The overall sovereign debt situation in Africa is serious and looks set to get worse. But technical disagreements and limited political will to overcome them, between China, Western governments and the private sector, mean that the key mechanism for providing debt relief multilaterally – the Common Framework – is progressing very slowly.
China faces a critical dilemma of how to protect the value of its investments in Africa, while simultaneously defending its strategic interests and maintaining its self-image as a partner, not a predator. The Chinese authorities do not want to become ‘rule takers’ vis-à-vis the West on sovereign debt issues, but they have recognized that multilateral approaches can, at least in principle, help manage this dilemma. China therefore supported the DSSI through 2020–21 and agreed on the Common Framework in autumn 2020 to coordinate debt treatment in low-income countries. But rising economic pressure on some key African borrowers, combined with slow progress in the implementation of the Common Framework, reflecting in large part Chinese objections, mean that the current situation is not sustainable. This chapter looks in further detail at why this is the case.
Rising economic pressures on African debtors
The IMF projects that sub-Saharan African gross public debt will increase by just over 7 percentage points on average between 2019 and 2022 to reach 50.8 per cent of GDP. To a certain degree, this relatively modest increase reflects the strict constraints on many African governments in their response to the pandemic (in contrast to developed countries), but it also masks strong differences between countries experiencing economic shocks – particularly in energy and food prices – following Russia’s invasion of Ukraine. Thus, South Africa, Côte d’Ivoire and Kenya are projected to see their gross public debt rise by 14.1, 17.6 and 10.3 percentage points of GDP, respectively, over the three years to 2022, and some other sub-Saharan African countries (e.g. Rwanda, Ghana and Malawi) are expected to see even sharper rises. By contrast, the Republic of the Congo’s gross public debt is projected to fall from 84.8 per cent of GDP at the end of 2019 to 82 per cent in 2022.
Overall, however, the African debt situation remains serious, with, as noted earlier, 22 low-income African countries in debt distress or at high risk of debt distress at the end of November 2022. There is also a substantial risk that the debt situation faced by many African countries could deteriorate further in 2023 and beyond. This is due to four main factors:
- The negative economic legacy of the pandemic (reflecting, for example, the loss of human capital as a result of disrupted schooling during the pandemic, the diversion of spending from physical infrastructure to public health, and the impact on foreign tourist markets, particularly visitors from Asia).
- The additional impact of food and energy price shocks on some African countries underpinned by Russia’s invasion of Ukraine. According to the World Bank, many poor countries in Africa are exceptionally dependent on food imports from Russia and Ukraine, with 15 African countries importing more than 50 per cent of their wheat from these two countries.
- The consequences of tightening financial conditions worldwide as the central banks of advanced economies, particularly the US Federal Reserve Board, aggressively raise interest rates and curtail other forms of monetary easing in order to fight rising inflation. Increasing US interest rates are being accompanied by higher spreads in lending to developing countries and have also contributed to a strong dollar. Taken together these factors will sharply increase the cost of servicing the dollar-denominated debt of African nations, while also encouraging capital flight.
- The slow pace of the multilateral policy response to debt distress. The G20 DSSI suspended $12.9 billion in debt service payments, between May 2020 and December 2021. Critically, the DSSI only postponed debt-servicing obligations – it did not eliminate them. The IMF’s $650 billion special drawing rights (SDR) allocation – to supplement member countries’ foreign exchange reserves – has not been repeated in 2022. That said, the IMF’s Resilience and Sustainability Trust, a new vehicle designed to recycle part of the liquidity boost resulting from the 2021 SDR general allocation has been set a target of raising $100 billion, and started operations in October 2022 with agreed financing of $20 billion and good prospects for raising $37 billion. Meanwhile the G20 Common Framework, which was intended to provide a medium-term alternative to assist countries in debt distress, has developed much slower than expected.
Slow progress in multilateral debt relief
Agreeing the Common Framework in November 2020 was a significant achievement as it essentially applies the Paris Club methodology to addressing debt sustainability issues in 73 low-income countries, but through a creditor group that includes China and other non-Paris Club official bilateral creditors. However, there has so far been very limited appetite on the part of countries to apply for relief under the Common Framework, in part because progress towards completed debt treatments for those that have applied has been painfully slow. Only three African countries have applied – Chad, Ethiopia and Zambia – and only Chad has completed a treatment of its debt in well over a year since it applied. The IMF put in place an extended credit facility (ECF) for Chad at the end of 2021, but the first and second reviews will only be finalized once the agreed debt treatment with both official and private creditors has been formalized. As noted earlier, the IMF board has recently agreed an ECF for Zambia after a lengthy delay, but the process of agreeing debt-restructuring commitments from official creditors is ongoing. Meanwhile, Ethiopia’s civil war has complicated the response to debt relief measures. A creditor committee has been formed, but progress has been even slower than in the other two cases.
Despite the delays in the Common Framework to date, some experts are optimistic about its future. They argue that the slow progress reflects the fact that some potential candidate countries have been able to find alternative private sector sources of finance, and so have not needed to make use of the mechanism. In addition, it has taken time for China to coordinate its lenders and get sufficiently accustomed to key features of the process. According to this view, the recent progress on Zambia and Chad partly reflects this, and once the existing cases start moving forward more quickly, other countries will have more confidence in applying for consideration under the mechanism. By contrast, other experts argue that the Common Framework is not only failing to deal speedily enough with those countries that have already come forward, but it is also failing to engage with many creditors that are in severe, but not yet acute, debt distress. As a result, in its present form, the Common Framework will not be able to head off a likely future debt crisis.
Whichever position one takes, it is clear that the Common Framework has not yet met its initial promise and there is scope for significant improvement. There are four specific problems with the Common Framework as it currently stands, all of which are directly linked to Chinese positions.
First, some lenders and parts of the authorities in China are still uncomfortable with the central role played by the IMF – together with the World Bank – as an independent arbiter of how much a country can afford to pay through the debt sustainability analysis (DSA), which underpins debt relief negotiations. In signing up to the Common Framework in autumn 2020, China implicitly accepted that the IMF would play this role. But the fact that the IMF and World Bank alone make the key political and economic judgments, combined with the Chinese view of the IMF as a Western-dominated institution, and China having far more at stake financially than Western countries in several of the African debtors being looked at, makes the existing situation difficult for China to accept.
Second, there is the concern of both public and private sector Western lenders over the lack of transparency in the total amount of external debt African countries have incurred. Such transparency is essential to ensure that any agreement on debt relief sees appropriate burden-sharing across lenders, and that the total amount of debt relief granted is sufficient. The 2021 UK presidency of the G7 led an initiative to enhance transparency around lending to developing-country debtors. However, there has been little traction so far with G20 emerging economies (including China) on making similar commitments. Private sector lenders and rating agencies also argue that, while they are ready to publish lending data themselves, the debtor countries often baulk at the idea. This could reflect a desire to protect a country’s credit standing by disguising the amount of debt outstanding, but it could also indicate weak governance and the desire in some countries to disguise past or future corruption. From the perspective of debtor countries, it may also be an assertion of sovereignty and wariness over Western initiatives that may not fully align with their interests. A further concern is that current debt transparency initiatives may not adequately capture the risk characteristics (such as currency denomination) of the debt African borrowers are taking on. This can be as important as the total debt stock in determining future vulnerability, and is possibly even more important.
Third, there are differences of view between the Chinese authorities and Western governments on exactly how burden-sharing should be implemented between different types of lending institution. Both sides do agree strongly on the need for private sector lenders to be fully involved in the granting of debt relief through the Common Framework. Indeed, a key problem with the DSSI was the lack of automatic private sector involvement – only one private sector borrower participated in the DSSI. This may reflect a lack of borrower requests for private sector relief, linked to concerns over the potential impact on their future access to private sector lenders.
Chinese and Western authorities disagree on what constitutes private sector lending. The West takes the view that this should be based on the nature of the institution making the loan, while China believes it should reflect the terms on which the credit is extended.
But Chinese and Western authorities disagree on what constitutes private sector lending. The West takes the view that this should be based on the nature of the institution making the loan, while China believes it should reflect the terms on which the credit is extended – for instance at market rates or concessional. Thus, China has taken the position that all loans by the CDB and some of the loans from the EXIM Bank are ‘commercial loans’. However, the fact that both institutions are owned by the Chinese government puts their loans in the ‘official supported category’ as far as the West is concerned.
Western governments typically also accept the argument that multilateral lenders – notably the World Bank, but also other multilateral development banks (MDBs) – should be treated as preferred creditors in sovereign debt restructurings, but do not apply this to bilateral development finance institutions (DFIs). By contrast, China argues that MDBs should contribute to debt restructuring on the same basis as bilateral official lenders and the private sector. While this would still in principle impose a loss on the Chinese authorities via China’s MDB shareholdings, this is likely to be less than if the same overall amount of relief were to be provided solely by bilateral and private creditors, given that China’s share of total debt in certain countries is higher than its shareholding in the MDBs.
Fourth, is the differences between Chinese lenders and Western lenders (particularly in the private sector) in the way in which any relief should be delivered. The private sector and rating agencies tend to prefer debt ‘haircuts’ (outright reductions in the principal outstanding). By contrast, Chinese lenders tend to favour maturity extensions and (where absolutely necessary) reduction in the overall (net present value) burden of the debt through interest rate reductions. The Chinese preference for maturity extension may partly reflect an underlying belief that the debt distress problem is one of liquidity rather than solvency, but it also no doubt reflects a preference not to recognize losses formally. While it should be straightforward to calculate financially equivalent contributions to debt relief through these different approaches – and systems for doing so are readily available – it has proved difficult to reach agreement on implementing these.
Although it remains possible that the pace of implementation of the Common Framework will pick up – which is partly supported by the July 2022 statement of Zambia’s creditor committee – these four issues mean that there is a substantial risk that the mechanism, as it currently stands, will be insufficient to deal with the mounting pressures facing some key African debtors in 2023. At the same time, it is widely accepted that there is no realistic alternative – either politically or economically – to the Common Framework as the basis for tackling debt distress in low-income countries. Reforms therefore need to focus on improving the Common Framework itself and strengthening the context in which it operates.
In particular, there is a critical need alongside tackling debt distress to find an effective long-term solution that can meet the external financing needs of African economies. This will be important to ensure not only that they make a strong recovery from the pandemic and the global economic shocks triggered by Russia’s invasion of Ukraine, but that they are also able to meet the long-term challenge of climate change – particularly adaptation. The next chapter sets out recommendations on how the governments of developed economies, led by the G7, should approach this challenge in the coming year.