Development and Debt: Power, Vulnerability, and the Architecture of Reform

The debt stress facing developing economies is not a passing liquidity squeeze; it reflects a governance imbalance that still privileges creditor leverage over development outcomes. Public resources are being diverted on a vast scale from social investment toward debt service, with direct consequences for the Sustainable Development Goals.

Between 2020 and 2025, lower-income countries directed 39% of external debt service to private creditors, 34% to multilaterals, 13% to Chinese lenders, and 14% to other governments. In many of the highest-burden cases, private creditors capture the largest share. The familiar storyline that singles out China misses where most of the money actually flows.

This skew exposes a deeper flaw: the credit rating impasse. Countries with sizeable private external debt now face a structural deterrent to using formal treatments precisely when they need them most. Once private creditors must be included for comparability of treatment, rating agencies classify the process as a default. Participation in an exchange or a standstill typically triggers default designations such as SD or D at S&P, RD at Fitch, or limited-default treatment at Moody's, even when the operation is part of an IMF or G20-backed path to sustainability. Earlier Paris Club–only workouts often escaped this because marketable private instruments were not in play. The result today is hesitation: governments delay requests for the Common Framework or resort to ad hoc re-profilings to avoid the default tag that raises funding costs and shuts market access at the very moment relief is meant to arrive.

Jurisdiction magnifies this deterrent. Most bonds eligible under the G20 Common Framework are governed by English or New York law, venues whose enforcement powers tilt negotiations toward creditors and increase the likelihood of holdout litigation. The 2012 Argentina litigation remains the defining precedent. Judge Griesa’s pari passu injunctions, affirmed by the Second Circuit and left untouched by the US Supreme Court, blocked Argentina from paying exchange bondholders unless holdouts were paid in full. S&P declared a selective default that July when Argentina missed payments because of the court order. The episode not only froze Argentina out of markets until 2016 but reshaped creditor expectations: governments now know that holdouts can invoke similar tactics, making rating downgrades more probable and restructuring timelines longer.

The holdout problem feeds directly into rating agency assessments. Without a sovereign bankruptcy regime, a minority of creditors can delay or derail settlements, forcing official and cooperative creditors to absorb deeper losses and leaving debtors with less fiscal space. The Common Framework’s reliance on equitable burden-sharing becomes a weakness when that equity is hostage to holdouts. Rating agencies price in this litigation risk, which increases the likelihood of a default classification when private creditors are involved. Countries are therefore discouraged from using the very mechanism intended to help them.

Trade vulnerabilities intensify the cycle. Export revenues underpin debt sustainability, yet protectionist shifts and geopolitical fragmentation threaten those earnings. The IMF estimates that sustained protectionism could lower global output by up to 7% over the long run. This erodes repayment capacity while making downgrades more damaging, particularly for export-dependent economies that rely on market access to finance trade and refinance maturing debt. Debt-to-export ratios among IDA borrowers climbed from 117% in 2013 to 190% in 2023, peaking at 240% during the pandemic. Industrial policy choices in advanced economies - such as re-shoring and friend-shoring - can therefore squeeze fiscal space in developing ones through trade channels.

Domestic debt pressures extend the deterrent’s reach. Local-currency issuance reduces foreign-exchange risk, but rising domestic service costs now compete directly with core development spending. When a downgrade threatens not just external market access but also the rollover of domestic debt, governments become even more cautious about triggering it. The impasse thus envelops the whole borrowing profile, not just external obligations.

Institutional reform offers partial insulation. Saint Lucia cut its debt-to-GDP ratio from over 90% in 2020 to 74.5% in 2024 by overhauling its borrowing framework, coordinating its debt office, and adopting the Commonwealth Meridian system for real-time monitoring. The Bahamas is following a similar path. These are not silver bullets but demonstrations that governance, technology, and predictable market engagement can push distress thresholds further away.

The most decisive fix would be a safe-harbour procedure embedded in the debt architecture. Official treatments that meet defined standards - IMF programme support, broad creditor participation, transparent debt sustainability analysis - could be classified as ‘distressed exchanges’ rather than defaults. This would mirror the way agencies distinguish between corporate restructurings intended to restore viability and those signalling abandonment. Piloting such guidance for Common Framework cases could reduce the deterrent effect without compromising analytical integrity.

The 4th Financing for Development Conference in Sevilla produced an agenda of automatic standstills, faster and broader treatment under the Common Framework, climate-resilient debt clauses, and re-channelled SDRs. These measures are necessary but not sufficient. Unless the debt architecture is aligned with the credit rating process, the impasse will continue to undermine the tools designed to restore sustainability.

Sovereign debt can be treated as a technical cycle to be managed or as a governance challenge to be redesigned. If creditor rights remain unbalanced by obligations to participate in equitable restructurings, if debtor institutions cannot manage risk in real time, and if procedural reforms are not embedded to avoid needless default labels, the system will keep penalising relief when it is most needed. That is the essence of the credit rating impasse: a safety net turned into a trap.