Starting in 2007, a number of African countries have been issuing sovereign bonds in the international capital markets. Sub-Saharan African countries issued a total of $35.9 billion between 2005 and 2015. Ghana issued $3.45 billion, followed by Gabon ($ 3 bn) and Zambia ($ 2.9 bn).
This sudden rush to tap into the international markets was encouraged by a range of factors, including rapid growth and better economic policies in the region, high commodity prices, and low interest rates in developed countries, particularly in the US, Europe and Japan. Since 2009, as enthusiasm for risk assets improved and global interest rates further dropped, international investors carried on their search for yield in a low-interest rate environment, while African countries took advantage of the low international interest rates to fund themselves in global markets.
For African countries, the main reasons for issuing Eurobonds can be summarized as follows: flexibility in the use of resources compared to other types of financing (mainly from Development Financial Institutions); the larger size of funds raised compared to allocations from development partners in the context of the current declining trend of aid flows; sovereign's presence in the international capital markets.
Eurobond prospectuses often indicated that the proceeds will be used to fund infrastructure projects (mainly transport and energy); repayment of the external or domestic debt; easing budget financing pressures; etc.
However, the funds were often not used efficiently. Some of the targeted infrastructure projects were at the early stage (wish list of projects), and were not able to absorb the resources. Sometimes the funds were used to fund routine public expenditures. Currently, some countries that have issued Eurobonds find themselves paying high carrying costs pending the maturation of projects for funding.
Furthermore, the international market situation has changed with the rise of the Fed interest rates, continued sluggish growth in Europe, slowdown in Chinese growth, falling commodity prices, the apprehension of investors, etc. These factors have resulted in lower export revenues for African countries, depreciation African currencies and reduction in their GDP growth.
In such a context, will the repayment of Eurobonds lead to "eurobombs" that can affect the macroeconomic sustainability of these economies?
What needs to be done to prevent the build-up of a debt crisis on the continent?
Different countries, different situations
African countries issuing Eurobonds could be grouped into 3 categories: (i) "investment grade" countries, such as Morocco, South Africa and Namibia; (ii) countries with GDP growth rate higher than interest rate on the debt; and (iii) countries with GDP growth rate lower than the interest rate on the debt.
The cost of Eurobonds for "investment grade" African countries is typically lower compared to the cost for other issuing countries. Credit ratings is particularly important as it allows issuers to diversify the range of funding sources and at the same time, optimize the choices according to their priorities and opportunities. Getting a rating of "Investment Grade" requires implementing sound management of public finances, efficient public debt management and low political risk.
Countries in category 2, with GDP growth rate higher than interest rate on the debt, can still support their debt service as they create enough wealth to meet their obligations. The ratio debt/GDP could be sustainable. However these countries are still at risk if their economic growth rates slow. Countries in category 3 are in relatively vulnerable positions. They are currently under pressure to meet their debt service and the situation may become worse with the anticipated increases in the interest rates in the US. The combination of expensive debt and slow growth will lead to a deterioration of their external and fiscal positions, and then reduce the possibility of new borrowings. They will pay a high premium to gain access to the international capital markets again.
What needs to be done?
To prevent a new debt crisis on the continent, the urgency in 2016 is for International Financial Institutions (IFIs) to team up and provide a credit enhancement mechanism (CEM) and liquidity facilities (LF) subject to the implementation of structural reforms.
CEM should make it easier to secure better pricing and would contribute to reducing the risk perception of African credit through the provision of guarantee products. In exchange, the beneficiary countries would need to agree to implement reforms to reduce the perceived risk, increase macroeconomic discipline and target the achievement of "investment grade" rating on the medium to long term. LF should help to reduce the current pressure on the repayment of accrued interest and the principal of the Eurobonds already issued. The LF should have a longer maturity tenor, a grace period, a fast track processing and competitive pricing to provide headroom for macroeconomic sustainability. In exchange, the beneficiaries should explain the use of the proceeds of the issued Eurobonds and present a credible list of projects that may absorb the resources. Particular attention should be paid to projects that could generate high returns such as power, agribusiness and some transactions in the transport sector.
At the country level, a strategic agenda to unlock domestic financial systems should be implemented. We cannot build prosperous economies in the long term without efficient domestic financial systems. "I did a lot of infrastructure development in my life, to fund them with foreign currency is madness. OK? Madness" said Mr. Tidjane Thiam in October, 2015.
About the Author
Cédric Mbeng Mezui has extensive experience in the African financial sector and is also an accomplished researcher and author in the sector. He was appointed Coordinator of the African Financial Markets Initiative (AFMI) in December 2013, and leads the implementation of the African Development Bank's (AfDB) local currency bond markets development programme. Cedric previously led innovative finance work for regional mega projects having worked on more than 30 investment transactions across Africa. Cedric has a Master's degree in Banking and Financial Engineering from Toulouse Business School (France) and Master's degree in Money, Economy and International Finance from Claude Bernard University of Lyon (France).
Courtesy: Making Finance Work for Africa.