Debt-for-Climate Swaps [UPSC Notes]

Countries vulnerable to climate change and biodiversity loss struggle to invest in resilience due to their debt burden. International organizations and development banks provide assistance to help them survive the financial impacts of climate change. Read more to understand the meaning, pros and cons of ‘debt-for-climate swaps’. This is an important topic for the IAS exam GS-1 segment.

Debt-for-climate swaps:

• Debt-for-climate swap is a financial arrangement where a country with a significant amount of debt is provided relief from that debt in exchange for investing in climate change mitigation or adaptation projects.
• This enables governments to enhance their resilience without causing a fiscal crisis by freeing up fiscal resources.
• The swaps offer transparency and create fiscal space for climate investments.
• Debt-for-nature swaps were introduced in Latin America in the 1980s, and debt-for-climate swaps have emerged as a newer form of the arrangement. In debt-for-climate swaps, a new agreement is made, and the remaining debt is directed towards mutually agreed environmental investments instead of the initial loan agreement.

Relief for rich and poor alike:

• Debt-for-climate swaps promote investment and policy action while providing debt relief. 
• In a debt-for-climate swap, a creditor forgives or reduces a debtor’s foreign debt in exchange for the debtor’s commitment to invest in an environmental project. This has become a way to finance large-scale climate mitigation and adaptation projects.
• Creditor countries should engage in debt-for-climate swaps because they have a commitment to provide financial assistance to developing countries under global agreements, and these swaps offer transparency.
• Small island developing states are considering debt-for-climate swaps to address the challenges of climate risk and financial distress.

For Sri Lanka, climate is the savior:

• Sri Lanka is one of the countries most affected by climate-induced disasters, with millions of Sri Lankans predicted to live in climate change hotspots by 2050. 
• The country is also facing a sovereign debt crisis, owing around $45 billion to creditors, which has prompted talks of a debt-for-nature swap deal worth up to $1 billion. 
• This deal would provide climate-focused financing for developmental projects without further debt accumulation.

Downside of debt-for-climate swaps:

• Debt-for-climate swaps may cause policy disruptions, but they do create fiscal space.
• They are beneficial for small developing countries, but the scaling up of these swaps is still limited. 
• Creditors may not be willing to participate in the swaps if they do not see any gain, and the swaps can only succeed if creditors are flexible about the debt’s value.

Conclusion:

• Wealthy nations have a responsibility to aid poorer nations in the Global South by forgiving their debt, as the Global North bears responsibility for the climate debt resulting from their disproportionately high greenhouse gas emissions.
• Debt-for-climate swaps can be a tool to support vulnerable countries’ climate resilience.

Debt-for-Climate swaps [UPSC Notes]:- Download PDF Here