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Africa’s debt sustainability: cause for concern?

Publishing Date : 25 November, 2019

Author :

MARCUS COURAGE

Many African countries were caught in a debt trap at the turn of the century. A number of initiatives, most notably the Highly Indebted Poor Countries Initiative (HIPC), resulted in constructive but challenging negotiations and the debts of African nations being written off by the Paris Club of lenders in 2007. With the slate rubbed clean, African governments were free to borrow again. Today, eight countries are once more at risk of falling into a debt trap. Their chances of negotiating debt relief are grim.


Demographics and democracy

In the face of low domestic savings rates, it’s understandable that governments would want to borrow to invest in critical infrastructure and economic diversification. But in most cases, loans have been used to plug fiscal deficits and finance short-term political objectives. Ghana for example, used the proceeds of a debt raise to double some civil servants’ salaries.


In general, borrowing has failed to generate the revenues needed to cover increased levels of debt service, leading to a vicious cycle of rollover financing.  In a small number of cases loans have been embezzled. The case of Mozambique and the $2.4bn ‘tuna bonds’ scandal is perhaps the most brazen. On 17th October 2019, a former Credit Suisse banker confessed to a jury in Brooklyn that he had pocketed $45mn from the deal.


Rapid population growth in Africa (26 nations expect their populations to double by 2050) places pressure on governments to raise finance to serve expanding populations, while the spread of democracy encourages short-termism and myopia that doesn’t look beyond the next election cycle.  After all, politicians don’t win elections with promises to raise taxes and reduce public service spending.


The rise of commercial lenders

In the aftermath of the global financial crisis and the Eurozone crisis in 2008,  commercial lenders such as hedge funds and banks, and even high net worth individuals, moved into emerging and frontier markets in search of higher yields (African interest rates were higher than other regions, while rates in the West were at historical lows). African debt became a hot commodity and African governments were inundated with offers from banks and brokers to borrow on the private market.


Suddenly African governments had access to easy credit again, albeit at rates of interest that caused debt servicing costs to increase rapidly.  According to the Brookings Institute,’’ interest costs as a share of government revenues doubled from 5% in 2012 to 10% in 2017, its highest level since the early 2000s.’’  Today interest costs account for 10% of government revenues in seventeen countries, compared with six countries in 2012. This increase has been particularly large in Angola, Nigeria, Ghana and Burundi. Rising by almost 20%.


African governments raised more than $25bn from Eurobonds in 2018 alone, the third consecutive annual record. The practice continues to this day. Last week the Kenyan government announced its intention to borrow $4.1bn from external lenders (a total of 44 loan agreements), having been granted parliamentary approval for an increase in the country’s debt ceiling to $85.7bn. Parliament’s approval has opened the door for another $38bn on top of existing debt of $56bn (in June) and takes the nation’s debt to unprecedented levels.
Average external debt payments on the continent doubled between 2015-2017, from 5.9% to 11.8%. Much of this is commercial borrowing, accounting for 32% of total debt, and 55% of interest payments.


Table 1: Eurobond yields
Issuer
Size
Maturity
Yield (mid)
Angola
USD 1.75 billion
2028
7.72%
Benin
EUR 500 million
2026
5.15%
Ethiopia
USD 1 billion
2024
5.69%
Gabon
USD 1.5 billion
2025
6.95%
Ghana
USD 1 billion
2029
7.72%
Cote d’Ivoire
USD 571.5 million
2028
5.9%
Kenya
USD 1 billion
2028
6.45%
Nigeria
USD 1.25 billion
2030
7.1%
Cameroon
USD 750 million
2025
7.55%
Namibia
USD 750 million
2025
5.09%
Rwanda
USD 400 million
2023
4.16%

New colonialism

A ‘new colonialism’ is a term that was coined at the start of the century to reflect China’s growing influence in Africa and the proliferation of loan agreements underwritten by Chinese state-owned banks to African governments. When presenting the United States’ ‘New Africa Strategy’ in December 2018, Ambassador John Bolton said: ‘’China uses bribes, opaque agreements, and the strategic use of debt to hold states in Africa captive to Beijing’s wishes and demands.’’ Readers of the Wall Street Journal or New York Times could be forgiven for thinking that Chinese lending to Africa was responsible for the current levels of debt in Africa. It is not.


It’s easy to overestimate Chinese lending to Africa. $140bn was loaned to African nations by Chinese banks between 2000 to 2017.  While the sum is large, it accounts for only 20% of all debts owed by African nations to foreign lenders today. Nor are the terms of China’s loans predatory. The China Export Import Bank (Exim Bank), which is responsible for about 70% of Chinese loans in Africa lends at a fixed average rate of 2%.  Moreover, of the eight African nations that are categorized as being under debt distress, the proportion attributable to Chinese debt is negligible. 

Debt Distress

African debt levels have risen steadily from 38% of GDP to 59% of GDP between 2012-2018 (Debt to GDP is a measure of what a country owes, relative to its ability to pay).  Seven African countries today have a ratio above 80% - Eritrea, Cabo Verde, Mozambique, Angola, Zambia, Egypt and the Gambia. That’s 188 million people served by a public sector that in many cases is ill-equipped to manage these funds efficiently and productively.


Table 2: Public debt above 80% of GDP

Countries with Debt-to-GDP level above 80%
Debt as % of GDP in 2019 (IMF)
Eritrea
165.1
Cabo Verde
123.5
Mozambique
108.8
Angola
95
Zambia
91.6
Egypt
84.9
Gambia, The
80.9

In the past, when debt crises occurred and nations were facing default, they could negotiate with sovereign creditors. Today, nations must negotiate with a more diffuse creditor base comprising commercial lenders and vulture funds who buy debt on secondary markets, often at deep discounts with the intent of suing the debtor for full recovery. Vulture funds have averaged recovery rates of about 3 to 20 times their investment, equivalent to returns of (net legal fees) 300%-2000%.


Their practice is simple: purchase distressed debt at deep discounts, refuse to participate in restructuring, and pursue full value of the debt often at face value plus interest. The African Development Bank (AfDB) cites one recent case against Zambia, where a vulture fund, having bought a debt for US$3 million, sued Zambia for US$55 million and was awarded US$ 15.5 million.


Table 3: Debt as a proportion of GDP

Debt as % of GDP in 2019 (IMF)
Eritrea
165.1
Cabo Verde
123.5
Mozambique
108.8
Angola
95
Zambia
91.6
Egypt
84.9
Gambia, The
80.9
Republic of Congo
78.5
Mauritania
78.5
Sao Tome and Principe
77.2
Tunisia
74.4
Togo
72.6
Guinea-Bissau
69.2
Mauritius
68.7
Morocco
65.3
Malawi
65.1
Sierra Leone
64.5
Ghana
63.8
Burundi
63.5
Senegal
63.3
Kenya
61.6
South Africa
59.9
Ethiopia
59.1
Sudan
59.1
Gabon
56.4
Niger
55.8
Seychelles
53.8
Côte d'Ivoire
52.7


Risk of contagion

The backdrop of dimming economic prospects off the continent provides aggravated cause for concern on the African continent. In its half yearly update published in October 2019 the IMF said that almost 40% of the corporate debt in eight leading industrialised countries – the US, China, Japan, Germany, Britain, France, Italy and Spain – would be impossible to service if there was a downturn half as serious as that of a decade ago. 



The World Bank’s Chief Economist for Africa points to the real fragility of those African nations who have seen an increase in debt by more than 20% points over six years, in the event of a global downturn. Commodity price slumps, a natural disaster or conflict would have similar devastating impacts. Renaissance Capital, an investment bank focused on emerging and frontier markets, worries that a large spike of $12 billion in repayments is due by African governments in 2024—mostly from smaller oil-importing countries. This would be hard to roll over if the global economy in 2024 is in bad shape.

Public debt dynamics

The US has a 77% public debt to GDP ratio, while France had a ratio of 98.4% at the end of 2018.  In cases where governments have the capacity to bear high levels of debt, there's little reason for concern. But research conducted by the Brookings Institute concludes that ‘’public debt dynamics in many countries in sub-Saharan Africa are now working against their stability and growth.’’ They found that ‘the quality of policies and institutions has deteriorated or not improved in most African countries,’ with the biggest deterioration occurring in countries that have witnessed the highest increases in public debt. This should concern us.

What next?

The IMF is working to address the risk of default in nations facing debt distress. Under its IDA programme it has established a Sustainable Development Finance Policy (SDFP). Under this initiative they will engage with the non-Paris Club — the so-called emerging donors - to help restructure African nations’ debts where possible, and to ensure they remain eligible beneficiaries of IDA funding.


While you will never hear them speak of conditionalities, the IMF intends to use the next two years to push for measurable progress in the policy actions needed for debt sustainability. In instances where there is no measurable progress, they will reduce the allocation for the third year. Constructive engagement between the IMF and the governments of Ghana and Gabon have resulted in measures to successfully reduce their debt burdens in recent years, while the merry dance that has played out between the Government of Zambia and the IMF has failed to achieve the same results. Zambia’s external debt stock today stands at more than $19billion (a debt to GDP of 74%). It stood at just $3bn in 2008. 

Structural and governance constraints


The fact that nations face the prospect of another debt crisis less than two decades after HIPC debt relief was granted, is a reminder that structural and governance issues still pose a challenge on the continent. Domestic resource mobilization, through efficient tax revenue collection and domestic financial markets, forms an important part of the solution. 


Combating illicit financial flows and strengthening natural resource governance, is important too. And finally, accountability. We have to address the fact that governments can borrow billions of dollars on the Eurobond market with little or no accountability regarding the use of the proceeds, as Andrew Roche points out in his article published on 17th October 2019 in the FT.


So, what needs to happen next?

Firstly, African governments must stop denying that a problem exists.  Secondly, when issuing bonds, they should present full prospectuses, identifying clearly how the funds will be spent. The ‘don’t ask, don’t tell’ approach cited by Roche which characterises most bond issuances is irresponsible, and in the case of the Mozambican example I cited above, damn right criminal.  All revenue raises should be subjected to parliamentary scrutiny and to ESG performance principles, to ensure that the proceeds are invested in areas that generate improved performance at low risk and conform with environmental and social impact criteria. Such scrutiny should be rewarded with improved risk ratings for the nation.


For their part, issuers should be obligated to reveal the full costs of a transaction, including the costs of the underlying goods (in the case of Mozambique, the real cost of the tuna fishing fleet, and the cost of the inducements also!). Nor is the full cost limited to items appearing on the balance sheet. As Sylma Du Plessis, partner at Alkebulan reminds us, ‘many deals are structured in such a way that commitments are given off the balance sheet, whether through direct government guarantees or indirect take or pay offtake arrangements, such as power purchase agreements that place commitments directly or indirectly on the State (as in the case of Eskom in South Africa).


The role of the World Bank (IFC and MIGA) in structuring and insuring credit must improve also. These institutions often provide credit support to banks where most of the value ends up with the banks, not the country itself - in particular with difficult-to-price derivatives that get guaranteed by insurance companies and MIGA and are not always priced appropriately based on market prices, leading to significant mark to market gains for banks and limiting the credit lines available to countries.  


And finally, industry should take note  that high  levels of debt distress leads governments to  introduce new taxes (in 2019 the Zambian government has attempted to introduce a new sales tax),  or to pursue arbitrary and discriminatory enforcement of regulations aimed at  raising the funds they need to bridge the deficit. In such instances, companies would be wise to anticipate regulatory shifts and to work with industry peers to proactively raise and resolve concerns, while presenting feasible alternatives. Saying nothing and doing nothing is an act of sabotage.

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