The Inter-American Development Bank and European Investment Bank have approved guarantees that give the green light to Barbados' groundbreaking US$295m debt-for-climate transaction, which is set to become the first debt swap to create financing for climate-resilient infrastructure and will offer a blueprint for other countries to follow.
The island nation is now expected to issue sustainability-linked debt in early September that will finance critical climate adaptation projects. Buying back debt at a discount using the guarantees will create savings of up to US$130m, which will be used to increase its water supply and security and improve sanitation by stopping waste water discharge into the ocean.
Barbados prime minister Mia Mottley said the transaction "sets a powerful and scaleable model for other vulnerable nations".
"With these guarantees, we are not only securing our nation’s water and food resources, but also fortifying our resilience against the ever-looming threat of the climate crisis," she said.
The boards of the IDB and EIB each approved a US$150m guarantee for the deal, which is the first time that a debt swap has been supported by two multilateral development banks and the first time that two MDBs have provided joint guarantees for a single operation in the Caribbean.
The guarantee from the EIB under the European Union’s “Global Gateway” investment strategy to support developing economies is also the EIB's first policy-based guarantee and the first time the bank has supported a climate debt swap.
The transaction is expected to include a private sector guarantee of US$60m–$75m that will sit alongside the MDB guarantees and could take the overall deal to US$360m–$375m.
"This will be the first time ever that the private sector will have provided guarantees for a debt swap, and this critical collaboration with the sovereign and its MDB partners will allow the transaction size to be upped by 20% or more," said Sebastian Espinosa, managing director at White Oak Advisory, which is advising Barbados on the transaction.
Wait pays off
Negotiations on the transaction started in November. Barbados' debt management office estimated at that time that the debt would generate savings of US$125m over 15 years, which would allow it to service around US$100m of new debt from the UN's Green Climate Fund (US$40m) and IDB (US$60m) to upgrade its South Coast Sewage Treatment Plant.
Barbados issued a request for proposals early in 2024 and was expecting to bring the sustainability-linked debt in the first quarter. However, the wait appears to have paid off. As well as repaying the IDB and Green Climate Fund in full, the swap will generate additional savings that will be used to fund more water security projects.
"The economics of the transaction have improved considerably since the design stage and we now expect that there will be surplus savings of around US$30m after the investment loan that is funding the water treatment plant has been paid off," Espinosa said.
Debt will be bought back with US$75m of sustainability-linked bonds and the remainder will be a local currency sustainability-linked loan. A consortium of local banks and an international bank have been selected to raise the finance and execute the buyback.
The debt-for-climate swap puts Barbados once again at the forefront of financial innovation and global partnerships and reinforces its leadership in development finance after an earlier landmark debt-for-nature swap in September 2022 and the country's Bridgetown Initiative, which aims to unlock climate finance for the world's most vulnerable countries.
The deal will also help Barbados to advance resilience plans outlined in its Updated Nationally Determined Contribution under the Paris Agreement, and in the Roofs to Reefs Programme, by increasing water availability and food security and strengthening the country’s resilience to the effects of climate change.
Under the guarantee programme, Barbados will also commit to adopting measures to improve tax and debt management and develop strategies to improve its financial resilience to natural disasters such as hurricanes and flooding as the Caribbean region remains vulnerable to extreme weather.
The 2024 Atlantic hurricane season is expected to be unusually active and intense, driven by exceptionally warm ocean temperatures.