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What would effective credit ratings reform for Africa look like?
Since the dawn of the new millennium, African countries have increasingly turned to international capital markets to fund their development initiatives. The initial wave of aid following independence in the 1960s, when the continent became a battleground for competing ideologies of capitalism championed by the United States and communism advocated by the Soviet Union, dwindled significantly into the 2000s. Simultaneously, African countries grappled with a period of declining commodity prices and the Structural Adjustment Programmes (SAPs) imposed by the International Monetary Fund, resulting in heavy indebtedness and economic downturns.
While foreign debt has been instrumental in financing large-scale infrastructure projects across the continent, it has also pushed many countries to the brink of economic collapse. The World Bank identifies 21 African nations as being at high risk of debt distress. Consequently, Eurobonds has now emerged as an appealing option, offering stable financing without the preconditions associated with multilateral concessional funding. However, the repayment terms of Eurobonds, like most debt instruments, are contingent on global credit ratings that dictate access to debt markets. This has led to African nations facing interest payments eight times higher than their European counterparts and four times greater than those of the United States.
Contrary to common assumptions, credit ratings are not universally standardized like ISO Standards. The complete dominance of the three major credit rating agencies — Standard & Poor’s, Moody’s, and Fitch Ratings — exerts significant influence over African countries’ access to debt and the associated terms. This concentration of power has spurred a renewed campaign over the past two years to reform the international credit ratings system, aligning with broader efforts to reshape the Global Financial Architecture such as the African Union’s inclusion in the influential G20 group and the historic World Bank/IMF meetings on African soil in October.
Why credit ratings matter
Rating agencies take a number of factors into account when assessing the level of risk associated with lending money to a government. These indicators include the level of government debt, per capita income, GDP growth, the stability of financial institutions, state fragility, inflation and default history, among others.
The perception of risk attached to Africa by global rating agencies plays a significant role in hindering investment. During a webinar on Financing Methane Action in Africa held by AfriCatalyst in November, Abdoul Salam Bello, Executive Director of the Africa Group II at the World Bank Group observed, “Africa is the least risky region to do investment in infrastructures – the default rate for financed projects is only 5.5%, the lowest in the world. We need to change the narrative of risk by harnessing digital technologies, exploring concessional funding, and establishing a one-stop shop for all investing instruments.”
Meanwhile, Katherine Stodulka, Director for the Blended Finance Taskforce and Partner at Systemiq, further implored, “Multi development banks (MDBs) should push rating agencies to understand the benefits of investment projects in Africa, the low levels of default, and to have a clear dialogue with African countries that urgently need the investment to carry out methane action.”
However, the process of credit rating reform is quite complex, extending beyond countries simply opting for or against ratings. Many African nations remain undecided about seeking a rating, possibly due to a lack of understanding of the positive benefits and the high costs associated with the process. As of 2023, only 32 countries had been assessed and rated, compared to just 10 in 2003. Despite the increased assessments, sovereign credit ratings in Africa are deteriorating, as highlighted in a joint report published last year by the United Nations Economic Commission for Africa (UNECA) and the African Peer Review Mechanism (APRM).
The period from January to June 2023 witnessed 13 rating downgrades assigned to 11 countries. Concurrently, Africa’s debt has surged by 183% since the start of the new millennium, nearly four times higher than its gross domestic product growth rate. Interest payments now constitute the largest and fastest-growing portion of expenditure for many African economies, coinciding with the downgrading of sovereign credit ratings.
In April 2023, African ministers, development actors and research institutes convened in an event organized by the United Nations Development Programme (UNDP), Africa Growth Initiative at the Brookings Institution and AfriCatalyst, on the sidelines of the World Bank/IMF Spring Meetings in Washington, D.C., to assess the impact of credit ratings on the cost of development finance in the continent. The discussions resonated with a study by UNDP revealing that African countries could potentially save up to $74.5 billion if credit ratings were based on less subjective assessments. Such a shift would enable these nations to repay their domestic and foreign debt principal, thereby freeing up funds for investments in human capital and infrastructure development.
In parallel, the United Nations Conference on Trade and Development (UNCTAD) has advocated for credit rating reforms specifically tailored to the financial needs of the world’s 46 least developed countries (LDCs), 33 of which are in Africa. The 2023 Least Developed Countries Report by UNCTAD emphasizes the inadequacy of the prevailing International Financial Architecture (IFA) in dealing with systemic shocks and mobilizing resources for LDCs at the required scale.
Avenues of reform
With Africa requiring $345 billion annually to attain the Sustainable Development Goals (SDGs), it is crucial to explore alternative avenues that can boost the continent’s risk perception. One such avenue involves Africa developing regulatory mechanisms to supervise international credit rating agencies to avoid erroneous assessments that discourage investment in the continent. However, there are concerns that effective regulations will be hard to enforce as African states lack capacity both on a technical and political level. Additionally, the power imbalance where African countries are reliant on foreign institutions for financial support means it is hard to individually challenge institutions that are part of the international financial architecture.
The other more likely pathway involves plans by the African Union to create a new sovereign credit rating agency that it says could provide more accurate risk assessments for governments across the continent. The African Credit Rating Agency (ACRA), which is set to be launched this year, is part of a widescale push to establish sovereign financial institutions that would utilize models inherent to Africa’s unique contexts. Similarly, it would build on nascent steps such as by the African Finance Corporation which has previously used its AAA rating to provide guarantees to transactions involving African countries. This type of guarantee has been vital in allowing countries to access international capital markets at a time when borrowing costs are high and market access is closed to many emerging economies.
Despite the inherent complexities, there is a certainty that credit reforms will materialize in the upcoming months. The nature and extent of these reforms will hinge on the proactive efforts of key stakeholders.
Citations
African Union. Africa sovereign credit rating review. 2023 Mid-Year outlook. Retrieved March 7th, 2024, from
United Nations Development Programme. More Objective Credit Ratings Could Save Billions for African Countries’ Development. Retrieved March 7th, 2024, from
United Nations Economic Commission for Africa. ECA and APRM support African countries on sovereign credit ratings and rating regulations. Retrieved March 8th, 2024, from