Since the onset of the oil price crisis, Angolan authorities have adopted a number of tight policy measures to preserve the health of their balance sheet. Authorities have implemented deep and painful budget cuts, announced multiple currency devaluations alongside hawkish monetary policy, and increased the price at the pump. But still, the government is approaching its limits on fiscal austerity, insofar as it wants to avoid a major public backlash. To plug the fiscal shortfall, the country has also had to turn to external sources. Having already exhausted a loan from China, tapped the Eurobond market and pursued a World Bank loan, the country is out of policy bullets and has finally decided to enter an International Monetary Fund (IMF) programme. Ghana and Mozambique have already called on this option while Zambia continues to flirt with the IMF for the time being. Nigeria, however, is likely to pursue a range of options including Chinese financing and concessional loans, and possibly even commercial borrowing, before arriving at such a point, given its low debt stock and aversion to changing its currency regime.
Such is the predicament of many African sovereigns (especially commodity exporters), who have now found their respective economies in crisis and state coffers running dangerously low following the commodity rout. Some have been more nimble and effective than others in managing the downturn, but major policy dilemmas have ensued, forcing governments to balance economically prudent solutions with what is politically palatable. Now, policymakers need to decide on the least damaging options for their economies as they adapt to a “new normal” of “lower for longer” commodity prices. With budget deficits approaching unsustainable levels in many countries and the supply of cheap debt in decline, some African governments face tough choices – cut spending and dramatically improve domestic revenue collection. Given low tax bases and revenue collection, as well as a huge reliance on commodity revenues, it will be difficult for governments to address these challenges without external assistance.
At the crux of the issue is the question of where the money will come from and on what terms and conditions. Many countries have either already run out or are running out of policy options, having made a number of painful fiscal adjustments. Angola, Nigeria and Ghana are all having to adopt a range of differing options to prevent their economies from coming to a standstill. While the severity and magnitude of the challenges vary in each country, the nature of the problem remains the same. None of these options are ideal for policymakers, but some are clearly more desirable than others.
The first and most obvious option is to raise funding via domestic markets. However, many countries are facing liquidity issues and exorbitant financing costs which renders this solution difficult. Countries like Zambia and Ghana are facing expensive interest rates in excess of 20% in their domestic market, which rules this option out of the equation.
Another alternative is to go the financial market route. But in recent times, dollar strength as well as a ramp up in debt has made commercial borrowing an expensive and risky option. Some commentators have even described this option as “suicidal” in the current context, given the fact that debt service costs have risen up to three fold for some countries.
Post-financial crisis, several African countries issued US dollar-denominated sovereign bonds for the first time at remarkably low interest rates, as investors flocked to African frontier markets in search of high yields. Eurobonds represented an attractive option for African sovereigns in the face of commodity price booms, low growth in the developed world and a need to finance continued economic growth. Furthermore, the unregulated nature of the instruments allowed them to emerge as a favoured financing mechanism. African governments have been able to raise funds without the level of scrutiny that is associated with other options, while also shielding investors from liability, making this option far more compelling than turning to IMF.
But the continent’s reliance on this type of debt as a source of revenue is concerning. With undiversified revenue streams, credit ratings downgrades, narrow tax bases and structurally constrained economies which are vulnerable to commodity and currency shocks and negative market sentiment, the magnitude of the debt servicing problem could be significant, if not approached with prudence.
Concessional financing is a method favoured by a number of governments given its less expensive nature and somewhat softer conditionality than the IMF. Typically, loans from the likes of the World Bank and African Development Bank assume lower interest rates than commercial debt. The overall aim is to keep the cost and risk of the debt (measured against any external shocks to revenues/exports/currency) sustainable. These loans cover a mix of project, institutional and budget support, and are usually entered into with the IMF’s blessing. Tanzania, for example, prefers this method of funding to commercial debt which it views as an expensive and unsustainable option. Concessional funding is also an avenue currently being pursued by Nigeria to alleviate some of its immediate financing pressures. Abuja is seeking a package composed of around US3.5 billion, with US$2.5 billion coming from the World Bank and an additional US$1 billion from the African Development Bank.
Finally, without the requisite political will to adopt the fiscal policy measures required to reform structurally, many sovereigns may again end up in the IMF casualty ward. This was the case in Ghana where ballooning government debt and falling export revenue triggered a 31% plunge in the currency against the dollar in 2014, leaving the cash-strapped government with no option but to turn to the IMF for financial and technical assistance.
While an IMF programme is often seen as a nominal policy anchor, which can provide investors with an additional level of confidence and open the doors for fiscal consolidation, it is often met with political resistance due to the fact that such programmes entail huge conditionality and austerity, which is not ideal for politicians, particularly in the run-up to tightly contested elections.
Essentially, the sticking point is around the “emotional aspect of conditionality”.
IMF programmes are also deeply unpopular because of the sweeping structural reforms they prescribe, the perceived negative impact on the poor, as well as the perception that they infringe on a country’s sovereignty. Furthermore, IMF involvement is often viewed in a poor light due to the legacy of the failed structural adjustment programmes of the 1980s. Aside from these factors, the fiscal transparency required from such arrangements is often incongruent with the political agendas of policymakers. As a result, authorities typically try to avoid this option.
Yet financial markets provided their own version of a “carrot and stick”, with yields for many Eurobonds spiking on the back of fiscal indiscipline and poor macroeconomic management. Zambia bears witness to this with its Eurobond yield rising to a staggering 14% earlier this year. This is a far cry from the dizzy heights of 2012, when the country’s maiden issuance spectacularly fetched a yield of 5,625%, lower than that of Spain. In both Zambia and Ghana, the tide has turned dramatically on account of “wicked” financial markets which have demonstrated the ability to punish countries without sound macroeconomic frameworks. Similarly, the Kenyan government, which aims to borrow at levels below 10%, has felt upward pressure from the political noise around its 2014 Eurobond and investor concern overs the country’s large current account, fiscal deficits and already high debt servicing obligations.
While loans from China may not entail political conditionality there is certainly “no free lunch”. Typically, loans assume the form of ‘cash for resources’, drawing criticism that African governments are mortgaging their futures to Chinese development finance, albeit with less “paperwork”. The China Exim Bank and China Development Bank only lend if the repayment profile is secured via predictable cash flows or payment in kind, hence such facilities are usually resource-backed. The DRC (Copper, cobalt), Ghana (oil, cocoa), Angola (oil) have experienced the negative side of this strategy in recent times.
The question worth asking is whether the conditionality in each funding option is explicit or implicit and how these are handled to limit political fallout.
Policymakers face sensitivities in balancing the need to attract foreign capital and appeasing international investors, with domestic considerations of the electorate and how such policies affect the “man on the street” and consequently their political popularity. More simply put, the funding “waterfall” equation is one that requires policymakers to walk a tightrope between “politics of the stomach” and having “money in the coffers”.
An unenviable task, to say the least.
*Ronak Gopaldas is the Head of Country Risk at Rand Merchant Bank