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Why government has become hooked to Eurobond

By Otiato Guguyu and Dominic Omondi | February 27th 2018

Imagine a businessman from Kenya sells rose flowers in the US and is paid in dollars. Good for him. With the dollars, he gets to buy items overseas which he can’t find back at home.

He also has some generous relatives who once in a while send him a few dollars, helping him replenish his reserves of this critical foreign currency. Then one day, he thinks of expanding his business. So he approaches a US bank for a loan in dollars.

With an expanded business, he is convinced that he will be able to get the US currency to repay this loan. But when the first repayment date is due, he realises his business has not yet generated enough dollars to help him offset the debt.

Still convinced that somehow his business will grow bigger, he approaches another lender to help him pay back the other loan. And because this second financial institution knows he is desperate, he charges him expensively for the new loan. Before he realises, he is in a dollar-debt trap.

Kenya is in such a refinancing crisis with the Government finding itself in a tricky position where it has to borrow from Paul to pay Peter.

Just as the businessman, Kenya depends on earnings from exports, tourism receipts, diaspora remittances and inflow of foreign investments to earn dollars which it then uses to import various items such as oil and machinery from the global market.

But the country has also been borrowing dollars from the international market.

Last week, it successfully issued a second Eurobond, raising $2 billion (Sh201 billion). Part of the proceeds will be used to repay $600 million (Sh60 billion) loan that will mature in April.

Three months ago, Kenya was unable to pay back a $750 million (Sh75 billion) syndicated loan and had to beg creditors to wait for six months within which it planned to raise the Eurobond to pay up. The creditors, who controlled about ten per cent of the loan refused to reschedule. So Kenya in January went for another $750 million (Sh7.5 billion) syndicated loan of seven years from the Trade Development Bank (TDB) which it used to pay off the two stubborn investors. In 2014, Kenya raised another $2.75 billion (Sh276 billion) Eurobond with part of it being used to settle another syndicated loan that the country almost defaulted on.

The country has now joined a club of some 15 African countries trapped in the Eurobond refinancing crisis, or what one local columnist has described as Eurobondage.

The Eurobond is an expensive, dollar-denominated debt. Ideally, Kenya, just as our imaginary businessman, expected to grow its dollar reserves by improving its export earnings, tourist receipts, diaspora remittances and inflow of foreign investments.

Unfortunately, this has not happened, forcing the country to always return to the global market to borrow more dollars to offset another dollar-debt.

“The argument in 2014 was that we were going to invest it and by now, we should have seen that burst of growth. If we had that growth, first, we would not have been required to renegotiate a debt, and even if to renegotiate, it was on terms that are worse than three years ago,” Institute of Economic Affairs Chief Executive Kwame Owino told KTN news.

It is going to an economic miracle for African countries such as Kenya which have issued dollar-denominated bonds as the Eurobond is known, to disengage from this booby trap. A reserve of US dollars is critical for countries that have issued the Eurobond. Kenya gets most of its dollars through earnings from its exports such as tea, coffee and horticulture.

Tourists also bring in dollars as well as foreign investors and expatriates. Kenyans living in the diaspora have also contributed immensely to the country’s basket of foreign currencies, especially those in North America and Europe.

If the inflow of dollars through all these avenues was good, i.e if the economy was doing well- Kenya would have been able to repay its dollar debts from its earnings. Unfortunately, exports have barely grown and foreign financial inflows have not been impressive. Treasury, however, insists that they have laid the ground for an economic take-off that will see the country’s business environment attract more investors, who will then play a key role in boosting the country’s productivity and thus its exports.

Moreover, a secure environment will see a rebound in the tourism sector which was affected by terrorist attacks. The country also hopes that once it starts shipping out its oil, it will earn approximately Sh150 billion ($1.5 billion) annually.

National Treasury Principal Secretary Kamau Thugge who has gained notoriety for being mute when asked about the country’s growing debt levels, recently penned an opinion in a local daily defending the $2 billion Eurobond whose overwhelming subscription, he said, was a show of confidence by investors on Kenya.

He said the reason why the Government used part of the Eurobond cash to pay syndicated loan was that they needed to stretch the public debt.

“The settlement of the syndicated loans is in line with Treasury’s objective of liability management which includes lengthening the maturity of public debt,” said Thugge.

Experts opine that once a country has issued a Eurobond, there is no getting out. It will come back, again and again. “This is usually how sovereign issuers do it. They do not pay off debts, they issue a new bond when the old one expires,” said Bodo Ellmers, Policy and Advocacy Manager, Debt and Responsible Finance Eurodad, a European network on debt and development.

“The Issues is with the last Eurobond they took to pay another debt (syndicated loan) and now they have taken another one to repay another debt. And the loans must be paid. So the money is not going to development and it seems to be getting larger and larger. So we are increasingly borrowing more and not for development but basically to service debt,” Nairobi based economist Robert Shaw said.

Unfortunately, when you go back you will need to price your bond high. Kenya’s $2 billion Eurobond is the most expensive bond over the last two years, ahead of Nigeria and Egypt.

According to experts, Treasury was forced to price its Eurobond expensively to attract investors who might have had second-thoughts about Kenya’s credit-worthiness, following a downgrade by credit agency Moody’s and the decision by the International Monetary Fund (IMF) to withdraw Kenya’s access to Sh150 billion ($1.5 billion) standby credit facility.

“This (Eurobond) can be expensive in the long run, especially if the currency devalues. Given our fiscal and monetary policy, I expect that (weakening of shilling) to happen and the investors’ interest rates reflect that,” said Johnson Nderi, manager, corporate finance and advisory at ABC Capital Ltd.

While Kenya was happy it had achieved seven times over-subscription, it failed to see the cost implication where the country will pay almost double of what it has borrowed using Sh523 billion for the Sh200 billion bonds.

Kenya issued two Sh101 billion ($1 billion) tranches of 10 and 30 years, at a coupon of 7.25 per cent and 8.25 per cent respectively.

Other oversubscribed bonds 

Nigeria, which got four times oversubscribed raised (Sh301 billion ($3 billion) in split offering equally between 10- and 30-year tranches. The yield was 6.5 per cent for the shorter notes and 7.625 per cent for the 30-year portion.

According to Financial Times (FT), Egypt has raised Sh401 billion ($4 billion) which was oversubscribed three times at three maturities, with a five-year tranche and a 10-year tranche raising $1.25 billion (Sh125 billion) each, while a 30-year tranche raised $1.5 billion (Sh150 billion).

The yields on the bonds were 5.577 per cent, 6.588 per cent and 7.903 per cent, respectively.

“This economy needs liquidity like a shot in the arm to get going again. Pricewise, it’s very generous in order to get the amount they want,” FT quoted Aly-Khan Satchu CEO of Rich Management.

And it might not end well for Kenya.

Since 2006 when Seychelles became first Sub-Saharan Africa country to issue a Eurobond, over a dozen African countries that have issued the Eurobond have been forced to return to the market to refinance the debt, technically borrowing from Peter to pay Paul at even higher rates.

Between 2010 and 2015, at least a dozen other sub-Saharan African countries, including Côte d’Ivoire, Senegal, Angola, Nigeria, Tanzania, South Africa, Gabon and Mozambique have issued Eurobonds. Others are Ethiopia, Senegal, Tanzania, Namibia, Seychelles, and Democratic Republic of Congo. Already, Mozambique has defaulted on payment. And Ghana is under the stringent terms of IMF with the latter having bailed it out. “The signs are ominous. Of the more than a dozen countries that have issued sovereign bonds between 2010 and 2016, nearly half of them are close to defaulting on their coupon payments or are actively seeking ways to refinance the bonds,” said online publication Quartz.

John Mbu, an Economist with African Development Bank said in an article said that Eurobonds had become important for the financing Africa’s nascent infrastructure projects such as roads and railways, but warned against their misuse or used to refinance.

“Sub-Saharan Africa nations that intend to issue Eurobonds should ensure that the proceeds from the bonds are used to finance productive investments and not channelled to finance fiscal budget deficits,” said Mbu. “The relatively high interest rates (10.75 per cent) paid by Ghana for its October 2015 Eurobond are a reminder that funds raised in international financial markets are costly and ought to be used for intended purposes that yield high returns, thus leaving budget deficits out of scope,” added Mbu.

“Treasury is saying that the debt is manageable but the World Bank is now pointing out that it is rising at a faster rate than is comfortable, right now I would not want to be in CS Henry Rotich’s position,” said Robert Shaw.

Debt maturity

The strategy to kick the tin down the road, which Thugge describes as lengthening the public debt maturity has come back to haunt the Kenyan taxpayers who face dozens of loan maturities over the next couple of years beginning with part of the Sh380 billion ($3.8 billion) Chinese loans borrowed to fund the Mombasa-Nairobi section of the SGR which is expected to kick in this financial year.

Next year will be even trickier when the Sh75 billion ($750 million) five-year tranche of the Eurobond the country issued in 2014 will mature. PTA’s January Sh25 billion ($250 million) syndicated loan will also mature next year, which will require huge payouts. And by 2020,  the Sh80 billion ($800 million) three-year loan from a syndicate of Citi, Standard Chartered and Standard Bank South Africa will be due for repayment.

The Chinese, whose loans have doubled from Sh227 billion ($2.2 billion) in 2014 to Sh414 billion ($4 billion) last year will require the taxpayer to wire Sh150 billion to the Exim Bank of China and China Development Bank in the next four years.

For the Standard Gauge Railway alone, Kenya will take a total of $10 billion (Sh1 trillion) from China.

Kenya borrowed $3.8 billion for the section between Mombasa and Nairobi and signed off another Sh150 billion ($1.5 billion) for extending the line to Naivasha. Another Sh500 billion ($5 billion) in Chinese loans is in the works for the extension of the railway from Naivasha to Malaba.

Change of justification for huge debts

Kenya turned to the international markets in 2011 under President Mwai Kibaki when he borrowed the syndicated loan and the country’s debt has never been the same again.

“When President Kibaki left in 2013/14, most of the public debt was owed to us in the sense that it was Kenyan funds and Kenyan banks. Right now, we have brought it to the point of say for every Sh100 that we owe debtors, Sh52 or Sh53 is now to a foreigner,” Owino said.

“This is risky because when we owe ourselves, we pay in Kenyan shillings but when you owe it to foreigners you pay with dollars. Yet our debt is growing slower than foreign exchange earnings, that’s the problem.”

For a long time, President Uhuru Kenyatta’s government has insisted that the borrowing has been going into development project that would ultimately stimulate the economy and help Kenya generate enough money to pay the debt.

However, Treasury has now admitted that the money is not going into development projects, but servicing debt and kicking the problem down the line, as is the case, 30 years down the line when the current government will be out of office.

“The funds will be applied towards the government’s development initiatives and liability management. We will continue to invest in the infrastructure and capacity to roll out these programmes,” a statement from Treasury read.

The Jubilee government has also steered clear of the narrative they sold in 2014 that borrowing more money abroad would lower interest rates.

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