How to write off part of Ukraine’s debt in exchange for climate preservation?

How does the mechanism of exchanging state debt for climate initiatives work, and what can it offer Ukraine in the reconstruction process?

Since the beginning of the war, the total amount of state and state-guaranteed debt has increased from $98 billion to nearly $125 billion.

In the coming years, we will spend billions of dollars on servicing the growing debt. Economists from the CES have discussed this in detail in previous columns on EP and separate studies.

To reduce the burden on Ukraine’s budget, we need to attract more grants, secure long-term and low-cost credits, and seek the utilisation of frozen Russian assets.

Furthermore, there is another new path, where a portion of the debt can be written off in exchange for climate preservation projects in the country. Such an option may align with Ukraine’s vision for reconstruction with “green” energy and industry.

Debt-for-climate swaps (DfC): What are they, and what are their advantages?

Debt-for-climate swaps (DfC) are a type of debt swap where the creditor country writes off the debt, and the debtor country commits to investing the funds in local climate change projects.

In addition to reducing the debt burden for debtor countries, DfC frees up fiscal resources for green investments.

Another advantage of DfC for debtor countries is that the released funds are directed towards financing projects within the country. This stimulates the economy while eliminating the need to purchase foreign currency for debt repayments. For creditor countries, DfC offers two benefits:

•   Reducing the debt burden on the debtor increases the likelihood of repayment for other remaining debts.
•   Creditors can record the amount of forgiven debt under DfC as their contribution to climate finance or development assistance.

In general, the concept of “debt-for-climate” is not new. DfC has its roots in the concept of “debt-for-nature” (DfN), which emerged in the 1980s and focused on ecological projects.

DfC differs in its broader scope, including other climate projects like green energy.

How to initiate a debt-for-climate swap?

There are two models for implementing a debt-for-climate swap. The first and basic model involves direct negotiations between the creditor and debtor countries. The creditor cancels the debt, and the debtor country commits to investing the funds in specific climate change initiatives.

A second model is a tripartite approach, where an intermediary organisation (usually a non-governmental organisation) purchases the debt from the creditor country at market value and cancels it in exchange for the debtor country’s commitment to invest in climate change efforts.

International experience

The first successful debt-for-nature swap took place in Bolivia in 1987. The NGO “International Union for Conservation of Nature” purchased $650,000 worth of Bolivian debt on the secondary market. It was cancelled in exchange for Bolivia’s commitment to enhance the protection of the Beni Biosphere Reserve and allocate $250,000 for its conservation.

One of the recent successful examples of DfN implementation is the case of Seychelles. The NGO “The Nature Conservancy” purchased and cancelled nearly $22 million of Seychelles’ debt in exchange for strengthening the protection of Seychelles’ territorial waters. Over five years, the protected area increased from 0.04% to 30%, preserving valuable coral reefs and rare mammal species. Critics note that since the 1980s, debt-for-nature swaps have generated just over $1 billion for environmental projects, which needs to be revised for substantial positive changes.

Unlike debt-for-nature swaps, debt-for-climate swaps are conducted without intermediaries, simplifying the agreement process and mobilising funds for climate change initiatives.

On an international level, the United Nations supports the widespread implementation of debt-for-climate swaps to support the implementation of the Paris Agreement. IMF Managing Director Kristalina Georgieva is also a strong advocate of such swaps.

How can this work in Ukraine?

As a future EU member and a country needing extensive reconstruction, Ukraine should take advantage of opportunities to invest in “green reconstruction” while simultaneously reducing its debt burden.

For example, Ukraine could negotiate with a donor regarding installing solar power plants in hospitals in exchange for partial debt forgiveness. This would address the issue of uninterrupted power supply while reducing greenhouse gas emissions and lowering the country’s debt burden.

Debt-for-climate swaps could be a promising debt policy measure for Ukraine’s reconstruction. Such negotiations should be conducted primarily with IMF-budget creditors, whose debts are to be serviced and repaid in the coming years, additionally, when we seek credit funding for the country’s recovery.