We believe the Debt Service Suspension Initiative (DSSI) provides extra fiscal space in the near term to 29 participating African governments, but the programme can also accentuate medium-term debt distress by increasing future interest payments for some of the world’s most vulnerable sovereigns. African governments account for 38 of 73 countries eligible for the DSSI. Fine tuning the DSSI as well as the more recent Common Framework beyond the DSSI is essential to heading off future debt crises.
Need for a DSSI+ architecture that differentiates between liquidity and solvency crises
A formal mechanism has been necessary to determine whether African countries face just a liquidity crisis or an underlying solvency issue given half of all sub-Saharan African sovereigns were at risk of or in debt distress at the start of 2020.
A framework that we call “DSSI+” is essential for enhancing the transparency and consistency of China’s participation under the programme, ensuring creditors are treated equally including mandating the participation of private-sector creditors, and, importantly, bringing to the fore debt forgiveness as an option to address solvency crises.
China’s involvement in DSSI has been crucial for the programme’s efficacy
China is the largest player in African infrastructure finance. Between 2000 and 2018, China lent USD 148bn to 50 African countries, contributing to a near doubling of the region’s external debt from 19% in 2008 to about 34% of GDP in 2018.
With almost a third of Africa’s sovereign external debt service over 2020-24 due to be paid to China, the country’s involvement in the G20’s DSSI has been crucial. With the extension of DSSI beyond 2020, Angola and Djibouti could see total debt-service savings on loans from China of above 4.5% of 2019 GDP over 2020-21. Potential savings under any case of their DSSI participation are estimated as well at over 1.5% of GDP for countries such as Mozambique, the Republic of the Congo, Kenya, Guinea and Zambia.
Debt-service suspension can address short-run liquidity shortages but could accentuate medium-term debt distress
Debt-service suspension is the right remedy for certain countries such as Burkina Faso, Central African Republic, and the Democratic Republic of the Congo with low debt and limited debt sustainability concerns. Suspension of debt service addresses a short-run liquidity shortfall and provides the required fiscal space. However, for countries such as Angola, Burundi or Ghana, a participation under existing DSSI terms could compound medium-run debt distress.
Angola, Djibouti and Mozambique could each see increases in their debt servicing requirements over 2022-24 of over 1% of GDP on average per year due to participation in debt-service suspension on existing programme terms, due to the shifting of payments to later years on NPV-neutral bases.
G20’s Common Framework beyond the DSSI does not go far enough to address solvency crises
In October, Paris Club creditors agreed on a “Common Framework for Debt Treatments beyond the DSSI”, approved at a 13 November extraordinary meeting of G20 Finance Ministers and Central Bank Governors.
While the Framework represents a positive step, the emphasis on reductions in short-run debt service and NPV reductions of debt risks not going far enough. According to the Framework, debt treatments will generally not be conducted in the form of debt write-off or cancellation except in the most difficult cases.
While the G20 Framework is a positive extension of DSSI’s core tenets with a progression from a principle of NPV neutrality in the direction of NPV haircuts in certain cases of solvency risk, the stated preference against outright principal haircuts even in more severe cases may not go far enough for vulnerable borrowers. In addition, the lack of a specified mechanism to compel equitable participation across creditor groups including from the private sector remains a weakness.
An evolution to a DSSI+ architecture could support stronger credit profiles for African issuers after a restructuring
The evolution of DSSI to a proposed DSSI+ architecture of orderly debt treatments could embed enhanced collective-action clauses in bonds, mandate rather than seek the involvement of private-sector creditors, ensure consistency in the adoption of debt measures across participating creditors, and provide the option of ambitious debt restructuring – including outright principal write-down were this needed. Such a proposed DSSI+ architecture could support stronger credit profiles for African issuers after any more comprehensive debt restructuring.
An evolution to a DSSI+ framework for sovereign debt restructuring could be similarly managed with debt sustainability analyses determining if a solvency issue exists. A hypothetical 25% principal write-down for only distressed African borrowers could alone bring targeted savings of nearly USD 29bn with the largest savings coming on bilateral loans from China (USD 11bn).
In this respect, clearly not all DSSI-eligible countries, however, would or should qualify for debt forgiveness under a suggested DSSI+ framework. In addition, the form and extent of any principal write-downs for a sovereign government with underlying solvency risks under such a mechanism need to be tailored to the specific debt sustainability situation of the borrower.
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This article was originally posted on FX Empire