MARKET DATA REVIEW : Bond markets for project financing in sub-Saharan Africa

Last week I had an opportunity to attend the US-Africa Business Forum in New York.

The US-Africa Business Forum is an initiative by President Barak Obama and aims at bringing together African political and business leaders to actively engage with their US counterparts with the common objective of forging joint business enterprises and development projects that can tap the resources, experience and skills from both ends of the Atlantic.

Along with this forum, were other sideline meetings between US strategic as well as portfolio investors, (such as pension funds, private equities, development financial institutions) and African business leaders as well as entrepreneurs. What was somehow clear to me in all these series of meetings and forums was the existing financing gap on the African side and the significant need for such financing from other parts of the world, major financing gap are particularly in infrastructure [from power/energy, to transport to social infrastructure such as schools, health centres, water and sanitation to irrigation) where the World Bank and the African Development Bank estimates a financing gap of $93 billion per annum, this is despite the relative significant observed efforts by our Chinese friend in this aspect of our development. And therefore, if Africa will be able to finance this investment gap of $ 93 billion at the current value for the next two decades, then that is when we will be able to fill in our infrastructure development gap. It was also clear to me, out of those deliberations, that there is a knowledge/awareness gap in part of the US investors and financiers on the potential opportunities available in Africa (which says we need to do more engagements), but also there are limitations that some of the US investment and financing institutions have, especially at these times and age, when it comes to investments accruing outside the US.

And so what was also clear to me is probably the need for us in Africa to seriously consider looking inside Africa as we try to source the financing needs for our development. And, like in many cases, one thing came clear to my mind — the need to develop our bonds markets, especially for us in the sub-Saharan Africa (with the exceptional of South Africa) where only three countries have specific infrastructure development bonds issuance within their financial market platforms. Why do we need to develop our bond markets?

First, sub-Saharan Africa has been heavily dependent on external grants and concessional loans for funding capital spending and government deficits.

Only a small number of countries have developed their local currency bonds markets and also accessed global capital markets via issuance of sovereign bonds or eurobonds. Gross official developmental assistance to sub-Saharan Africa amounted to over $55 billion in 2015, accounting for about 30 per cent of total government consumption expenditure, with almost 85 per cent grants and 15 per cent concessional loans, according to the recent reports and data by the World Bank and the Organisation for Economic Cooperation and Development (EOCD). Additionally, the fact that western donors are currently facing substantial fiscal challenges in their home fronts that says that consequently donor flows to sub-Saharan Africa may continue to be scaled back significantly, as has been in recent cases. Without access to alternative sources of finance, including bond markets, many African countries could find it difficult to finance critical needs such as the highly needed infrastructure.

Second, well-functioning bond markets help sustain economic stability. The Asian experience supports this point. According to the 2010 International Monetary Fund (IMF) report, since the 1997 Asian financial crisis, many Asian economies have made significant progress in strengthening bond market development. This has in turn helped these Asian economies weather the recent (2008) global financial crisis because deeper financial markets generated valuable funding sources for these countries to finance fiscal stimulus packages.

Third, the development of bond markets in sub-Saharan Africa can improve the intermediation of savings. Although Africa needs money, Africa is a net capital exporter to the rest of the world (IMF, 2015). This is mainly because there is a lack of effective intermediate channels to absorb this capital. As a result, some of us claims that there is a general lack of liquidity in many African capital markets. As it turns out, this is rather a structural and ethical problem, where funds from the continent are exported as savings or investments to developed economies, instead of being effectively used at home. Bond markets are an effective way to intermediate these capital savers with capital users, who needs these funds to finance our own development.

Fourth, promoting bond market development in sub-Saharan Africa can improve the structure of the African financial system. Since the period of liberalisation of our financial markets as part of the Structural Adjustment Programs, the African financial sector has been dominated by banks.

The non-banking sector, capital markets and bond markets, both public and private, are still in their infancy. Bond markets and bank finance are complementary rather than incompatible. While banks tend to be more adept at providing short-term (working) capital, bond markets enjoy a comparative advantage in financing government deficits and infrastructure investment, and providing longer-term capital to companies for growth.

Fifth, deeper bond markets will enable central banks in sub-Saharan Africa to conduct monetary policy more effectively. At present, many markets have few domestic fixed-income.

Local currency bond markets in sub-Saharan African countries are still at a nascent stage of development with market capitalisaation of both government securities and corporate bonds typically much lower than those of other developing, emerging, and advanced economies as a percentage of Gross Domestic Product (GDP). The government securities market capitalization as a percent of GDP was 15 percent in 2014 in sub-Saharan Africa. In contrast, Asian and Central European countries surpass this measure, and generally speaking most Latin American countries do as well.

This disparity is even greater for corporate bonds. On average, the capitalization of corporate bonds was 2 percent of GDP in 2014 for sub-Saharan countries, whereas this figure was generally much larger for other developing and emerging economies. Moreover, the low level of development of the bond market is particularly apparent upon comparison with the capitalization of more advanced economies, and, in the case of the corporate bond market, the capitalization ranges from 30 percent of GDP for Canada to over 90 percent for the United States.

Also evident is a notable disparity for sub-Saharan Africa in terms of the relative importance of government securities and corporate bonds in local currency. In this region, the local currency bond market is dominated by government securities, with a share of 90 percent of the total market capitalisation, compared to the share of corporate bonds which stands at just 12 percent, in 2014. This contrasts with the situation in other areas of the world. Aside from Poland, the share of corporate bonds in total bonds in sub-Saharan Africa is smaller than in other developing and emerging economies.

Here at home, our total bonds market (at Sh5.2 trillion) is just 5 per cent of GDP, outstanding corporate bonds, at Sh60 billion is 0.06 per cent of the GDP and 1 percent of the total bonds market. We have general purpose bonds issued by the central government via the Bank of Tanzania as a fiscal agent. We do not have infrastructure bonds issued specifically for particular infrastructure projects which can be transparently accounted for. We neither have municipal bonds. However, our infrastructure investment deficit is currently at about Sh10 trillion per annum, according to the Five Year Development Program. Therefore development of the local bonds markets is a no brainer, that it can be used as one of the tools for financing our development, especially in the infrastructure space for both public and private sector.