A default in Ghana, and the risk of more to follow

The government of Ghana defaulted on 19 December. Eurobond markets had already priced in such a statement and the ratings agencies had anticipated it. Ghana thereby joined Zambia, Ethiopia and Sri Lanka as recent defaulters on sovereign debt. The view of the IMF and World Bank is that 60 percent of all low-income countries (LICs) already have, or are in danger of developing unsustainable debt burdens.

The bank estimated that the 74 LICs had combined external debt-service obligations of $35 billion this year, an increase of 45 percent on 2021 and a bill that was clearly unpayable in full in view of the Covid legacy, the war in Ukraine and the resulting macroeconomic turmoil. Rather than retrench and bear the huge social costs including the risk of unrest, governments and companies in LICs and middle-income countries issued bonds totaling about US$300bn in both 2020 and 2021.

Fiscal deficits have soared, local currencies have tanked, and the boost to food and energy prices from events in Ukraine has pushed inflation to levels not seen this century. In Ghana, the headline figure has now topped 50 percent year-on-year.

Ghana has been close to debt distress in the past. In the run-up to elections in a country where polls are generally close and generally fair, fiscal controls have often slipped. The result has been twin deficits (fiscal and current account). On the conclusion of elections, the government has got its house back in reasonable order. Yet it has borrowed heavily on external markets. Ghana was the first country in SSA to issue a Eurobond (other than South Africa and Mauritius) and has raised US$13bn from the market. The borrowing has done little for the productive economy, however.

This time around, the negative backdrop is unprecedented. President Nana Akufo-Addo said in October that he could not recall when “so many malevolent forces have come together at the same time”. He had a valid point. However, his government was adamant in mid-year that it could solve its problems with ‘home-grown’ solutions. Laudable of course but it adopted this position when portfolio investors, official creditors and ratings agencies were calling for the comfort of a new IMF programme. I’m A new staff-level agreement was reached with the Fund earlier this month but requires “assurances” from external and domestic creditors on a debt restructuring. For whatever reason, investors are again sceptical about the restoration of fiscal discipline without IMF backing.

If the elections in February do not bring an administration with a programme to transform revenue collection and restore fiscal discipline, Nigeria is heading in the direction of Ghana’s announcement last week

We should ask why the decision to default is not taken lightly. Above all, it is an admission of failure. Governments will look to point the finger elsewhere. The Ghanaian finance minister highlighted the exit of portfolio capital, the loss of market access and the sharp increase in domestic borrowing costs. The global headwinds have been very powerful and industry research suggests that the exit from emerging market (EM) bonds reached a record $85 bn in the first eleven months of 2022. The slowdown in global trade growth has limited the ability of commodity exporters to generate revenue to service their debts. For the sake of accuracy, however, the minister should have added flaws in domestic policy.

A default removes access to Eurobond and commercial borrowing markets. This helps to explain the limited take-up of the terms under the G20 Common Framework, which grew out of the debt service suspension initiative of April 2020. Signatories had to secure from private creditors comparable terms to those agreed with official bodies. Many governments preferred to keep the door open to borrowing on commercial markets.

Read also: Ghana’s debt overhang foretells Nigeria’s fate

This argument has limited relevance now that monetary tightening by the Federal Reserve has pushed up yields and made fixed income investors think twice about adding to their exposure to emerging and frontier markets. Default does, however, lead directly to negative ratings actions. S&P put Ghana on selective default on 20 December, adding that the rating would move to D (for default) on the first missed coupon payment.

Nigeria declined to apply for relief under the Common Framework for the above reasons. According to the IMF’s latest published assessment, its public debt burden is sustainable and will climb to 47 percent of GDP by 2027. The caveat is that the fiscal cost of meeting interest payments is among the highest anywhere. Nigeria has been spared by its substantial yet declining oil export revenue, and by the relief and buyback, it agreed with Paris Club creditors, which then comprised more than 80 percent of external debt, in 2005. If the elections in February do not bring an administration with a programme to transform revenue collection and restore fiscal discipline, Nigeria is heading in the direction of Ghana’s announcement last week.

Looking ahead with our glasses half-full, we might argue that, once tightening in the G7 economies has peaked, foreign portfolio investors (FPIs) will return to the EM universe. This would ease the burden on the multilateral agencies, which have become de facto the lenders of last resort to the LICs.

FPIs do have short memories. Yet they live in a different world to their experiences of the past two decades, and are likely to be cautious. Globalization is under attack from populism in developed and developing countries. A new Cold War has erupted, and climate change is wreaking havoc in SSA and elsewhere.