Debt-for-nature swaps can provide debt relief, but could constitute event of default: Moody’s

In a proposal to Sri Lanka’s government, the United Nations Development Programme (UNDP) has suggested debt-for-nature swaps as part of the sovereign’s broader debt restructuring plan.

Under the UNDP proposal, the debt-for-nature swap would allow a portion of the government’s large debt burden to be forgiven in exchange for the implementation of environmental policies or funding of conservation programs. The transaction would be likely to involve bilateral creditors and environment-related nongovernmental organisations as potential partners.

“Such a transaction could constitute a default under our definition and would be captured by our ratings based on our assessment of expected losses for private sector creditors. In a case where the transaction only involved public sector creditors and public sector instruments that we do not rate, the sovereign rating may not reflect the loss given default experienced by public sector creditors. This would be similar to our treatment of some sovereigns during the suspension of debt servicing to creditors from Group of 20 leading economies under the Debt Service Suspension Initiative during the pandemic. If private sector creditors were involved, we would consider the extent of losses for them,” Moody’s Investors Service said in an issuer comment.

“For Sri Lanka, we already assume substantial losses for private sector creditors in line with the global average for defaulting sovereigns after the government’s recent decision to suspend the repayment of external public debt. Coupon payments were missed on 18 April and are unlikely to be cured within the 30-day grace period.”

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