Hello and welcome back to MarketWatch’s Extra Credit column, a weekly look at the news through the lens of debt.

This week we’re getting into financing T-shirts and the latest in student-loan news, but first up, the relationship between debt and climate change. 

The finances of climate change

The United Nations came out with a dire prognosis for our species’ and planet’s future this week, with a report indicating that in the last decade, the world has been hotter than in any period in the last 125,000 years and warning that there’s “nowhere to run, nowhere to hide,” from the impact of climate change. 

You might be wondering how debt is implicated in our warming planet, but over the past several months, economists and others have argued that the money that poorer countries owe to richer ones is contributing to the climate crisis. I asked Rebecca Ray, senior academic researcher at Boston University’s Global Development Policy Center, to explain this relationship. 

“The big picture here is that the climate crisis is an economic crisis, it’s a long-term economic crisis for the developing world,” Ray said. 

The smaller and less wealthy a country is, the more vulnerable they are to the consequences of climate change.

The smaller and less wealthy a country is, the more vulnerable they are to the consequences of climate change, Ray said. Climate-related events in larger and wealthier countries may only impact a local or regional economy —- like a wildfire or major storm — but they have the potential for bigger consequences in a smaller, more vulnerable country, like wiping out a whole year’s worth of crops.

Coping with that volatility can make it challenging for countries to pay down debt they may owe to wealthier countries, private investors and international institutions like the International Monetary Fund or the World Bank, Ray said. 

But the debt itself can also be an obstacle to combating climate change. Often in disasters, wealthy investors will flee emerging markets, causing the value of their currency to plummet and the cost of their debt, which is typically in dollars, to rise, Ray said. In addition, developing countries may struggle to find buyers for their exported goods during these periods. 

In disasters, wealthy investors often flee emerging markets, causing the value of their currency to fall, and the cost of their debt to rise.

Most recently, we saw this dynamic as one consequence of the pandemic. But it also happens following climate-related events, Ray said.   

“Debt crises follow natural disasters and natural disasters are becoming more common with climate change,” Ray said. Adding insult to injury, the volatility of the value of debt and debt-service payments make it much harder for developing countries to invest in things that might blunt the impact of climate change and prevent future disasters, she said. 

These combined forces of debt and climate change represent “a systemic risk to the global economy,” that could exacerbate “climate and nature vulnerabilities,” the IMF and the World Bank warned earlier this year, according to a New York Times report.

Indeed, Ray said that a financial crisis in one country can often spill over into a neighboring country and with the global economy so interconnected it will be difficult to shield the rest of the world from the impact of climate change and debt on smaller, poorer countries. 

‘Getting the climate crisis under control is really, really crucial for global financial stability.’

— Rebecca Ray, senior academic researcher at Boston University’s Global Development Policy Center

“Getting the climate crisis under control is really, really crucial for global financial stability,” Ray said.  

Economists and policymakers have offered some proposals to deal with these challenges, including rethinking the debt obligations altogether. As part of a January executive order, the White House said it would create a strategy for how “the voice and vote of the United States” in international institutions could be used to push for debt relief that’s tied to meeting climate change goals. The IMF and the World Bank have also said they’re considering linking debt relief to investments in efforts that would combat climate change. 

In the meantime, countries facing the brunt of climate change — which has been caused in part by decades of industrial activity that allowed wealthy nations to become wealthy — say they’re fiscally constrained in their fight against its consequences and are owed some assistance in return. 

 “We should be compensated for suffering the excesses of others and supported in mitigating and adapting to climate-change effects — certainly in the form of debt relief and concessionary funding,” Christopher Coye, Belize’s minister of state finance, told The New York Times in April. 

Buy now, we’ll know the consequences later

The opportunity to pay for products in installments has become increasingly popular over the last few years, allowing shoppers to finance everything from T-shirts to Pelotons. In the latest sign of the “buy now, pay later” industry’s momentum, payments company Square announced it would acquire one of these firms for $29 billion (to read more about this deal and the sector more broadly, check out my colleague Emily Bary’s coverage). 

Despite the industry’s growth, we don’t have a good understanding of how these companies are making lending decisions and how much money they’re handing out, which could pose a risk to investors, analysts from Fitch Ratings wrote in a recent report. That’s because for the most part, the sector is made up of private companies and they aren’t reporting their data to credit agencies. 

That opaqueness “can make it harder to track the overall debt picture for an individual obligor or just an overall debt universe,” said Harry Kohl, a director at Fitch and one of the authors of the note.

We don’t have a good understanding of how these companies are making lending decisions and how much money they’re handing out.

These products position themselves as payment solutions, instead of debt, the Fitch note says, a feature that can make them attractive to consumers who might otherwise be wary of credit cards. 

In reality though, “it appears that the key differentiating factor for BNPL products versus traditional lending is lighter regulation,” the note reads. “Providers therefore have more discretion in the design of the underwriting process and may not perform certain steps that would be required for fully regulated loans.” 

That lack of regulation combined with the relative newness of buy now, pay later products could pose risks for consumers. The Fitch note points to evidence in the U.K. and Australia that some BNPL customers take on other loans to repay their purchases. In addition, 31% of U.S. respondents to a survey cited by Fitch said they’d incurred a late fee or made a late payment on a buy now pay later loan, which is when some of the more attractive features of the product — like a zero or low interest rate — disappear. 

“If there’s a problem of hidden fees or interest being applied if you miss a payment or other things that could potentially trip up a borrower, those are things when the opaqueness can come in,” Kohl said. “People that are new to buy now pay later may not be used to how it works.” 

But it’s not just consumers that this opaqueness poses a risk to, it could create problems for the companies themselves. Because the firms use soft credit checks in evaluating their lending decisions, there’s the possibility that they’re missing “loan stacking,” or when the same borrower has multiple buy now pay later loans from different providers, Kohl said. 

That’s an issue that plagued the beleaguered marketplace lending industry. 

Student-loan pause extended, and other updates

In last week’s Extra Credit, I wrote about negative amortization or the idea that a borrower’s student-loan balance can grow even when they’re making diligent payments. 

A recent analysis provides fresh evidence of this phenomenon and indicates that borrowers who have made voluntary payments during the COVID-era pause on student-loan payments, collections and interest are still struggling to get ahead. 

Roughly 63% of borrowers who made a payment during this period and have Navient as their student loan servicer owe more than their original loan balance, according to an analysis of Department of Education data published by the National Consumer Law Center and the Center for Responsible Lending. Of those borrowers, 26% owe between 125% and 150% of what they originally borrowed and 6% owe more than 150% of their original balance, the analysis found. 

(To better understand the history and factors behind negative amortization, read last week’s Extra Credit here).

ICYMI: The Biden administration extended that COVID-era payment pause during which some borrowers made voluntary payments, through Jan. 31, 2022. The Department of Education described it as a “final extension,” though officials have faced pressure from prominent lawmakers to extend the pause through March 31 and cancel some student debt.

How are you feeling about payments resuming? We want to know. Email [email protected].

This week the Biden administration also waded into a years-long battle between the federal government, states and student-loan companies over who has the right to regulate the federal contractors that manage the student-loan program. 

In a memo released Monday, officials took the position that state regulators are partners of the federal government in oversight of student loan companies. That was a reversal from the approach of the agency under former Secretary of Education Betsy DeVos, which said that states didn’t have the right to regulate these federal contractors because their laws would be in conflict with federal laws governing the student-loan program. 

The Biden administration’s reversal of the DeVos-era position could pave the way for closer oversight of student-loan companies as states increasingly make and enforce their own student-loan consumer protection laws.

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