another 30 per cent. These countries are deeply interconnected through trade, capital and technological exchange. The three powers would have the leverage to discipline countries in this group through trade sanctions or other measures.
That leaves the 20 per cent of global emissions that come from poorer developing countries. These nations will represent more than half of the world’s population by 2050, and they could easily double their current emission levels if they do not start greening their economies. Given that the Earth’s climate is increasingly sensitive to marginal shifts, growing emissions from this group could easily tilt the balance on global temperatures.
But it will be hard to convince developing nations to invest in a green transition if doing so stymies their economies. Many are already mired in debt distress. The high level of interest payments that their governments need to make on their public debt reduces what they can spend on other endeavours. This undermines not just their development efforts, but also their ability to decarbonise. Addressing the debt and climate crisis together could provide one solution to the dilemma. The good news is that the outline of such an arrangement is clear—and an emerging global consensus is inching towards it.
The only way to stabilise global temperatures is to stop emitting greenhouse gases into the atmosphere—a costly shift that requires profound change. But temperatures are expected to rise at least 1.5°C by 2050, and realistically by much more, before stabilising. Adaptation efforts are crucial. This is particularly important in poor countries, where extreme weather events like floods and droughts tend to wreak more havoc, whether because of geography or weaker infrastructure, and where people are sometimes living one climate shock away from destitution. There are myriad ways to adapt to extreme heat and cold.
Countries need to strengthen early warning systems, boost the resilience of agricultural and water management systems, safeguard infrastructure against the ravages of storms and heatwaves, and protect coasts and construction against rising sea levels.
An influential report published in November 2022 estimates the cost of climate transition for an average lower-income country at around 6.5 per cent of GDP per year by 2030 (current spending is only around 1.5 per cent). Those proportions are much larger in low-income than in middle-income countries. The additional expense of mitigation is modest, thanks to the price of renewables dropping dramatically over the past decade. Adaptation will be far more expensive, however, especially in poorer countries with vulnerable populations and small islands at risk of being swallowed up by the sea. The report authors’ estimated cost of greening the economy included considerations of what’s needed for a just economic transition, where losers—such as coalminers—are compensated.
The figures may look large, but such investments have high rates of return. They are crucial, too, in neutralising the drag on the economy generated by global warming. Various studies have concluded that if temperature rises remain limited to between 1.5°C and 2.5°C, the average hit to economic growth over the coming decades could be kept between 2 per cent and 4 per cent of GDP. The costs of the green transition are estimated to escalate faster at higher temperatures, reaching close to 10 per cent of GDP for temperature increases above 3°C.
Meanwhile, it is estimated that, in lower-income countries, about 8 per cent of GDP will be needed to reach the United Nations’ Sustainable Development Goals (SDGs), adopted by all UN member states in 2015. Current spending on these goals—which range from ending hunger, to achieving gender equality, to taking climate action—is closer to 5 per cent. Financing the remaining gap is crucial in convincing poor countries to invest in greening their economies. Taking the gap in spending on the SDGs and the climate together, total investment in developing countries will need to increase by another 8 per cent of GDP to reach both climate and SDG targets. But it is unlikely that poorer nations would be willing, or able, to engage in such an expensive effort without external support.
For poor nations, high rates of pre-pandemic growth have been replaced by debt distress
Climate action is an opportunity for growing the economy without destroying the environment or exacerbating inequality. The benefits are many. Such growth could catalyse productive capacity and innovation; clean energy is less polluting, meaning better public health outcomes; renewable and zero-carbon technology is likely to keep improving and becoming cheaper. Further, producing clean energy reduces fossil fuel imports, saving on scarce foreign exchange and eliminating a major source of macroeconomic instability.
As other countries develop alternative sources of energy, reliance on fossil fuels will become riskier. The EU is introducing carbon tariffs, which will increase the price of goods manufactured in countries that rely on fossil fuels to power their production. But developing nations can leverage their comparative advantages in producing green energy, especially in terrains where sun, wind or geothermal inputs are abundant. Others can produce carbon offsets, such as by expanding and protecting their rainforests.
In September, at the last meeting of the G20—the club of large economies—member states recommended that one-third of the extra resources poorer countries need for mitigation and adaptation should be financed by international capital flows, with the remainder coming from national resources. If we leave China out, this means that external support for developing countries must grow to $1trillion by 2030. In proposing such an ambitious target, the G20 recognised that developing nations have absorbed large negative shocks since 2019: the Covid-19 pandemic, rising food and fuel costs linked to the Ukraine war, and the more recent rises in interest rates due to restrictive monetary policies in the rich world.
For poor nations, high rates of pre-pandemic growth have been replaced by debt distress, balance of payment tensions, rising poverty, and regress on the SDGs. Fiscal accounts are under stress, and governments are facing tough trade-offs on which essential services to cut. An unassisted rise in green investments in the current environment is virtually impossible.
Thus far, the onus for scaling up external assistance has fallen on international finance institutions (IFIs) such as the World Bank and IMF, tasked by their shareholders with adapting their operations to the new challenge. The World Bank has adjusted its overarching goal in light of the climate crisis, and now seeks to create “a world free of poverty on a livable planet.” It is undergoing internal reforms to become more efficient—faster, with lower transaction costs—as a prelude to asking its shareholders—aka the international community—to increase capital contributions. Meanwhile, the IMF has created a new instrument, the Resilience and Sustainability Trust (RST), a new lending mechanism which will act as a catalyst by signalling that a country is ready to scale up climate action (agreement by the RST to provide a loan is an IMF seal of approval on a green transition plan). The current global ambition is to triple IFI disbursements by 2030, so that, together with bilateral support, total external official funding reaches $500bn per year. IFIs are also urged to “leverage” private flows, with sufficient guarantees to reduce the risk to private investors. An additional $500bn a year in private funds for green activities takes the sum to the $1trillion goal.
These public and private finance goals are highly ambitious—and probably unrealistic. The target for the climate is much higher than the current commitment of $100bn in climate finance pledged by wealthy nations at Cop15 in 2009—a goal that was only met for the first time 2022, two years later than promised. The aim of raising an extra 3 per cent of GDP, or nearly $320bn, to finance the SDGs represents a near-doubling of current support. New avenues for raising global taxes, including by taxing carbon emissions, are being pursued in various fora, but they won’t yield results anytime soon. Since 2017, the level of finance committed by commercial investors to climate-related projects in developing countries has amounted to only around $13bn in total.
High levels of external debt in developing countries pose a colossal risk to the green transition, damaging the chances of securing new investment. In 2023, the World Bank estimated that 60 per cent of low-income nations are in debt distress—unable to meet their financial obligations—or at high risk of it.
In the past two years, low- and middle-income countries have become net exporters of capital, rather than net recipients of capital flows to help them develop their economies faster. They have had to pay more in debt service since 2022 than they have managed to receive in new loans. This means that money has moved from poorer nations to the richer world. This resource flight has been exacerbated by developing countries being shut out from parts of the international bond market since 2023, as a result of the flight to quality after interest rates were raised by western central banks to fight inflation. The reduction of new loans from China and the rise in global interest rates have contributed to the crisis. For example, Ethiopia, a recipient in earlier times of flows from the private market and from China, one of the world’s poorest countries, has been bleeding capital to service debt for the past three years, instead of receiving aid to bolster its economy.
As things stand, organisations like the World Bank and regional development banks will be unlikely to scale up their financing unless the debt situation improves. High indebtedness has rendered support from the IFIs ineffective, as their financing has been more than offset by even larger net transfers to private lenders and China. International assistance is going to bail out old debts instead. As long as old creditors lay claim to new international support, developing countries cannot be helped with their green transition.
How can we overcome the impasse? Debt resolution that promotes economic growth must be three-sided. The debtor government can afford to undertake adjustment policies—investing in growth opportunities that pay in the future, for instance—only with the help of additional resources. The IFIs can safely lend those resources only if the old creditors restructure their debt. The old creditors, in turn, will do so only if the IFIs can apply effective conditionality to debtor governments to ensure that appropriate growth policies are in place.
High levels of external debt in developing countries pose a colossal risk to the green transition
Such a pact can solve what is ultimately a problem of collective action. The key to making debt deals more compelling to all parties is to design them in a way that enables growth. With stronger economies, the gains can be large enough to bring all sides to the negotiating table. As for the climate, the dominant actors are the creditors: the EU, the US and China. They form the backbone of the G20, and largely dominate the IFIs.
The debate today focuses on how to engineer a tripartite deal. There are two views, which rely on different expectations of how the world will evolve over the next 20 years.
The first is that a major push on debt reduction is required to create the headroom necessary for adequate investment in the green transition. The Debt Relief for Green and Inclusive Recovery Project estimates that, to make space for the required expenditures on the climate transition and to achieve debt sustainability, around 60 percent of the external debt of the poorest countries would need to be restructured.
Ambitious proposals for wholesale debt relief have failed, so far, to produce workable solutions. The grinding difficulties of reaching restructuring deals—in Zambia, Ghana and Sri Lanka—have demoralised the international community. Much of the opposition to debt relief has come from China, the largest bilateral donor, which prefers rescheduling to haircuts—the reduction in outstanding debt.
The second view is that a green investment push would generate so much new growth that this would allow a majority of low- and middle-income countries to be in a position to repay their debt. Proponents argue that compared to business as usual, the alternative “big push” scenario leads to higher indebtedness in nominal terms, but also higher growth, and—as a result—an improved creditworthiness for a large share of developing countries. Debt reduction would only be needed for a small number of countries.
The latter option, which we favour, is made possible by the modest levels of debt owed by developing countries, whose problem is currently more about illiquidity than insolvency. While only a handful of countries have defaulted on loans, recent estimates show that 30 developing countries are breaching the standard illiquidity threshold. The situation of these countries will worsen if they cannot roll over maturing debts. While debt reduction is a difficult process, it should be much easier for countries that are only illiquid to refinance obligations for the sake of a net-zero economy.
Our proposal for a “bridging compact” makes use of this idea. Led jointly by the World Bank and the IMF, it would support illiquid countries that have experienced negative net transfers of capital to enter a programme that postpones their debt obligations to all creditors in exchange for a commitment to a green transformation. This avoids the difficulty of reducing the debts of dozens of countries. It puts the onus on an indebted nation’s ability to develop ambitious plans for green growth, and on IFIs to start scaling up their financing rapidly. Most of all, progress would require the coordination of the efforts of poor states, IFIs and old creditors.
Current geopolitical splits make this a difficult task. Our proposal has met with some resistance, mainly from private creditors who have much to gain from the status quo. But the world desperately needs to move to a more sustainable future. In the absence of an ambitious mobilisation of global resources, a decade or more will be lost to the deteriorating global debt crisis. This is time the planet can ill afford to waste.
This article has been amended with the correct percentage of debt of the poorest countries that would need debt restructuring to achieve debt sustainability. An earlier version of this article gave a figure related to another larger set of countries
