Development in the Age of Austerity
IMF News, March 20, 2023
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Bibliographic details
- Published: March 20, 2023
Event and speaker
- Remarks by African Department Director Abebe Aemro Selassie at the 2023 Oxford Center for the Study of African Economies Conference, St Catherine’s College, Oxford, March 20, 2023.
Overview: central concern
- The region is facing a "brutal financing squeeze" that is particularly damaging for Africa given its much-higher level of poverty and remaining development gaps.
- The financing challenge may endure due to tighter global financial conditions, more frequent large shocks, and less reliable future flows of official assistance.
I. How did we get here (three-act narrative)
- Act 1 (roughly 1990 to 2006): market-friendly reforms, high volumes of aid, opening political space → pick-up in growth and development indicators.
- Act 2 (mid-2000s onwards): growth begets growth; debt relief under HIPC and MDRI; large official and private financing flows; increased public debt as financing was used to address development needs.
- Act 3 (post-2015-16): countries close to the edge followed by shocks, including COVID-19; spreads widened sharply—"more than twice the increase associated with the global financial crisis on 2008-09"; private portfolio inflows became outflows; constrained fiscal responses relative to advanced economies.
- IMF response noted: amount of finance provided to Africa by the IMF during 2020-21 amounted to over $70 billion (several multiples of the financing provided over the preceding 10 years); DSSI temporarily postponed some G20 bilateral debt service.
II. What exactly is the problem?
Findings:
- Primary problem: a persistent funding squeeze driven by:
- loss of external market access and capital flight for some countries;
- adverse effects of Russia’s invasion of Ukraine (food prices and fuel-importing countries);
- continued declines in official development assistance;
- much lower flows from China and other new sources of financing;
- higher domestic cost of funding.
- Consequences:
- limited ability to protect vulnerable populations and maintain/increase spending on health, education, and infrastructure;
- elevated fiscal deficits and public debt after the pandemic;
- borrowing costs (spreads over US treasuries) "are more than double their pre-pandemic level" reducing resources for primary (non-interest) spending.
- Uncertain outlook:
- possibility that borrowing costs attenuate and markets improve, but the speaker's sense is that tighter financial conditions will persist and official assistance may be less reliable.
Key statistics and fiscal indicators (preserved exactly)
- On average, in sub-Saharan Africa:
- 79 percent of total government spending is covered by revenues;
- 19 percent by borrowing;
- 2 percent through grants and/or other concessional budget support.
- Median ratio of interest payments on debt to revenues doubled to 10 percent in just a decade.
- IMF financing to Africa during 2020-21: over $70 billion.
- No sub-Saharan country has been able to issue a Eurobond since Russia’s invasion of Ukraine.
- Public debt to China accounts for around 8 percent of total sub-Saharan Africa public debt.
- Domestic debt now accounts for about half of all public debt in sub-Saharan Africa.
- Aid flows: from a peak of around 6 percent of recipient country GDP in the 1990s, aid flows to sub-Saharan Africa now average only 2½ percent.
III. Three policy choices and trade-offs
Choice 1 — Public vs Private
- Current reality: public finance funds most development; public entities carry out 95 percent of infrastructure projects in the region; Africa attracts only 2 percent of global foreign direct investment.
- Domestic revenue mobilization imperative:
- cross-country experience suggests countries can at most generate between ½ and 1 percent of GDP in additional revenues per year.
- much additional near-term revenue mobilization likely devoted to reducing fiscal deficits rather than incremental spending.
- Role for private finance:
- attract private investors via improved business environment and targeted government support;
- lessons: support should be targeted, temporary, transparent, leave private parties with sufficient skin in the game, and focus on projects that would not happen otherwise;
- in East Asia, 90 percent of infrastructure projects with private participation receive some government support.
- Recommendation: consider reallocating resources toward public incentives for private projects, underpinned by sound governance and transparency.
Choice 2 — Domestic vs External
- External borrowing has punched "well above their weight" in financing development and reducing current account deficits during early development stages.
- Since recent shocks, external market access has dried up (e.g., no Eurobond issuances), making external borrowing less viable.
- Emphasis on fostering domestic savings and strengthening domestic financial systems:
- problems: low inclusion, ineffective regulation/supervision, limited competition, constrained deposit rates;
- large informal sector leaves savings in non-financial assets (livestock, goods, grain) outside formal channels.
- Policy focus: financial inclusion to tap underused pools of savings—acknowledged as a gradual process.
Choice 3 — Concessional vs Non-Concessional Borrowing
- Concessional resources represent "around a quarter to a third of external flows" for the region as a whole.
- With limited capacity to take on more market-rate debt, concessional financing is increasingly critical.
- Declines in aid have historically been offset by non-concessional financing; with those alternatives drying up, the adverse effects of lower concessional financing are now more pronounced.
- Lower aid/concessional flows increase countries' weighted average cost of financing and exposure to shifting market sentiment.
IV. Debt restructuring
Findings:
- High indebtedness is a major problem in some countries, but in many cases public debt is elevated but still manageable.
- China is an important creditor to some countries, but region-wide public debt to China is around 8 percent.
- The funding squeeze, rather than debt per se, is the principal region-wide threat and can push manageable-debt countries toward insolvency.
Challenges in restructuring:
- More diversified creditor base and complex public debt structures complicate restructurings.
- Domestic debt (about half of public debt) poses trade-offs: effects on domestic banking sector, speed of regaining market access.
- Official creditor coordination issues (Common Framework) have limited timely financing assurances and debt relief, preventing IMF from providing timely support in some acute cases.
Initiatives:
- IMF, World Bank, and G20 launched a new Global Sovereign Debt Roundtable in February to address shortcomings in sovereign debt restructurings.
V. Some takeaways and policy recommendations
- Optimism about long-term prospects remains, but more support could accelerate outcomes and benefit the global economy.
- What is required from the international community:
- Much higher volumes of countercyclical flows, particularly from International Financial Institutions (IFIs), to neutralize the procyclical nature of private capital flows. The IMF’s ability to sustain recent high levels of support is constrained by limited concessional resources; addressing this requires pledges from wealthier members.
- A more agile and effective sovereign debt resolution framework: the G20’s Common Framework is important but has not delivered timely financing assurances and debt relief; speed and effectiveness must improve.
- More support from advanced countries and greater progressivity in aid flows to the poorest and more fragile countries; recognize that cuts and redirections of aid reduce budgetary development spending.
- Absent sufficient resources now to build human capital and integrate Africa into the global economy, the world risks slower development in the region and a weaker, less resilient global economy.
Italic: Source — Remarks by Abebe Aemro Selassie, "Development in the Age of Austerity," March 20, 2023.