Strategic Gaps Pose Huge Challenge to Sovereign Bond Repayment

Indebtedness is an issue that has strong affinity with the ruling Revolutionary Democrats. It strongly relates to the economy they inherited from the socialist dictatorship they overthrew in 1991 and the very way they finance their developmental ambition. As if to show that there is an inherent debt frenzy that transcends the two regimes, the nation, under the leadership of the Revolutionary Democrats, has continued to witness huge public debt build-up.

The latest addition to the mountain of debt the nation’s economy shoulders is the issuance of the one billion dollars sovereign bond by the government. An endeavour that gave the nation a new place on the global capital market map, the issuance of the sovereign bond has taken the economic debate in the nation to a new era. It may be enough to see that, for the first time in almost 20 years, the EPRDFites have officially revealed their deepest fears, including famine, political crisis and possible war with Eritrea, to the world. It was indeed a rare revelation.

The continuum of indebtedness, furthered by the latest addition of the sovereign bond to the mix, will certainly bring unique challenges to the Revolutionary Democrats. It not only presses them to bring economic equilibrium closer, but also forces them to worry about the state of the global economy.

Until the latest sovereign bond era, the debt history of the nation was largely related to concessional and non-concessional loans. According to the International Monetary Fund (IMF), the unconsolidated outstanding public debt stock of the nation stands at 12.2 billion dollars in 2013/14. If one is to add the contingent liability that state-owned enterprises (SOEs) pose and consolidate the debt, then, the amount could reach to 20 billion dollars.

The debt portfolio is concentrated in transport, infrastructure and electricity sectors. Projections show that the risk of national debt distress has a higher probability to move to moderate. Of course, none of these projections have considered a onetime addition of one billion dollar to the debt stock.

The latest euro bond debut entails unique opportunities and risks. No doubt its externalities will also be having exceptional impacts on the economy.

Ethiopia’s euro bond debut comes after the successful endeavour by African countries, such as Ghana, Angola and Kenya. Africa, in general, is having an era of bond bonanza. With yields on the bond vigilantes of developed countries staying very low, cognisant of the twin challenges of recession and deflation that the global economy is swimming in, it seems to be an opportune time for the frontier African markets to garner investor attention. Certainly, this is not a typical time of consciousness for the global capital markets. They are just looking for any possible frontier to hedge the risks posed by the near-zero interest rate they face in North America, Europe and Asia.

Complemented with a recent history of rapid economic growth, therefore, African economies seem to provide the yield-crazy capital investors sufficient return on capital to disregard the risks they usually associate with frontier markets. In any way, betting on a six to eight percent return on capital is a cheerful experience for the investors in a world where interest rates are near to zero and capital is very cheap.

It may be too early to judge the cost of the latest bond spree. Considering the huge demand, above the two billion dollars mark, that the latest bond debuts obtained, though, one would not be irrational to see that the dynamics will not be staying the same once the era of global recession and deflation ends. It is only, then, that the real cost of a six to eight percent interest would be visible.

Indeed, sovereign bonds bring benefits to local economies. For heavily state driven economies, such as Ethiopia, the influx of capital would mean less domestic competition for capital. This, in a way, releases more credit to the private sector. It is obvious that more credit entails better growth performance for the private sector.

By virtue of the strict transparency rules that the international capital markets operate on, a sovereign bond debut initiates reforms in economic management. This, in turn, involves better access to economic information, enhanced policy predictability and improved economic governance. Surely, these are things that any economy would benefit hugely from.

In and of itself, entry to international capital markets enhances the credibility of the country in the eyes of financiers. Of course, the credit rating that countries go through before such an entry plays its own role. But it is not an end in itself. What matters most is the commitment of states to pass through the stringent regulatory fences of global capital markets to eventually obtain significant credibility.

The merry-go-round ends there, though. What sits at the other end of the spectrum is the responsibility of the nations to pay back the loans, along with the hefty interests, within the agreed upon time frame. It is rightly there that the challenges of the Revolutionary Democrats reside.

Paying back one billion dollars, borrowed with an interest rate of 6.63pc, is no easy task. It is especially so in a situation where strategic gaps are dominant features of the economy. Sailing through the turbulent waters of global capital markets effectively is, therefore, about standing taller than these strategic gaps.

Paying back loans denominated in foreign currency requires incessant generation of the same. Failure to do so will bring huge risks to the economy. Considering the consistent lag in the country’s exports, a major source of foreign currency, this aspect of the equation is considerably challenging for the Revolutionary Democrats. If at all, it is the one area they have to spend much of their time contemplating.

Another strategic fracture relates to the Public Investment Program (PIP). This is the one fiscal instrument that the EPRDFites ought to revive back from the ashes of avoidance. Lack of a functional and rolling PIP is a huge fiscal policy gulf that the Revolutionary Democrats could not jump without decisive action.

Effective fiscal policy indexing could not be done through five-year plans. Having a prioritised list of feasible projects to be financed by sovereign bond is important. With the absence of this list, therefore, the run-on risk for the bond will be huge.

Equally important, but missing, is functional debt management institution and capacity. This is one area in which the EPRDFites have been under-investing. Cognisant of their huge dependency on concessional loans, mainly from the International Development Association (IDA), and non-concessional, low interest loans, mainly from China, they have been doing little to build both institutional and human capital in debt management.

Evidence of this is the consistent disempowerment of the Debt Management Department of the Ministry of Finance & Economic Development (MoFED). Despite the rising debt stock, the Department remained a mere statistical department with no influence on real time debt management.

It is obvious that weak institutions involve huge risks for thoughtful debt repayment. Unattended, they pave the way to default. It, therefore, is important to put in place effective debt management strategies and capacity.

In a way, the latest sovereign bond debut takes things back to 1991. Like the old days, the question is about effective debt management. And the right answer is to make consolidated debt the core monetary and fiscal policy anchor.


Posted

in

by

Tags:

Comments

Leave a Reply

Your email address will not be published. Required fields are marked *

This site uses Akismet to reduce spam. Learn how your comment data is processed.