Emerging markets (EMs) face distinct constraints and pressures to financial stability. EM economies are expected to contract for the first time since the Great Depression this year, amid a retrenchment in export demand and commodity prices. Already, India’s export growth fell 35% in March compared to a year ago while China’s GDP contracted 6.8% year on year in Q1—the first annual decline in four decades. Compounding the economic hit, EMs also face weaker state capacity and health systems and more limited public finances to provide stimulus. Amid waning global risk appetite, EMs have suffered record-high capital outflows (Chart) and weakening currencies. These challenges are already being reflected in sharply higher yield spreads on sovereign debt and foreign exchange shortages. Rapid debt accumulation over the last decade means many low-income countries enter this crisis in a vulnerable state. As such, governments may struggle to roll over debts coming due this year.
Encouragingly, the G20 agreed this month to offer 76 low-income countries a moratorium on bilateral government debt repayments until end-2020, which in addition to multilateral resources, will free up public finances for COVID-19 defences. Even though it does not cancel obligations, the initiative will provide major relief during the suspension period. However, given the growing weight of commercial debt on the balance sheets of many countries, the participation of private creditors will prove key for EM funding. Any unresolved financial and debt crises could derail the global economic recovery once the pandemic is contained.