SOVEREIGN DEBT RESTRUCTURING: A TALE OF TWO COUNTRIES

FC Research, the market intelligence unit of investment bank FC Capital Holdings Plc, compared the contrasting approaches of Ghana and Sri Lanka to sovereign debt restructuring to gauge how Sri Lanka’s negotiations with foreign creditors could be impacted or influenced, especially around the contentious issue of domestic debt.

Ghana and Sri Lanka share a few similarities. Both are lower-middle-income countries with an inflation rate of nearly 54% as of 2023. In 2022, both countries were rated as Selective Default by S&P Global Ratings, with Ghana on par with Sri Lanka until it completed the domestic debt restructuring programme. But the similarities end there: Sri Lanka’s debt to GDP was 1.4 times higher than Ghana’s in 2022.

While Ghana and Sri Lanka defaulted on their loans, their debt-crisis responses are poles apart. Ghana immediately began to restructure its domestic debt despite having 58% external debt exposure. In contrast, Sri Lanka sought and obtained IMF board-level approval before progressing towards external debt restructuring after the debt sustainability analysis.

SRI LANKA’S STRATEGY

Sri Lanka faced a foreign exchange crisis due to a high level of debt, global disruptions from the pandemic, and the Russian-Ukraine war. As a result, by March 2022, its foreign reserves fell to $1.9 billion, with the usable foreign reserve value dropping below $50 million. In response, Sri Lanka defaulted its foreign debts, opting to consider restructuring foreign debts exceeding $35 billion owed to international capital market creditors. The country’s Central Bank Governor, Dr Nandalal Weerasinghe, stated that while prioritizing restructuring external debt, Sri Lanka remains open to restructuring domestic debt based on a debt sustainability analysis.

WHAT GHANA DID

In contrast, Ghana initially avoided the IMF until mid-2022. Despite carrying a mountain of debt similar to Sri Lanka, Ghana opted for domestic debt restructuring before approaching the IMF.

Ghana carried out its debt sustainability analysis and set targets it successfully achieved. Only then did Ghana commence negotiations with the IMF, but the decision for domestic debt restructuring remained with its government. By February 2023, Ghana had completed the domestic debt restructuring, resulting in a rating upgrade.

FC Research says it is unclear why Ghana opted to restructure its domestic debt before tackling external debt despite external debt accounting for a larger share of total debt. However, in December 2022, the IMF conducted a debt sustainability analysis and found Ghana’s public debt was unsustainable, conditioning the bailout package on a domestic debt restructuring agreement.

FC Research says Ghana negotiated with local bondholders to restructure its local currency debt and achieve overall debt and fiscal sustainability before receiving IMF support. The Ghanaian government aimed for an 80% subscription rate to achieve a successful domestic debt restructuring and established a $1.2 billion financial stability fund as a contingency plan to provide liquidity to financial institutions that fully participated in the debt exchange programme.

Ghana has completed its domestic debt exchange programme, bringing it closer to obtaining a $3 billion bailout from the IMF. Its government issued new bonds to eligible bondholders and took administrative measures to settle those who did not participate in the programme. Ghana is also in talks with its major creditors, China and India, to speed up its external debt restructuring programme. However, the country missed a self-imposed deadline to reach a restructuring agreement with bilateral creditors by the end of February 2023. China and India met in March 2023 to assist Ghana in restructuring its external debt through relief, lower interest rates, and moratorium extensions. The President of Ghana had also expressed hopes of finalizing an IMF deal in March 2023.

COULD GHANA’S APPROACH IMPACT SRI LANKA’S NEGOTIATIONS?

FC Research contends that ISB holders expect some form of domestic debt reorganization, but no negotiations have taken place yet. Sri Lanka’s private creditors want the government to reprofile domestic debt payments to ensure that it can meet its gross financing targets. With high levels of domestic debt and current interest rates, there are concerns that Sri Lanka may be unable to achieve its gross financing need (GFN) target without domestic restructuring.

Domestic debt restructuring will impact commercial banks, which have already suffered mark-to-market losses. Due to these concerns and high-risk perceptions, cash-plus banks have parked surplus funds in the Central Bank’s window instead of investing in government bonds, FC Research says. Contrastingly, during past economic crises, banks typically invested in government bonds and made capital gains as interest rates fell around one year into the IMF programme.

Following the conclusion of Ghana’s Domestic Debt Exchange Program (DDEP), there is a possibility that it could influence Sri Lanka’s strategy, FC Research argues, estimating the likelihood of domestic debt restructuring at around 20%.

External creditors may question why Sri Lanka cannot implement a debt restructuring program if Ghana can. However, it’s worth noting that Ghana is still in the early stages of securing an IMF bailout, whereas Sri Lanka has already gained approval from the IMF, FC Research points out.