Africa’s Deeper Bond

March 15, 2015

Effective nation branding starts with a strong credit rating.

Ghana’s foray into the sovereign bond market in 2007 was an intrepid step for Africa’s emerging economies.

The $750-million issuance made Ghana the first Sub-Saharan country outside of South Africa to receive sovereign credit. This was the culmination of deliberate government reforms to court the interest of international investors.

Ghana, already one of Africa’s most stable democracies, quickly transformed its economic prospects by slashing external debt and narrowing its fiscal deficit to less than 3 percent. It utilized political stability and sound macroeconomic behavior to join global capital markets and reject cheap foreign aid.

What Ghana also achieved through its reforms was create an effective nation brand with a strong and positive image. Fiscal restraint and effective monetary policies help countries earn a strong credit rating, and that is good for their global reputation. Getting a strong rating can be a quick ticket to improving a nation brand.

Fiscal restraint and effective monetary policies help countries earn a strong credit rating, and that is good for their global reputation. Getting a strong rating can be a quick ticket to improving a nation brand.

High credit rating, good reputation

African countries that have made the greatest strides in polishing their global image have been the ones with the best reputations among investors. As expected, countries that have a good investment profile tend to have more developed bond markets.

Studies have established a strong correlation between low public sector corruption and a high credit rating. Botswana, for example, has Africa’s highest Corruption Perceptions Index and its highest credit rating. Consequently, there is also a negative association between corruption and bond market development.

A strong rating does not just serve the country, it is also good for the reputation of its companies. A company cannot obtain a higher credit rating than its host country. So in markets that have poor credit ratings or none at all, companies with limited options within their own borders will struggle attracting investment beyond them.

Access to private bond markets

Fewer than half of countries in Sub-Saharan Africa have been assigned a credit rating by any of the six rating agencies. Only two – South Africa and Botswana – are considered investment grade. But in recent years African bond markets have become more prominent, despite being under-developed.

The $12 billion of bonds sold by African governments last year broke the record of $10.9 billion set in 2013. These long-term needs are critical to fund an enormous roster of infrastructure projects. The growth of corporate bonds relative to government securities suggests that corporate bonds could one day become an important source of finance, especially for Sub-Saharan African economies.

Ghana under caution

Eight years since its first bond, Ghana finds itself in financial hot water. Economic growth has stagnated, inflation has surged and its budgetary deficit is back to almost 10 percent. Its once venerable B+ credit rating has sunk to a lowly B-.

With interest rates for a new bond issuance rising, Ghana spurned the capital markets in favor of a $940 million loan from the IMF in February. The rescue package, though, will not save the country from its fiscal troubles. The IMF attached ambitious fiscal consolidation targets that are unlikely to be met, according to Fitch Ratings, and that will put even more downward pressure on Ghana’s sovereign rating.

As the US continues keeping the federal funds rate at close to zero, Ghana could take advantage. But the collapse of the Cedi and a stronger dollar makes borrowing costs even more prohibitive. What is instructive about Ghana’s case is how it quickly abandoned the sensible economic practices that led to the initial bond issuance in the first place. With a weak oil price as Ghana plans another Eurobond issuance this year, it remains to be seen whether monetary tightening will be enough for the country to fully repay its debts.

Trade, not aid

The reliance on bond markets reduces dependence on cheap aid and will help countries reduce poverty at their own pace. Turning to bond markets will enable countries to develop domestic bond markets of their own and grow their economies.

Minimum GDP growth of 7 percent is required to double per capita income in one generation and make meaningful reductions in poverty. Maintaining this strong performance will require about $20 billion in infrastructure investment per year, according to the African Development Bank‘s Financial Markets Initiative. This investment can only be sustainably financed through long-term 10-year bonds.