Bonds or Bust: Financing Africa

Last week, Moody’s, the credit-rating agency, warned that rising government debt in Africa could lead to credit-rating downgrade in the continent. There is a flurry of sub-Saharan African countries issuing bonds to finance infrastructure projects and fill budget deficits. Since Ghana raised $750 million by issuing a 10-year Eurobond with an 8.5% coupon rate in 2007, others have followed suit. Even tiny land-locked Rwanda debuted a 10-year $400 million Eurobond less than two decades after the genocide that destroyed thousands of lives and destabilized the region. According to Fitch, another credit-rating agency, debt issuance in sub-Saharan Africa could reach $6 billion this year.

The recent proliferation of Eurobond issuance in sub-Saharan Africa is driven by several factors, including decreasing foreign aid assistance, record low interest rates in the U.S., rapid economic growth and macroeconomic improvement in Africa. Budgetary pressure in OECD countries decreased development aid to African countries. Hence, many had to cope with shortfall in revenues.  Facing lackluster growth, donor nations tightened their grips. According to the OECD:

Bilateral aid to sub-Saharan Africa was USD 26.2 billion, a decrease of 4.0% in real terms from 2012.  Aid to the African continent fell by 5.6% to USD 28.9 billion. Excluding debt relief, which was high in 2012 due to assistance to Côte d’Ivoire, net aid in real terms rose by 1.2% to sub-Saharan Africa but fell by 0.9% to the continent as a whole.

Accommodative monetary policy by the Fed and ECB to spur economic growth has also pushed yield-chasers toward riskier investments. The appetite for sub-Saharan African sovereign debt is so abundant that even deadly attacks in Lamu and Mombasa didn’t hurt Kenya’s recent 5-year $500 million and 10-year $1.5 billion debt securities.

Better macroeconomic indicators, political stability and improved governance have also contributed in making sub-Sahara Africa attractive to foreign investors. Since the beginning of the so-called commodity super cycle, African countries have experienced steady (but jobless) economic growth. According to the African Economic Outlook, a report published by the OECD, UNECA and UNDP, growth in sub-Saharan Africa was 5% in 2013 and is forecasted to be 5.8 % this year.

African countries need alternative financing sources

Given the $48 billion per annum infrastructure funding gap in Africa, the recent issuance of debt securities is a positive sign. However, it is important for African countries to have an array of funding sources (i.e., domestic revenue mobilization, diaspora bonds, etc..), because interest rates will more than likely rise in the near future. Improving macroeconomic indicators in the United States, for instance, could lead to tighter monetary policy in the coming months. Additionally, the euro and dollar-denominated bonds could pose a risk due to local currency depreciation.

Sub-Saharan African countries should learn from their own previous issues with debt (HIPCS), financial crises elsewhere, and recently in peripheral EU and Detroit, Michigan, where ballooning public sector spending and housing bubbles led to debt defaults. Even though most African countries have not reached that stage yet (high debt/GDP ratio), it is imperative to avoid falling into the abyss. For instance, South Africa’s debt/GDP ratio has recently reached 40 % due to an increasing budget deficit and falling revenues.

The growing number of Sub-Saharan Africa countries issuing bonds in the international financial market is a positive and encouraging sign, however, there are risks involved. The main risk is excessive borrowing by politicians who will not bear the brunt when the chicken comes to roost (debt maturity). There could also be unnecessary borrowing once private firms and sub-national governments such as states and municipalities gain access to the international financial market, which could lead to bubbles. Therefore, it important to develop diverse financing sources, implement budget transparency and borrow responsibly to avoid solvency and liquidity problems in the future.

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