The How Behind Africa's Looming Debt Crisis
What led Africa to what may turn out to be a second debt crisis in less than 50 years
The continent of Africa - much like the rest of the world around us - is increasingly in the midst of great upheaval. Another fiscal debt crisis is once again chipping away at the shaky foundation on which Africa's economy and economic model stands.
Where it all Began
A global environment of relatively high commodity prices and low interest rates once again led Africa to the infrastructure well as a means to development across the region.
Such an economic strategy harkens back to the post-independence period when African governments took out massive loans as a way to build the schools, road networks and power generation capacity required to foster growth. However, as global rates began to climb in the 1980's and the price of different commodities started to settle, more countries fell into debt distress. Decades later, Africa is caught in a similar dilemma, calling into question what it is that the continent can do to escape this cycle.
I have previously written about Africa's first regional debt crisis, so throughout this piece we will skip over to the second one that's unfolding before our very eyes. In the late 2000's, interest rates across the USA, the Eurozone and the UK fell to their lowest levels ever in response to the onset of the 2008 Financial Crisis. Overnight, rates fell from between four and five percent, to close to zero.
The cost of borrowing plunged, and the central banks of the aforementioned countries and regions went on to carry out multiple rounds of quantitative easing. Trillions upon trillions of dollars were created by central banks out of thin air, then used to buy bank IOU bonds from private banks in a bid to shore economies up from their knees, as many across the rich world witnessed regression and recession not seen since the Great Depression.
In the midst of all of this calamity and seismic change, more of the African continent started to dip its sun-soaked toes into what is known as the Eurobond markets. According to Kenyan financial firm Cytonn, Eurobonds are "fixed income debt instruments issued in a currency other than the currency of the country or market in which they are issued, mostly denominated in a currency that is widely traded and accepted globally, like the US Dollar or the Euro."
Africa Discovers the Eurodollar Markets
This EUR 13.2 trillion market enables governments, state-owned and private corporations from every corner of the world to access short and long-term credit relatively simply. With the investors responsible for fueling this market ranging from institutional to retail. Prior to 2006, no African nation - besides Industrialized South Africa - had tapped into Eurobond investment vehicles. But the door into this market for Africa creaked open with a $200 million debt issuance by the Seychelles that very same year. The following year, the door was blown open to the rest of the continent for all to see. A triplet of West and Central African nations in Ghana, Gabon and the Republic of Congo, went on to issue over $2 billion worth of Euro bonds in 2007. More African nations would go on to tap into this market in the following years.
By 2021, 21 countries across Africa were participating in a regional market that had ballooned in size to $136 billion.
A number of push and pull economic factors are behind this meteoric rise:
(i) Higher spreads for Western lenders
Ultra-low interest rates across Western markets meant that investors were faced with negative real returns once inflation was taken into consideration. Simultaneously, institutional investors could borrow at these same rates and then lend it out to sovereign borrowers across the emerging world at a premium. Thus, some looked to African state and corporate Euro bond issuers for higher reserve currency-denominated returns;
(ii) The Noughties and Africa Rising
Growth across the Sub-Saharan African region was relatively high throughout the 2000's, averaging around 5 percent per annum throughout the decade. Leading to higher investor confidence;
(iii) Discounted rates for sovereign African borrowers
While returns of between 5-10 percent were relatively high for Euro bond lenders around the world, global rate cuts and increased investor interest meant that these rates were lower and therefore discounted, for African borrowers when compared to those of prior years. Indeed, looking at the chart below you can see how bond yields fell from close to 10 percent, to around five percent over the next few years.
The rest, as they say is history. African Euro bond issuers raised debt to rollover old debts, balance foreign currency reserves, and to finance major infrastructure projects. Studies show though, that most of this debt was used to support infrastructure investment across the continent. On the face of it, this reads as sensible spending. Figures from the African Development Bank show that Africa has an infrastructure financing gap of around $100 billion. Reliable and consistent power supplies, adequate sewerage and plumbing systems, and extensive road, rail, air and port networks facilitate production expansion via increased efficiency.
Is Capital Investment-Driven Growth Putting the Cart Before the Horse?
On the other hand, this still doesn't drive away from the fact that the execution of many of these initiatives were botched. To begin with, African states leveraged short-term Euro bonds to fund long term infrastructure projects that take time to pay themselves off. Furthermore, the rate at which returns on infrastructure are generated also depends on the revenue model underpinning the project in question.
Are repayments supported by direct charges such as C2B (consumer-to-business) toll fees or B2B (business-to-business) lease payments, or indirect charges tied to general taxation? Something has gone amiss because the continent's debt-to-GDP ratio has increased considerably over the last decade or so. A return of higher rates across the rich world in response to the Russia-Ukraine War related inflationary pressures, coupled with a rising dollar, has now hastened the currents of external debt that Africa now finds itself drowning in.
The African debt cycle is repeating itself, in part due to different issuers' financing models, external economic shocks and nagging structural issues. I will dedicate the remainder of this piece to unpacking the story behind the continent's structural limitations.
In my humble opinion, this is the biggest contributor to Africa's second sovereign debt crisis because, even prior to rate rises and the COVID crisis, many African nations debt-to-GDP ratios were already on the rise. For decades, whether in times of high or low growth, Africa has struggled to create sufficient numbers of jobs to absorb its young and rapidly growing workforce.
Jobless Growth and Urban Change
Indeed, a white paper on Job Creation and Skills Development in Africa highlights how the region is only able to create jobs for three of the twelve million young people entering the workforce every year. Some of the remaining nine million fall into unemployment or drop out of the labour market altogether, but the overwhelming majority of them instead seek economic refuge in informal work, which leads us on to the next piece of this puzzle.
Africa has undergone an urban transformation over the course of the last half a century or so. Sub-Saharan Africa, for instance, was only 15 percent urban in 1960, and home to just one city - Johannesburg - that boasted a population of over one million people. In 2009, there were 52. Sub-Saharan Africa is now 43 percent urban, with the figure for the whole continent likely to exceed 50 percent by 2030. This flood into the cities makes perfect sense, especially when you consider that urban centres within Africa tend to provide "improved access to services, jobs and infrastructure" according to the African Development Bank.
With that said, even the cities are unable to provide most of its residents with jobs, harkening back to this overriding issue of a lack of formal employment. 83 percent of employment in Africa is informal. Informal work is carried out in the black economy through unregistered businesses and doesn't normally show up on official payment systems and tax records. Informal work and informal businesses are only 25 percent as productive as formal businesses, while formal, above the table firms that subsequently face competition from informal companies are only 75 percent as productive as those without such competition.
This weighs down growth across the continent. This is the case because the lack of record keeping and verifiable data available amongst them makes it more difficult for banks to assess their creditworthiness. Which in turn limits informal traders access to more affordable credit at greater quantities. As a result, many are unable to leverage debt to acquire the kind of productivity boosting machinery, tech and other forms of capital needed to truly grow and make money. Hence, the near synonymous association between informal trade and 'small time', low-level, precarious enterprises, better known as 'hustles'.
Furthermore, while informal firms rely on public services and infrastructure like roads, clean streets and sewerage works just as much as anyone else, their economic invisibility makes them more difficult to tax, creating a shortfall in tax revenues that African governments are increasingly looking to indirect, consumption based taxes (that disproportionately affect low-income earners and the poor) to fill.
Relatively large markets and the better infrastructure of cities and surrounding towns in Africa might be contributing to a 'bright lights' effect, where more people leave farm work in their villages behind for a better quality of life in the city, albeit in unproductive, informal economic activity.
Higher quality and more extensive infrastructure stock also both increases the appeal of urban areas and facilitates more rural-urban migration. As more road, rail and airport connections more effectively enable travel between the countryside and the city.
Going Beyond Insanity
Put another way, much of the continent has borrowed a lot to bolster goods producing capital, only to attract more inefficiently deployed labour, leaving it bereft of the sufficient jobs needed to sustain growth and the tax receipts necessary to service, and eventually pay down debts. Formal employment is a must for Africa, one common source lies in manufacturing - a sector that most of the continent has failed to expand, but has to if it ever wants to escape the low-income trap. In my next few articles, I will attempt to tackle the million dollar question as to how the region does this.
Africa is a serious place. Africans are not a serious people