Deteriorating public finances and transparency issues degrade public debt sustainability in Sub-Saharan Africa
- Recent debt accumulation has led to the highest debt ratios since the region received debt relief.
- Export receipts have grown much slower than foreign borrowing, raising concerns about repayment capacity.
- For some countries, lacking fiscal discipline and public financial management are main causes for outsized public debt build-up.
- Government borrowing in Sub-Saharan Africa has become increasingly non-concessional.
- Many Sub-Saharan African countries have gained access to international financial markets, exposing them to volatile market sentiment and shocks.
- Unprecedented borrowing in foreign currencies is exposing countries to exchange rate risks.
- The profile of bilateral creditors altered towards more non-Paris Club lenders (especially China).
- Debt structures have become increasingly complex, raising transparency issues.
In the last decade, public debt levels have been rising in all regions, but have risen particularly strongly in Sub-Saharan Africa and the Middle East. This Risk Insight focuses on factors driving the rapid debt build-up in Sub-Saharan Arica and the potential subsequent risks.
Rising public debt levels in Sub-Saharan Africa are the result of swelling fiscal deficits, leading to both an accumulation of domestic and external debts. Public debt stock levels of African oil exporters have increased at the highest speed. The regional ratio of general government debt to GDP has risen from 32.2% at the end of 2014 to an estimated 45% by the end of 2017 (almost a 40% increase). Compared to western standards, these ratios might not appear worrying. However, interest rates on public borrowing in Sub-Saharan Africa are much higher and public revenue collection capacity is much smaller. These countries therefore have more difficulties coping with higher debt levels. Additionally there are a number of aspects concerning the debt build-up in recent years that are particularly worrying. First of all, the recent public debt accumulation has led to the highest debt ratios since the region received substantial debt relief as a result of the Heavily Indebted Poor Countries initiative (HIPC), Multilateral Debt Relief Initiative (MDRI) and a number of bilateral debt relief programmes. Secondly, government borrowing in Sub-Saharan Africa has become increasingly non-concessional (at commercial term). Thirdly, unprecedented borrowing in foreign currencies is exposing countries to exchange rate risks. Fourthly, while foreign borrowing has increased strongly, the export receipts have grown much slower, leading to high external debt to export ratios and raising questions concerning countries’ capability to pay back their external debts. Lastly, the current debt build-up is associated with significant transparency issues.
Deterioration of the public finances
Public debt build-up in Sub-Saharan Africa has resulted from increased structural fiscal deficits. While in the period 2011-13 there were only 5 countries in the region with a budget deficit of more than 5% of GDP each year, this was the case for 12 countries in the period 2014-16. In total, 23 countries (out of 48 countries in the region) had a budget deficit larger than 5% in 2016. The increased fiscal deficits have three main reasons. First of all, on the expenditure side, large investment programmes were executed in a number of countries. Secondly, on the revenue side, a number of countries were impacted by the collapse in natural resource prices. The governments of oil exporting countries in particular have experienced an important decrease in fiscal revenues, yet the lion’s share of the oil exporters did not build up sufficient buffers during the oil boom to deal with the shock. Thirdly, fiscal slippages due to bad public finance management were witnessed in a number of countries.
There are three additional elements that added to the trend of rapidly rising debt stocks. First of all, the external debt of a number of countries has increased due to the valuation effects associated with exchange rate depreciations. Secondly, for a number of countries the cost of financing has increased which has led to increased interest payments. And lastly, a number of central governments have taken over liabilities incurred by state owned enterprises.
External debt build-up generally dominated by government borrowing
A great number of countries have been gradually shifting away from the often more expensive domestic debt towards external borrowing, partially explaining the trend of stacking external debts. Graph 1 shows the total increase in external borrowing by income group in nominal value in recent years. It displays how the total external debt stock decreased between 2004 and 2006 following the debt relief initiatives and embarked on a rising trend again since 2006 for countries in all income groups. The external debt has however not only increased in nominal value, the median external debt level to GDP ratio in Sub-Saharan Africa rose from 22.8% of GDP in 2007 to 41.2% of GDP by the end of 2016.
This clearly shows that the external debt build-up has outpaced GDP growth. Graph 1 shows that while the total external debt build-up is mainly due to increased public borrowing, there has been more private external borrowing as well. This trend is especially notable in the upper middle income countries of the region and in the lower middle income countries, yet to a lesser extent. It is also in the upper middle income countries that the strongest increase in the short-term debt levels was observed.
Widening external debt to current account receipts ratio
While Sub-Saharan Africa’s external indebtedness has increased in recent years, the current account receipts of the majority of the countries have decreased since 2014. Graph 2 shows for Sub-Saharan Africa as a whole, how from 2015, for the first time since 2004, nominal external debts vigorously outgrow export receipts. As the region still dominantly consists of commodity-based economies, the drop in receipts from exports of goods and services has been mainly due to the plunge in commodity prices in 2014 and continued to decrease ever since. The non-commodity exporters have only seen a slow increase in export receipts since 2013. As a result, the region’s aggregate external debt to exports ratio jumped from merely 64% in 2011 to 137% by the end of 2016 (excluding high income countries). This trend is also visible when analysing the number of countries in the region where the external debt to export receipts ratio is higher than 150%. While this was the case for 9 countries in 2012, the number rose to 20 countries by 2016. Furthermore, there are currently already 13 countries in the region where the ratio is higher than 200%, a high level since 10 of these countries have received HIPC debt relief. The external debt to export receipts ratio is a vital variable for measuring debt sustainability since repaying external debts becomes difficult when current account receipts turn out to be too low.
This issue is strongly related to one of the leading reasons for high public borrowing, being the ambition of African countries to tackle infrastructure deficiencies. In fact, these bottlenecks hamper development and limit export capacity. Therefore, investments are often made with the aim of increasing exports in the long term. However, large public investment projects can trigger unsustainable public debt accumulation if policy and borrowing decisions are ill-considered. Indeed, large public projects financed by loans closed at unfavourable terms (high interest rates, short maturities, backed by precious collateral securities) can be a destabilising factor for a country’s public finances. In addition, there is a risk that projects with a weak return on investment are chosen. These projects often foresee for example an expansion of harbours, rail networks etc. Not in all cases do these investments actually lead to an increase in exports. This is for example the case today in Kenya. While Kenya has already been building up external debts for a number of years, this has happened at an especially rapid pace since 2013. At the same time, the country’s current account receipts have stagnated since 2013. This has led to a significant jump in the gross external debt to current account receipts ratio, from around 110% in 2013 to more than 200% by the end of 2016. Countries like Ethiopia, Uganda, Cameroon, Mozambique and Rwanda follow a similar evolution.
In a number of Sub-Saharan African countries, the lack of fiscal discipline is identified as a cause of the outsized government debt build-up. Ghana for example has been accumulating relatively large primary fiscal deficits over the past decade, amplified every time the country was approaching elections. Indeed, around the 2008, 2012 and 2016 presidential elections, fiscal slippages and unduly spending led to deep holes in the budget and unfavourable debt issuances. As a result of this weak fiscal discipline (in combination with the drop in commodity prices and high investment needs) the Ghanaian public finances have been under serious pressure for years. In an important number of African countries, the lack of clear economic policy direction and reliable (and transparent) public financial management further raises uncertainty, while political and security issues are also at play.
Rising burden of government interest payments
The increased burden of interest payments is reflected in the growing number of countries that spend more than 15% of their total government revenues on interest payments. In countries like Ghana and Nigeria for example the 2016 government interest payments absorbed respectively a staggering 40% and 24% of the general government’s revenues. The bloated interest payments to government revenues ratio moreover reflects the fact that tax collection and institutional capacity generally remain weak in the region.
Gaining access to international financial markets
Following the financial crisis, global private investors searched for higher yields in a context of low international interest rates. Consequently, investing in higher risk debt instruments became more attractive. In accordance, African governments were eager to tap into international debt markets and boost public investment spending. On the one hand, funding for infrastructure investments became cheaper, while it also exposed the countries to volatile financial markets and shifting risk aversions. In fact today a total of 16 Sub-Saharan African countries have outstanding Eurobonds, including countries like Congo Republic, Senegal, Rwanda, Mozambique, Kenya and Zambia. The yields on these Eurobonds average around 9%. Despite problems afflicting these African countries (low commodity prices, liquidity shortages and in some cases political tension), investors remain intrigued by the higher returns. In combination with the likely increase of worldwide interest rates over the coming years, this situation might result in private investors’ sudden withdrawal or slapping on higher interest rates. This would seriously complicate refinancing, confronting these governments with a significant rollover risk.
Emerging exchange rate risk
Holding more external debts denominated in foreign currency exposes a country to currency fluctuations. In fact, exchange rate depreciation of a local currency raises the real value and burden of debt denominated in foreign currency. This occurred for example in Ghana in 2014 when the depreciation of the cedi led to a 10% increase in the country’s external debt to GDP ratio. It has also happened in Zambia in 2015, when a depreciating Zambian Kwacha increased the country’s external debt to GDP ratio by almost 10%. Currently, international reserves are under increased pressure in a number of Sub-Saharan African countries. For countries with a fixed exchange rate regime, this magnifies the risk of a possible devaluation (for example in the CFA zone). Angola devaluated the fixed value of the kwanza in January 2018 and the Nigerian naira was devaluated mid-2016 and mid-2017 following high liquidity pressure. The situation of low international reserves (resulting from larger current account deficits in the region) might trigger more devaluations in the future, which would further raise the external debt burden in the region.
Changing creditor profiles
Public borrowing in Sub-Saharan Africa remains dominated by bilateral and multilateral creditors and is provided on a concessional basis. Nevertheless, borrowing through bonds, commercial bank loans and from other private creditors has increased in recent years. While these three forms of commercial borrowing combined represented merely about 10% of total borrowing in 2007, its share more than doubled to around 23% by the end of 2016, see graph 4. The share of debt owed to multilateral organisations remains dominant. It should be nonetheless taken into account that in recent years, several non-traditional multilateral organisations (for example: the Islamic Development Bank and the New Development Bank) became increasingly active in the region.
Moreover, the profile of bilateral creditors has changed. Indeed, the share of borrowing by traditional Paris Club members has decreased, whereas new official bilateral lenders have emerged since 2000, dominated by China. Also the share of countries such as India, Saudi-Arabia, and Kuwait has increased significantly. China’s booming activities in Africa with huge (direct) investments and important trade ties with commodity exporters (iron ore, oil, copper…) coincide with the region’s great financial reliance on Chinese loans. On the other hand, following the financial crisis, Paris Club members were more limited and less willing to lend to the region. Another element has been the commitment of most Paris Club members to the “OECD Principles and Guidelines to Promote Sustainable Lending Practices in the Provision of Official Export Credits to Low Income Countries” in accordance with debt ceilings imposed by the IMF and the World Bank, with the aim of promoting maintainable public borrowing by “Low Income Countries”. Nevertheless, it is unclear whether non-traditional creditors (like China) follow such guidelines. This could create a window for less transparent and unsubstantiated borrowing by Low Income Countries.
Reduced transparency on government debt structure
The structure of public debt is becoming more complex. For African governments, this is due to more non-Paris Club lending as mentioned before and due to the fact that they are making growing use of complex debt structures such as collateralised loans, trader loans, bonds, public-private partnerships (PPP) and loans taken on by public entities that have a state guarantee (which can become a liability to the government in case the project fails). Having a precise and in-depth view on countries’ debt features has become more difficult as complexity is increasing. Furthermore, in a large number of countries in Sub-Saharan Africa the overall transparency of public debt remains problematic. The scope of the public finances is for example often limited to the central government and does not always include local governments, public guarantees and non-financial public companies. Another element relates to increased private market debt (Eurobonds) as explained above.
Reduced debt transparency raises the risk for emerging hidden debt scandals, disclosing a gloomier picture of a country’s public finances than had been anticipated. Today, two African countries are in debt distress after the discovery of hidden public debts: Congo Republic and Mozambique.
Two highlighted country groups
- Debt build-up by the post-HIPC countries
Under the Heavily Indebted Poor Countries (HIPC) initiative launched in 1996, debt relief was provided to 36 countries that were facing unsustainable debt levels. Additionally three other countries are eligible for future debt relief, but these currently do not satisfy all the criteria needed to reach the so-called “decision point”. Besides the HIPC initiative, debt relief was provided under the Multilateral Debt Relief Initiative (MDRI) to 29 countries. This concerned countries that had reached (or would reach) the HIPC “completion point” and had substantial debts outstanding to the International Development Association of the World Bank, the IMF and the African Development Fund. It foresaw a cancellation of 100% of the debt owed to these institutions.
Since debt relief was granted, public debt stocks and the risk for unsustainable debts have again strongly increased. Post-HIPC’s countries like Chad, The Gambia, Congo Republic and Mozambique have unsustainable debt levels again. Moreover, countries like Cameroon, Ghana, Mauritania and Zambia have seen their debt indicators deteriorate significantly over the past few years.
Graph 5 shows the evolution of public debt to GDP ratio for the 29 HIPC countries in Sub-Saharan Africa, between the end date of the debt relief initiatives and 2016. Obviously for a number of countries the public debt to GDP ratio increased from around 20-30% to above 40% of GDP while a great number of countries display an even stronger increase. In fact, the median public debt to GDP ratio for the post-HIPC countries increased from 29% of GDP after the completion of debt relief to 47.8% in 2016 and is expected to further rise to 52% by 2018.
- Sub-Saharan Africa’s major oil exporters
Oil prices have fallen dramatically since mid-2014 and even though they recovered somewhat over the course of 2017, they are expected to remain well below their pre-2014 levels. In fact, oil price projections made by the IMF balance around USD 54 per barrel for the coming years. African oil exporters have seen their government revenues nosedive given their high fiscal dependency on oil returns. The reaction to the shock has been diverse, while for example Angola drastically cut expenditures leading to a painful economic slowdown, Nigeria and Congo Republic raised government expenditure with the objective of spending their way out of the crisis. Most of these countries have weak (tax) institutions and very low non-oil fiscal revenue collection capacity. As a result, Africa’s oil exporters are all accumulating significant fiscal deficits leading to a very fast accumulation of public debt (financed both externally and on the domestic market). Henceforth, the gross general government debt stock to GDP practically tripled since the end of 2013. Efforts to enhance budgetary transparency, economic diversification and policy efficiency are vital for Africa’s oil exporters in order to reverse the trend of rising debts and recover confidence in these markets.
In recent years debt levels have been rising at a rapid pace in a number of Sub-Saharan African countries. While this has pushed-up debt close to unsustainable levels in certain countries, it may not be problematic for all if the debt collection is well managed. Nonetheless, a number of elements concerning the debt build-up are worrying. First and foremost, reduced transparency might blur the view on country-specific debt indicators. This raises the risk for unpleasant surprises with regards to public finance sustainability (like the case of Congo Republic recently). Secondly, more non-concessional borrowing by African governments is increasing the cost of lending and creates a significant rollover risk. Thirdly, loans denominated in foreign currencies are exposing countries to currency fluctuations. This increases the risk of external debt to suddenly surge in case of currency depreciation/devaluation. Therefore, it will be important for Sub-Saharan African governments to strike a balance between the need for investments and managing public finances. Policy makers in the region are confronted with extensive (popular) demand for development and investments, yet the financing of public investments needs to be carefully considered to prevent it from leading to a new debt crisis.