Evolution and impact on sovereign bond markets
For decades, the International Monetary Fund (IMF) has played an important, if at times controversial, role in the economies of sub-Saharan Africa. Its mandate has evolved over the years from a principal focus on ensuring monetary stability and mitigating the effects of liquidity crises toward promotion of long-term macro-economic development and "social" goals. Given its increasingly interventionist approach, the IMF has necessarily played an important role in the development of sovereign debt capital markets in sub-Saharan Africa.
The IMF'S Objectives, Role and Mandate in Sub-Saharan Africa
Founded in 1944, the IMF's primary purpose from the outset has been to ensure the stability of the international monetary system. Beginning in the 1970s, the IMF's imposition of strict fiscal and economic conditionality in response to monetary crises such as the 1973 oil shock was met with criticism over what some viewed as the IMF's intrusion into the fiscal and economic affairs of developing economies. Certain commentators blamed the austerity measures required by the IMF for increasing, rather than alleviating, poverty in poorer countries in Africa and beyond. Since the 1980s, the IMF has evolved beyond its original focus on short-term monetary stability and fiscal prudence, emerging into a broader development-focused organization with objectives that occasionally overlap with those of the World Bank and other development-focused international financial institutions. The IMF's mandate was updated further in 2012, largely in response to the vulnerabilities exposed by the 2008/09 financial crisis, to include all macro-economic and financial sector issues that have a bearing on global financial stability.
INTERNATIONAL MONETARY FUND
- Promote international monetary cooperation
- Facilitate the expansion and balanced growth of international trade
- Promote exchange stability
- Assist in the establishment of a multilateral system of payments
- Make resources available (with adequate safeguards) to members experiencing balance of payments difficulties
Today the IMF has three core work pillars:
- Loans to members to head off balance of payments and financial crises
- Surveying and monitoring of member economies
- Capacity development (technical assistance)
In the late 1990s, as part of its increased emphasis on "social" goals as a primary component of its mission, the IMF renamed the Enhanced Structural Adjustment Facility, one of its key programs targeted at low-income countries, as the Poverty Reduction and Growth Facility (known since 2010 as the Poverty Reduction and Growth Trust (PRGT)). This was done to emphasize social objectives, specifically economic growth and poverty reduction, rather than short-term fiscal and monetary objectives. Much of the IMF's involvement in sub-Saharan Africa is now conducted through the PRGT (Figure 1).
Figure 1: IMF Chronology
Today, the three key pillars of the IMF's work are surveillance, technical assistance and lending through the organization's various programs, described below. Additionally, in 1996, the IMF and the World Bank jointly launched the Heavily Indebted Poor Countries (HIPC) Initiative, aimed at addressing the pressing need for debt relief among certain developing countries burdened by unsustainable debt levels. The HIPC Initiative has compelled the international financial community, including multilateral organizations and governments, to work together to reduce to sustainable levels the external debt burdens of the most heavily indebted poor countries. Thirty of the 36 HIPC debt reduction packages approved to date are in Africa.
IMF Programs in Sub-Saharan Africa
The IMF implements various types of programs in sub-Saharan Africa designed to achieve its goals of monetary stability, poverty reduction, economic growth and overall macro-economic and financial health. There are currently 19 IMF programs underway in sub-Saharan Africa, the vast majority of which (more than 80 percent) are medium-term programs at concessionary rates under the IMF's PRGT (Figure 2).
- Extended Credit Facilities (ECF): The most widely implemented program in Africa, the ECF, is the IMF's main tool for medium-term support to low-income countries facing protracted balance of payments problems. The ECF was created under the PRGT as part of reforms undertaken by the IMF to make financial support more flexible and better tailored to the diverse needs of low-income countries. ECF financing, which is extended on concessional terms, is currently interest-free, with a grace period of five-and-a-half years and a final maturity of ten years. ECF loans are accompanied by, among other things, quantitative conditions and targets used to monitor macro-economic policy, structural benchmarks that help monitor macro-critical reforms to achieve program goals, and regular program reviews by the IMF's Executive Board to assess performance under the program.
- Extended Fund Facilities: Like the ECF, the Extended Fund Facility (EFF) is a medium-term support instrument for countries facing protracted balance of payments problems. It is not targeted at low-income countries and, accordingly, the financing terms offered are less concessional than under an ECF. The interest charge under an EFF is typically a spread above the IMF's cost of funding. Also, like ECFs, EFFs are designed to address structural weaknesses and include commitments by the sovereign borrower to implement agreed policies and comply with fiscal and other metrics under a program of periodic monitoring by the IMF Executive Board.
- Stand-By Arrangements: The IMF's "workhorse" lending instrument since its creation in 1952, the Stand-By Arrangement (SBA), which was upgraded in 2009 to be more flexible and responsive to member countries' needs, has historically been the typical form of IMF assistance for both emerging and advanced economies to meet short-term or potential balance of payments problems. In Africa, only Kenya currently benefits from an active SBA agreement.
- Standby Credit Facility: The Standby Credit Facility (SCF) is similar to the SBA, but is targeted at low-income countries with short-term balance of payments needs and is interest-free. Like the ECF, the SCF is part of the PRGT and is subject to its policies.
The IMF also offers Flexible Credit Lines (FCLs), Precautionary and Liquidity Lines (PLLs) and Rapid Credit Facilities (RCFs) to countries experiencing crises or in urgent need of more flexible loans. However, none of these programs have been implemented in sub-Saharan Africa to date.
Figure 2: IMF loans by total agreed value
Historical Role of IMF in Sub-Saharan Africa
The format and application of the IMF's programs in sub-Saharan Africa have developed over time to meet changing needs. Over the past half-century, the IMF's influence in sub-Saharan Africa has been impacted by two chief factors: the IMF's policy evolution toward broader social and macro-economic goals; and the economic performance of sub-Saharan Africa. Given that the needs of developing countries have evolved considerably in the decades since the IMF first began offering them financial assistance, in recent years the IMF has had to re-evaluate and modernize its approach to the challenges faced by these countries when fashioning programs for them. As part of this development, IMF programs have shifted from an emphasis on large loans to address short-term balance of payments crises toward an emphasis on longer-term loans to promote development of stable monetary and macro-economic structures. The current prevalence of PRGT programs in sub-Saharan Africa is the culmination of almost four decades of program evolution, from the IMF Trust Fund in the early 1980s to the more recent emergence of ECF loans as the principal instrument of IMF policy in the region.
As would be expected, the IMF's role as "lender of last resort" to sovereigns in times of crisis means that the IMF is more active during periods of economic uncertainty and less active during periods of relative stability. For example, while newly independent African countries broadly enjoyed rapid economic progress in the 1960s without substantial IMF involvement, the 1973 oil crisis prompted the IMF to step in to help sovereigns across the sub-Saharan region address their consequential balance of payments problems.
Programs agreed by the IMF with sub-Saharan sovereigns in the wake of the 1973 oil crisis introduced the concept of loan conditionality, which served to expand the IMF's influence in the realm of fiscal and economic policy. IMF conditionality has since influenced not only sovereign behavior, but investor sentiment. As a study of IMF programs from 1992 to 2013 concluded, "countries participating in IMF programs with conditions attached, specifically performance criteria conditions,...are associated with an increase in long-term investor sentiment."1
However, while assuaging some investors' concerns, the IMF's loan conditions have been a point of contention for others, who have argued that they are excessive, often overly restrictive and ultimately harmful to the poor. Some countries and commentators have also complained that the IMF's conditions are often imperfectly tailored to a country's particular circumstances and political conditions, limiting the ability of countries effectively to control their economic programs and imposing impracticable deadlines. The IMF has made efforts to respond to these concerns through a more tailored approach to program design and implementation.
Between 1999 and 2008, sub-Saharan Africa enjoyed long-term stable growth (approximately 6 percent per annum, according to the IMF World Economic Outlook, October 2017), leading the IMF to take a less hands-on approach to structural adjustment during this period.
While the number of IMF loans to sub-Saharan African countries decreased in the immediate wake of the 2008/09 financial crisis, more recently, weak global commodity prices have placed African economies under heightened pressure, leading to renewed IMF involvement. As global growth slowed after 2008, sub-Saharan Africa's growth remained largely on track,2 but a prolonged depression in export prices for oil and commodities following the collapse of the super-cycle in 2014 had an adverse impact on commodity-dependent countries, of which there are several in sub-Saharan Africa.
Growth has slowed substantially since 2015, with sub-Saharan African economies growing, on average, at less than 1.5 percent in 2016, according to the IMF World Economic Outlook, October 2017—the region's worst performance in two decades. As a result, imbalances in exchange payments have resurged,3 along with the need for IMF intervention. Even non-resource-rich countries have felt the pressure. Countries such as Côte d'Ivoire and Kenya have faced increased borrowing costs, which weigh on loan performance and arrears across the economy. The use of ECFs, which are extended on concessional terms, has, accordingly, increased substantially in sub-Saharan Africa since the 2008/09 global financial crisis, reflecting balance of payments problems engendered by the crisis in the region.
Over time, the existence of IMF lending has become a powerful signal to investors, with research suggesting IMF program participation positively affects sovereign credit risk.4 Furthermore, the IMF's assessment of government policies has come to influence decision-makers in business and among Western donors.
Notwithstanding the varying degrees of financial support provided by the IMF over the years, the overall influence of the IMF has also manifested itself indirectly in Africa. This has been particularly so during times of relative stability, through the impact of its ongoing technical assistance and surveillance work in African countries—including periodic Article IV consultations. During Article IV consultations, an IMF team of economists visits a country to assess economic and financial developments, discuss the country's economic and financial policies with government and central bank officials, and transmit their views back to the relevant country's government in the form of a comprehensive report. As such, Article IV consultations are designed to enable the views and recommendations of the international community (as embodied by the IMF) to be fed back to a country in the hope that they might have a positive bearing on national policies.
Current and Prospective IMF Programs Currently in Sub-Saharan Africa
There are currently 19 active IMF loan programs in sub-Saharan Africa, the total value of which is US$6.9 billion. This accounts for only 4.2 percent of the total value of IMF loans globally (US$163 billion). The total outstanding amount under these programs is approximately US$5.1 billion. ECFs account for 14 out of the 19 IMF programs currently active in sub-Saharan Africa, while there are currently two similar EFFs (in Côte d'Ivoire and Gabon), one SBA (Kenya) and two SCFs (Kenya and Rwanda) in place. The largest single package, amounting to approximately US$1.5 billion, is a pair of precautionary loan facilities for Kenya, comprising a US$1 billion SBA and a US$0.5 billion interest-free SCF. However, the country is yet to draw on either facility.
The current outlook for sub-Saharan Africa suggests the region will continue to underperform global growth averages in 2018, in contrast to the region's general outperformance prior to the commodities crisis.
IMF Program Participation and Sub-Saharan African Sovereign Bonds
Sub-Saharan African countries only started issuing sovereign bonds relatively recently. The first major issue was a US$750 million, ten-year offering from Ghana in 2007. While no strong correlation between sovereign bond performance and a country's participation in IMF programs has been apparent, it would appear that bond performance generally improves with IMF program participation, although this depends largely on the nature of the program involved and the overall debt profile of the country. While research specific to sovereign bonds is still sparse, studies on bond issues in emerging markets more broadly suggest that participation in an IMF program leads to a positive impact on spreads. However, sovereign bond yields are highly sensitive to IMF lending announcements and distress warnings, which in the short term can result in significant sell-offs and higher yields. For instance, the IMF's recent warning that Mozambique was at high risk of debt distress led to a record leap in bond yields to 19 percent, while Zambian eurobond yields briefly rose when it was announced in October 2017 that discussions between Zambia and the IMF on a prospective program had been put on hold.
The degree to which IMF program participation may result in a long-term positive effect on bond performance and pricing is influenced by the objectives of the specific program, the circumstances surrounding its implementation and the profile of the particular country. IMF programs vary, and not all programs imply that a country's economy is in trouble. More "routine" pre-crisis interventions to smooth out imbalances in balance of payments arising from external shocks do not typically impact sovereign risk in the same manner as crisis-driven interventions to address problems of debt sustainability and severe economic distress.
The impact of a country's participation in an IMF program on the yield on its sovereign bonds may be more complicated still. Research on bond issues in emerging markets since 1991 has found that spreads are typically lower in countries participating in an IMF program. However, the existence of an IMF program may, rather than mollify investors, instead signal to them that the relevant country's credit is riskier, particularly where debt-to-GDP ratios are high. Indeed, when debt-to-GDP ratios are above 60 percent, the positive impact on spreads has been shown to disappear, even in the presence of IMF lending.4 The possibility of default is generally considered higher for sovereigns participating in an IMF program with high debt ratios as compared to sovereigns not participating in a program, given countries requiring IMF support already face long-term vulnerability and support programs are not always sufficient to eliminate associated risks of default. By way of example, the coupons on Ghana's sovereign bonds issued before the IMF extended its first ECF to Ghana in 2015 (when the country's gross public debt as a percentage of GDP stood at approximately 71 percent) were actually lower than the coupons on sovereign bonds issued subsequent to the IMF's intervention in the country, including, notably, Ghana's October 2015 eurobond, which benefited from a partial World Bank guarantee. Unsurprisingly, the fact that a country benefits from IMF support is rarely sufficient to lift the rating of its sovereign bond out of sub-investment-grade status. Indeed, every African country with outstanding eurobond issues currently has at least one sub-investment-grade rating from the major rating agencies.
Figure 3: Ghana—coupon rates on bonds before/after implementation of IMF program
The IMF has for years played an important role in the evolving economies of sub-Saharan Africa. However, the specific correlation of IMF program participation to sovereign bond performance and investor sentiment is less clear-cut, in part because of the wide range of factors that must be taken into account, as well as the relative "youth" of the sub-Saharan African sovereign debt market. It is undeniable, however, that IMF involvement has been, and will continue to be, an important consideration for anybody investing in sub-Saharan African sovereign debt.