Risk-contingent credit for sovereign disaster risk finance

Abstract

After natural disasters, governments in developing countries often depend largely on humanitarian aid from donors and Development Finance Institutions (DFI). At the same time disaster affected developing countries repay public loans to donors and DFI (ODA loans). It is, hence, plausible to assume that risk contingent credit (RCC) which is widely discussed in agricultural and development economic literature might also bear potential for sovereign disaster risk finance. RCC allow a partial debt relief if ex ante defined risk events (e.g., natural disasters) occur. There would be especially potential for RCC if ODA loans are not risk-contingent. This study therefore tests for the countries of the West African Economic and Monetary Union (WAEMU) and based on panel data estimations with natural disaster, humanitarian aid, and public debt repayment data 1) if WAEMU countries depend on humanitarian aid after natural disasters, and 2) if in disaster years partial debt reliefs are granted with ODA loan repayments. The study finds that in disaster years WAEMU countries depend on humanitarian aid which is provided but with a slight delay after the natural disaster has occurred. Furthermore the study finds no evidence for natural disaster-related debt relief on ODA loan repayments in WAEMU countries. Hence WAEMU countries continue repaying ODA loans in disaster years whilst at the same time they receive humanitarian aid. The average ODA loan repayment in the investigated period for the WAEMU countries would be sufficiently high to provide WAEMU governments with enough means to respond to natural disasters. RCC could, hence, be an interesting disaster risk financing instrument for WAEMU countries. The development of disaster contingent financial instruments such as RCC was highlighted by the United Nations, the International Monetary Fund and also the 2018 G7 summit.