Covid's Next Economic Crisis: Developing-Nation Debt
Emerging economies like Zambia's were ill-prepared for the pandemic's financial pain
Zambia was once a model in Wall Street's rush to issue debt for the world's poorest nations, attracting bigger orders and lower interest rates than some more-developed countries.
Less than a decade later, the Southern African nation is straining to pay back more than $11 billion in loans.
The world is gearing up for a battle over developing-country debt like few it has seen before. Rich and poor countries are at loggerheads with private investors that, over the past decade, replaced governments as the biggest creditors to emerging markets.
Zambia looks set to become a case study in the clash over how to ease the debt load of developing countries that were ill-prepared for the financial pain inflicted by the coronavirus pandemic.
Zambian government debt is on course to surpass 100% of gross domestic product this year, as the International Monetary Fund forecasts the economy will contract 5% --the prediction from October was for 1.7% growth. Without relief, it would need to spend more than a third of its revenue to service debt, and much more in coming years.
In late May, the government appointed Lazard Ltd. as financial adviser, the first step toward a wholesale debt restructuring. Two months later, talks with creditors are yet to begin, according to people involved in the negotiations.
Commodity prices sent tumbling by the global economic slowdown and a crash in local currencies have left many poor nations like Zambia unable to pay off the legacy of more than a decade of foreign borrowing.
The debt--much of it held by banks and fund managers in London, New York and Frankfurt--was supposed to pay for building infrastructure, fighting disease and teaching children.
Instead, governments are struggling to find the cash to fortify their health systems for a wave of Covid-19 cases as debt service eats up large chunks of their revenue. "Even before the crisis, a lot of countries were facing a lot of debt pressures," said Abebe Aemro Selassie, director of the IMF's African Department, "And you now have this really massive and all-encompassing shock."
The prices of commodities like copper and oil, crucial exports for many emerging-markets, have rebounded somewhat since March. But the slowdown in global growth and trade is still cutting into government finances.
Of the 24 low-income countries that have issued foreign-currency bonds since the turn of the millennium, raising a total $135 billion, at least half --including Ghana and Zambia--are now at high risk of debt distress or already in distress, according to the IMF.
Negotiations taking place on conference calls to provide debt relief have gotten bogged down. Unable to meet face-to-face due to travel restrictions, investors say, it can be difficult to build trust with government officials--and each other--from behind a screen, where body language can be hard to read and concerns about privacy can limit talks.
Different groups of creditors blame each other. Asset managers and hedge funds--a fragmented group that can be slow to reach consensus--point fingers at China, which has also lent heavily to many poor countries. Western governments, which wrote off debt in previous crises, have said they don't want to bail out Beijing or private investors. Because much of Chinese debt came from state companies and banks, bondholders say it is unclear whether they would participate in relief measures provided by governments.
The Chinese Ministry of Foreign Affairs didn't respond to a request for comment.
Failure to resolve this accelerating crisis, United Nations Secretary-General António Guterres warned this month, could result in "a situation in which a series of countries in insolvency might trigger a global depression."
The number of countries looking to multilateral agencies for support and running into legal disputes with creditors could make this the worst emerging-market debt crisis since the 1930s at least, said Kenneth Rogoff, chief economist of the IMF from 2001 to 2003 and now a Harvard University professor.
"They can't handle that--the New York and London courts can't, the IMF can't," he said. "It is a case of too many patients coming to the hospital at once."
The IMF says more than 100 countries have come to it for help to fund their coronavirus battle since March. Of the total $250 billion of financing the IMF has committed, about one-third was approved in just the past four months.
The financial crisis is exacerbating humanitarian disasters in many nations, threatening to set back decades of gains in health care, nutrition and education, aid agencies say. Debt-relief advocacy groups like the Jubilee Debt Campaign say they worry that emergency funding meant to bolster governments' coronavirus responses is instead paying off foreign debts.
At least 6.9 million of Zambia's 17.4 million citizens don't have sufficient food, up 290,000 from three months ago, according to the World Food Programme. The country, which had recorded 4,481 cases of Covid-19 as of July 26, has just six laboratories that can test for the disease.
The lack of preparedness for the pandemic's financial impact traces to First World efforts 15 years ago to help wipe out the developing world's debt. With proponents ranging from then-President George W. Bush to rock band U2's star Bono, rich nations and multilateral lenders like the World Bank forgave $125 billion in the early 2000s to end what was called a "debt trap"--in which nations spend more on interest than health, infrastructure and education.
The programs--the Heavily Indebted Poor Countries Initiative and the Multilateral Debt Relief Initiative--aimed to wean poor nations off the IMF, World Bank and Western governments.
Those institutions, the argument went, would teach developing countries how to borrow directly from financial markets; international investors would supply more funds than multilateral agencies could and force financial discipline.
Donor countries and organizations fanned out to give technical assistance on bond markets. The U.S. paid for countries to secure credit ratings. Wall Street banks saw an opening to new markets offering better returns than the ultralow interest rates in the West.
Many countries that borrowed had weak institutions and little record in implementing economic reforms. But competition to underwrite the bonds was so fierce that some of the poorest countries paid negligible fees, according to investment bankers in the region.
Caleb Fundanga, a retired Zambian central-bank governor who left in 2011, recalls bankers swarming him at annual meetings the IMF organized in Washington, D.C.
"We were telling them that we were not ready to go into the market," he said.
But, bolstered by a booming economy, Zambia decided to go all-in. The price of its main resource, copper, was soaring, thanks to Chinese demand. To fund a revamp of its railway to better ship the landlocked nation's metal to ports, and other infrastructure projects, Zambia offered its first-ever foreign-currency bond in 2012.
Donor funding helped it secure a bond rating several notches below investment grade. Demand for the bond--underwritten by Barclays PLC and Deutsche Bank AG --was so strong the yield came in below the target at 5.625%, less than what Spain paid at the time.
As orders piled up on the day of the offering, Zambia's then-finance minister, Alexander Chikwanda, said the president, his late nephew Michael Sata, urged him to increase the offering's size.
"I explained to him that the debt servicing would be a problem," Mr. Chikwanda said, but he increased the deal to $750 million from $500 million.
The country issued two more dollar bonds in the next three years, raising a total of $3 billion supposed to finance roads, power grids and other infrastructure at much higher interest rates.
"There was a lot of money from the West that could be accessed with very little conditionality," said Shebo Nalishebo, who was an analyst for a government-funded think tank advising the finance ministry at the time.
Charles Russon, chief executive for corporate and investment banking at ABSA Group Ltd., which owns Barclays' former African operations, said the Zambian bonds were assessed to be in the best interest of the country when they were issued, but that "in hindsight now it looks a little more challenging."
Deutsche Bank declined to comment.
Zambia also started borrowing heavily from China as part of Beijing's Belt and Road program, plowing billions of dollars into roads, power plants and airports and signing loan agreements for many years to come.
Zambia doesn't disclose how much it owes to Beijing, but President Edgar Lungu this month asked Chinese President Xi Jinping to cancel some of the debt, according to a statement issued by his office.
Soon the country's fortunes deteriorated. An economic slowdown in China mid-decade halved the price of copper, shrinking dollar revenue needed to help support bond payments.
Zambia's currency, the kwacha, has dropped from around five to the dollar in 2012 to around 18 today, so the country would now have to pay back more than three times what it borrowed in local currency terms, leaving aside interest. The government says its total external debt stood at $11.2 billion at the end of 2019.
Disagreements over the size of this debt, which the IMF has said was already at $11.3 billion at the end of 2018, have stopped the fund from coming to its help. The IMF said this month that it is continuing talks with Zambian officials on how to ensure debt sustainability.
Similar patterns were emerging elsewhere in Africa. By the third quarter of last year, debt levels in sub-Saharan Africa's poorest countries had jumped to over 60% of GDP on average, from 38% a decade earlier, according to the Institute of International Finance, or IIF, a financial-industry lobbying group.
Beijing keeps the terms of its programs under wraps. But estimates from the Johns Hopkins School of Advanced International Studies suggest African governments and their state-owned enterprises accumulated around $143 billion in loans from China between 2000 and 2017.
Some of those countries were left not only with heavy debt but also without some of the development gains borrowing was supposed to bring. Zambia's neighbor Angola raised $8 billion over the years after a debut bond in 2015 to fund upgrades to water, electricity and road networks. An advisory firm hired by the government to monitor 26 of those projects said only four were ever initiated.
With oil prices low, Angolan government revenues are now less than what is needed for debt payments. A spokesman for Angola's finance ministry, which has pledged to repay private investors, didn't respond to requests for comment.
As the virus spread, the Group of 20 major economies in April called on private investors to join governments in halting debt payments for some of the world's poorest countries until the end of year. The plan has since been paralyzed. Credit-rating firms have made clear that restructuring private-sector borrowing could count as a default.
During investor calls organized by Rothschild & Co. following the G-20 announcement, some governments were eager to reassure lenders that they don't need debt forgiveness, worried they would be cut off from future borrowing.
As yet, no eligible country has requested private-sector support, according to the IIF.
World Bank Group President David Malpass said the scale of government borrowing from new sources, like China and commercial creditors, places poor countries in new territory, adding: "It's vitally important that all creditors participate and don't create excuses to free ride on the others."
Without a plan in sight, investors and governments are looking to what happens with Zambia, whose 2012 bond falls due in 2022, to chart a way for countries squeezed by debt held by private creditors and China.
"Zambia might end up being a template," said Hans Humes, founder of New York-based Greylock Capital Management, which owns Zambian bonds.