Local currency lending and risk hedging are promising solutions to reduce debt and encourage investment in low- and middle-income countries, yet they remain underused. Karim Karaki analyses the efforts of European financial institutions for development to enhance these strategies and calls for a strategic approach that aligns with the EU’s development, economic and geostrategic interests.
Summary
The annual global financing gap for achieving the Sustainable Development Goals has surged to an estimated $4.2 trillion, which poses a critical challenge for sustainable development, particularly in low- and middle-income countries. These countries have limited fiscal space and are facing heightened economic vulnerabilities due to a large portion of their sovereign debt being denominated in foreign currencies, exposing them to severe currency risks and debt instability.
Recognising this challenge, European financial institutions for development are undertaking several initiatives and exploring options to promote local currency financing and risk hedging. Yet, despite the growing interest in local currency financing and increased global advocacy for its use from coalitions such as the G77 and Bridgetown Initiative, it remains underutilised, accounting for less than 20% of the portfolios of European financial institutions for development.
In this brief, we analyse these institutions’ efforts to enhance local currency lending and risk hedging, and call for a strategic approach that aligns with the EU’s development, economic and geostrategic interests. The EU should view local currency financing as a strategic opportunity to strengthen its relationship with countries in the Global South and foster mutually beneficial partnerships.
To promote a coherent and effective European approach to local currency lending and risk hedging, the EU and its member states should clearly define their strategic priorities and support European financial institutions for development in adopting a range of solutions that promote collaboration, scale up successful models and align efforts to achieve the EU’s geostrategic goals.
About the Author
Karim Karaki is the head of ECDPM’s economic recovery transformation team.