As global financial conditions tighten and headwinds such as the Russia-Ukraine war emerge, several challenges exist for African countries in terms of their fiscal dynamics. Historically, developing economies with ample monetary and fiscal policy space along with current account balances, anchored inflation, and strong recovery prospects would have been able to withstand the tightening of global financial conditions as well as unforeseen risk events. The coronavirus pandemic has, however, depleted these defences and left some countries more fiscally fragile than before. While most African countries are relatively sheltered from the Russia-Ukraine crisis, they are exposed to the surge in commodity prices, particularly oil and wheat, which will have implications for inflation, current-account, and budget balances.
The purpose of this fiscal piece is to gauge which African Eurobonds could be susceptible to the adverse events mentioned above. We look at ETM's Fiscal Risk Model, which assesses how high or low a country's fiscal risk is and whether fiscal risks are increasing or decreasing based on a number of metrics, in addition to several factors including how vulnerable a country is in terms of the proportion of outstanding debt denominated in foreign currency and how high a country's debt rollover risk is. We have done this by analysing the debt profiles of various African Eurobond Issuers.
African Eurobonds bonds become an unexpected haven amid the Ukraine War
African Eurobonds have been exceptionally resilient to the deterioration in global conditions. While the combination of a hawkish pivot from major central banks, including the Federal Reserve and the Bank of England, together with the risk aversion related to the ongoing war in Ukraine, has hit emerging market dollar-denominated bonds hard, several African bonds are trading in positive territory in March.
Bloomberg data shows that of the nine developing nations which have seen their debt gain this month, notwithstanding the risk-off conditions, four are African countries. Africa is relatively sheltered from the crisis in Ukraine given its geographical location and the fact that many countries export some of the commodities that have surged as a result of supply concerns linked to Russia's invasion of Ukraine. Eurobonds in African countries with relatively sound or improving fundamentals have been a significant beneficiary as money that flows out of Russia seeks new homes. Apart from Europe, Africa's bonds offer the highest spread among major geographic regions and the lowest duration. Moreover, African bonds, for the most part, are relatively sheltered to fast money as investors generally hold these bonds through to maturity.
Overview of countries:
Ghana: When looking at ETM's Fiscal Risk Model, the country we identify as at most risk at the moment is Ghana which is already classified as being at high risk of debt distress. Note that holding Ghana's debt currently demands a premium of more than a 1000bps, a level considered distressed. Lenders see refinancing in the Eurobond market to be unviable when the US Federal Reserve raises rates and if Ghana's budget targets prove elusive. Stabilising public finances may prove challenging given the "overly ambitious" revenue estimates. At the same time, efforts to reduce spending could face hurdles, with public-sector wages and debt-service costs accounting for more than half of expenditure. In addition to tightening global conditions, access to international markets, such as Eurobonds by the government, has become increasingly difficult in the face of recent sovereign risk downgrades.
Zambia: Fiscally fragile Zambian Eurobonds will also face stern headwinds as global lending conditions deteriorate and as concerns of the country concluding a deal with the International Monetary Fund (IMF) intensify. Since becoming the continent's first pandemic-era defaulter in 2020, Zambia has since secured a staff-level agreement for a $1.4bn IMF facility. To date, a restructuring deal with creditors has yet to be reached, with talks only set to begin this month. China, which has lent heavily to African resources exporters in recent decades, will play a vital role in the debt overhaul, but there has been no meaningful progress. Zambia owes more than $6bn or 40% of its total publicly guaranteed and non-guaranteed external debt to Chinese lenders. The restructuring is seen as a test case for whether China will accept losses from a surge in loans to Africa over the past decade. Zambia has vowed to treat all creditors equally, but uncertainty remains. According to the IMF, Zambia remains at high risk of debt distress.
Nigeria: The rally in the oil prices on the back of Russia's invasion of Ukraine has provided a boost for oil-exporting countries and provided optimism of higher fiscal revenue, which may help partly bridge budget deficits. Paradoxically, Nigeria may be worse off as higher prices mean more subsidy payments for the government. With President Buhari having extended the fuel subsidy for 18 months, he had to send a supplementary budget to National Assembly recently to seek an additional NGN 2.55trn for a fuel subsidy at a time when the price of crude oil was lower than $95 per barrel. Moreover, weak oil production in Nigeria as a result of poor investment, insecurity, and theft suggests that the country may not be able to fully capitalise, thereby pressuring the government's budget. Note that Nigeria ranks third in terms of deteriorating fiscal risk from countries under study in our model. That said, elevated oil prices have to some degree supported Nigeria's hard currency bonds.
Kenya: Kenya carries a high level of fiscal risk in our model. While President Kenyatta's infrastructure spending has bolstered the country's economy, it has come at a high cost to its fiscus. Key fiscal metrics such as debt to GDP and debt servicing costs to GDP have risen sharply under the Kenyatta administration to the point where credit rating agencies and international lenders, including the IMF, have warned that Kenya faces a high risk of debt distress. While Kenya can still refinance its debt and is considering a $1bn Eurobond in the first half of the year to fund a larger than previously expected shortfall, political risks linked to elections planned for August could delay efforts to rein in borrowing and narrow the budget deficit. Moreover, the planned Eurobond issuance could prove costly to the government in an environment of rising global interest rates.
Egypt: Egypt faces deteriorating fiscal risk in the wake of the Russia-Ukraine war. The war has left Egypt facing higher costs for its substantial wheat import needs as well as loss in tourism revenue from Russian and Ukrainian visitors to Red Sea resorts. Note that Egypt is considered to be one of the world's top wheat importers and depends on it for its bread production. Government officials have said Egypt has a cushion of at least eight months of wheat supplies from reserves and the upcoming local harvest and that they are working to absorb economic shocks. However, investors have reportedly been paring their positions in Egypt in the financial markets since the February 24 invasion, reflecting concerns about Egypt's wide current account and budget deficits and exposure to policy normalisation in the US. Egypt's hard currency bonds have come under pressure, with many longer-dated tenors trading at record lows while the premium demanded to hold Egyptian dollar bonds over safe-haven US treasuries at a record high. Reports have surfaced that if economic conditions deteriorate, the Egyptian government may apply for another assistance package from the IMF.
Angola: There has been a significant improvement in Angola's fiscal and external debt metrics underpinned by a return to positive growth, sound fiscal management, the implementation of reforms, and higher international oil prices. Given that Angola is a major oil exporter, the oil price rally further magnified by the Ukraine war has provided a significant boost for the country's economy. Unsurprisingly, Angola has received rating upgrades from the likes of Fitch and Moody's. The improved fiscal backdrop and still favourable lending conditions have seen Angola plan to issue Eurobonds to the tune of $2.8bn this year in order to raise funds to repay existing debt and diversify its energy-dependent economy. Although caution still needs to be exercised when investing in Angolan assets, we are bullish on Angolan assets over the medium to longer term. The combination of the government's reform push, higher oil prices, and debt relief from some official creditors, which reduces immediate liquidity risk and underpins our bullish outlook for Angolan assets.
South Africa: South Africa has benefited immensely from the outflow of funds from Russia and Turkey. South Africa appears to be less risky than other EM and frontier markets. We expect investors will continue to favour SA in the months ahead as they take advantage of the attractive risk premiums on offer while having piece of mind that they can quickly exit their positions if need given the highly liquid nature of the bond market.
Bottom Line: Despite tighter global monetary conditions looming, we expect the marked increase in the price of non-oil commodities such as copper and palladium to provide some degree of support to the Eurobonds of other African nations. As such African debt may remain favourable. Furthermore, the elevated commodity prices should continue to underpin the resilience of African currencies through favourable terms of trade and improved fiscal revenue. That said, tighter global monetary policy conditions will undoubtedly have an impact on the more fiscally vulnerable countries, particularly those that need to fund themselves in the international Eurobond market.