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Emerging threats to debt sustainability in Africa.
The fiscal shocks linked to the COVID-19 pandemic and the Ukraine conflict have compounded Africa’s economic situation. Over the last two decades, governments embarked on an unchecked borrowing spree, safe in the knowledge that debt levels would remain sustainable due to lower interest rates in developed economies.
But how times change. Africa is now on the verge of a debt crisis. The pandemic ushered in a period of economic downturn as commodity prices and expatriate remittances dwindled while the tourism sector collapsed. Even troubling is that since 2010, public debt has doubled in the continent. It reached 65% of GDP in 2022, compared to 32.7% in 2010. Most mega infrastructure projects constructed using loans have yet to reach profitability. Meanwhile, rising interest rates, currency depreciation, and food and fuel inflation pose significant threats to the concept of debt sustainability in Africa.
Without alleviating these issues, many countries across the continent risk joining Zambia in defaulting on their sovereign debts. In addition, a specter of social unrest looms should governments choose to undertake austerity measures dictated by multilateral lending partners.
Currency depreciation
At the start of the new millennium, African countries were in a healthy state of public and external indebtedness because of debt relief programs, higher economic growth rates post-Cold War, and improved fiscal management in some countries. Fast forward to today and the situation could not be starkly different. According to the International Monetary Fund (IMF), seven countries – Chad, Mozambique, Republic of Congo, Sao Tome and Principe, Somalia, Sudan, and Zimbabwe – are in debt distress while 16 others are at high risk of becoming debt distress in the next two years. For now Cabo Verde and Zambia are the only two where public debt has exceeded 100% of GDP, but more may follow.
Much of this rising debt level has been driven by currency depreciation. African economies borrow in hard currencies – primarily the U.S. dollar – which means that when their currency depreciates, the debt levels rise. Consider an example where Kenya takes up a $2 billion loan facility with zero interest rates in 2019 when the shilling is exchanging at 96 to the dollar (1usd – 96kshs). Today, the debt would stand at $3 billion due to the shilling exchanging at 142 against the dollar (1usd – 142kshs).
This situation is not just restricted to Kenya. According to the World Bank, African countries have recorded an average of 8% depreciation of their currencies since January 2022. In Ghana, the cedi’s depreciation has led to sovereign debt jumping from 63% in 2019 to 86% in 2023. “Since the beginning of the pandemic, exchange rate depreciations have contributed to the region’s rise in public debt by about 10 percentage points of GDP on average by end-2022, holding all else equal,” a press release by the IMF in May warned.
Rising interest rates
To understand how Africa found itself on the verge of a debt crisis, it is better to travel in time to the 1990s when liberalization promoted by the Structural Adjustment Programs (SAPs) and the Heavily Indebted Poor Countries Initiative (HIPC) launched in 1996 (and later supplemented by the Multilateral Debt Relief Initiative (MDRI) in 2005) saw a massive reduction in indebtedness.
Therefore when the financial crisis hit in 2008, Africa was fertile ground for private investors from developed countries looking to raise capital by offering low-interest financial instruments in capital markets. On the other side, African governments saw it as an opportune moment to borrow debt for infrastructure projects and to cover fiscal imbalances.
The bubble eventually burst in 2020 as interest rates shot up. Africa’s economic growth outlook has remained sluggish post-pandemic, standing at 3.9% in 2022 against the annual demographic rate of 2.6% over the same period. The cost of borrowing is so high, illustrated by the fact that in 2022, only two countries – Nigeria and South Africa – issued Eurobonds. Yields in secondary markets – which indicate what refinancing costs will be – have approximately doubled, with an average increase of 600 basis points (18%). Considering the total value of Africa’s Eurobonds is $140 billion and carries an average maturity of 10 years, this increase of 6% in interest costs amounts to $8.4 billion annually or $84 billion in total over the life of the bonds. This also represents 0.3% of Africa’s annual GDP, and given that Eurobonds average 30% of total debt, the overall cost of increased debt servicing will be a painful 1% of GDP each year.
Rising interest rates are not just restricted to external debt. Domestic public debt in Africa is also worrying since domestic banks that loan the governments are exposed to sovereign credit risk that could easily lead to financial crises. Moreover, with central banks poised to raise interest rates to match global trends, the cost of debt repayments is projected to rise sharply, placing a further burden on already beleaguered taxpayers.
Inflation
As if the pandemic was not a massive punch in and of itself, African countries are dealing with the ravaging effects of Russia’s invasion of Ukraine in February 2022. The conflict has had a surprising impact on the continent because both nations are major producers of wheat – a product that is widely consumed and imported from outside Africa. Fuel prices have also climbed sharply, derailing the ability of national governments to maintain debt sustainability.
However, some nations have benefitted from the oil and gas price shocks. Commodity exporters like Angola have had their credit ratings upgraded and doubled revenues. Countries with gas reserves such as Mozambique, Uganda, and Tanzania anticipate a boom in natural gas exports.
To mitigate these threats to debt sustainability, African governments should look to increase domestic revenues by filling the tax holes across all sectors. The average tax-to-GDP ratio for Africa remains below those of other regions across the globe. Raising taxes will have to be implemented carefully, not to explode anger in the streets. Recent demonstrations against the Finance Bill in Kenya that seeks to raise fuel prices by 8% to meet demands for a $140 billion IMF loan facility have resulted in police officers killing 50 protestors.
Moreover, debt restructuring will be crucial, as well as, economic reforms that foster accountability.
Citations
Aurore Sokpoh, Nora Chirikure & Jason Rosario Braganza. “Africa’s Debt Landscape: Scope for Sustainability.” Africa Policy Research Institute. Retrieved July 27th, 2023, from
https://afripoli.org/africas-debt-landscape-scope-for-sustainability
Berg, M. A., Portillo, R., Buffie, M. E. F., Pattillo, M. C. A., & Zanna, L. F. (2012). Public investment, growth, and debt sustainability: Putting together the pieces. International Monetary Fund.
Bill Battaile, F. Leonardo Hernandez, & Vivian Norambuena. “Debt sustainability in Sub-Saharan Africa: Unraveling Country-Specific Risks.” World Bank Group. Retrieved July 27th, 2023, from