The pitfalls and potential of debt-for-nature swaps: A US-Indonesian case study

The vital role of forests in limiting the likelihood of dangerous climate change has precipitated renewed interest in debt-for-nature swaps. This article uses evidence on past debt-for-nature deals and similar debt mechanisms to assess a recent second wave of such swaps. It outlines five typical shortcomings of this form of financial transaction: that they often fail to deliver additional resources to the debtor country and/or debtor government budget; often fail to deliver more resources for conservation/climate purposes; often have a negligible effect on overall debt burdens (and, as such, do not generate more ‘indirect’ benefits); and are often in conflict with principles of alignment with government policy and alignment with government systems (these two last shortcomings being important elements within the new aid delivery paradigm). Our analysis is applied to a recent debt-for-nature swap between the United States and Indonesia. We show that this case, which we consider a litmus test for current swap practice, performs unevenly across the five shortcomings. First, although the US-Indonesian swap does increase available resources to Indonesia at the country level, it does not generate extra budgetary room for the Indonesian government. Second, the extent to which the resources provided by the swap are additional to other donor support and reserved domestic budget lines for conservation goals is unclear. Third, the swap is too insignificant to create indirect (positive) economic effects. Regarding alignment issues, fourth, the swap is very much in line with current national policy, but, fifth, appears at odds with the new aid delivery paradigm's insistence on system alignment. We argue that if a second generation of debt-for-nature swaps is to be pursued then they need to avoid the common pitfalls associated with this form of finance. Moreover, there is a need to debate broader ways of linking debt service repayments to climate mitigation and adaptation.