Statement: Sub-Saharan Africa to weather US Fed tapering – Fitch
Fitch Ratings says in a newly-published report that Sub-Saharan African (SSA) countries reliant on short-term capital flows to finance large current account and budget deficits are most at risk to tightening global liquidity conditions. Kenya, South Africa and Ghana are among the most vulnerable.
In Kenya and South Africa, Fitch estimates the current account deficit less foreign direct investment (FDI) will be 10.5% and 4.6% of GDP respectively, with the deficit 80% and 30% funded, respectively, through short-term capital flows into bonds and equities. Ghana is also exposed, with an expected budget deficit of 10.3% of GDP for FY13, funded largely by domestic debt issuance (68%), of which foreigners hold around 26%.
On average, however, SSA will be less vulnerable to eventual Fed tapering and ultimately monetary tightening than more mainstream emerging markets due to lower external financing requirements and the largely non-concessional nature of their foreign debt. SSA is also shielded by financial markets which are not as globally integrated and improved reserve cover. Stronger growth prospects, supportive of foreign direct investment will also provide a needed buffer.
As a result, Fitch does not expect eventual Fed tapering to place significant pressure on SSA countries’ domestic and external financing capacity. An improvement in credit fundamentals over the past decade should make most relatively resilient. Reserves have risen in the last 10 years because of improved balance-of-payments positions, less currency market intervention and more exchange-rate flexibility. Domestic financial institutions provide a steady source of demand for local debt.
South Africa, Kenya and Ghana are not alone among SSA in having large current account and budget deficits, but vulnerability is mitigated in other countries. For example, in Mozambique much of the current account deficit is financed through FDI, while Rwanda receives substantial concessional funding. Foreign participation in smaller markets like Uganda and Zambia has largely been driven by movements in domestic interest rates, making these markets less vulnerable to Fed tapering.
Fears that higher yields may dissuade first time SSA Eurobond issuers from entering the market appear to be misplaced. Fitch expects first-time issuance to continue as countries take advantage of what are still historically low yields to fund their infrastructure deficits. Yields are likely to rise further and faster once the US Federal Reserve eventually starts hiking rates. However, how important regular Eurobond issuance becomes in Africa will to a large extent depend on how successful governments are at using the proceeds. The track-record here is still largely unproven.
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Source: Fitch Ratings