Ethiopia’s Rapidly Inflating Debt Mountain
In December 2019 alone, Ethiopia’s external debt stock has increased by about US$ 9 billion. The multilateral agencies, the International Monetary Fund (IMF) and the World Bank, each approved about US$ 3 billion. The VOA has quoted PM Abiy’s tweet referring to unnamed source pledging yet another US$ 3 billion. The amount of loan approved by IMF in particular has raised eyebrows for many reasons.
First, the IMF had already classified Ethiopia in high risk category and that the country was in debt distress (IMF Country Report No. 18/354 ). That warning was flagged a year earlier when Ethiopia’s external debt stock was lower by at least US$2 billion, that is to say matters have gotten even worse since then. Second, the size of funds IMF is supposed to lend to each member country is estimated using a quota system. The $3 billion IMF has recently approved for Ethiopia was about 700% of Ethiopia’s quota.
Why have the multilateral and bilateral agencies committed themselves to lend so much to Ethiopia, a very poor country which was already known to be in external debt distress? Above all, what explains the Ethiopian governments overzealous commitment to persist with external borrowing?
In this piece, I will endeavor to seek some answers to these intriguing questions. This piece is divided into two parts. In order to lay the ground work, I will present basic facts and figures in Part I below. Part II, Ethiopian Government Attitude to Debt: Borrow, Come What May!, is separately presented; it focuses on explaining the underlying reasons for the Ethiopian government’s dogged commitment borrow at any cost.
Who are the lenders?
According to World Bank’s International Debt Statistics (IDS), Ethiopia’s debt stock, that is to say outstanding commutative total debt that Ethiopia owes to the rest of the world, stood at $28 billion by the end of 2018 (see Table 1). About 97% of this loan was long term and Public and Publicly Guaranteed (PPG).
What is concerning is the fact that Ethiopia’s external loans are a combination of both long term and PPG. “Long term” implies payment will be made in the range of 30 to 50 years and hence paying back is not the concern of the government that borrows the funds. “Public and Publicly Guaranteed” means the people of Ethiopia, not necessarily the current generation, are committed to repay the loans at their maturity. Otherwise, the lender is entitled to take over any assets that has been written down as collateral at the time of borrowing. It is not known what assets the Ethiopian authorities have been registering whenever they have entered into agreement with the lenders.
About 40% of the PPG loans are extended to Ethiopia by the multi-lateral agencies, mainly World Bank administered through the International Development Association (IDA), which is the part of the World Bank that lends to the world’s poorest countries.
Lenders commit their resources to World Bank which lends on their behalf through the International Bank for Reconstruction and Development (IBRD) to Middle and High Income economies and through IDA to low income developing countries. The split into IDA and IBRD was required because of different conditions to lend to poor and rich countries.
The World Bank claims that its lending through IDA comes with terms suitable to poor countries. For instance, lower interest rates, some grace periods, and long term maturity. These terms are often used to trick politicians and policy practitioners in developing countries, who are often mistakenly led to believe that IDA was established essentially to help poor countries.
In one of his recent public speeches, I have heard PM Abiy saying “borrowing from IMF is like borrowing from one’s own mother”. I was deflated when I heard this statement. The so-called “soft loans” were designed to do exactly that, enticing not so sophisticated developing country politicians into believing that multi-lateral loans are meant to help poor countries.
In fact, such loans are dressed up as “development assistance”. Policy-makers as well as ordinary citizens have difficulty to distinguish between multilateral loans and free grants. I have often cringed when I witnessed people exchanging celebratory and congratulatory messages, joyfully celebrating approvals of the recent multi-billion dollar IMF and World Bank loans.
It is worth noting two things. First, the bottom-line is that multi-lateral agencies are just banks who, like any other banks, serve the interest of their shareholders. It seems not many people recognize that these banks are established by a club of rich nations who create a pool of funds as shareholders of those banks and then use those institutions to lend money on their behalf. Lending to countries this way is convenient and cost effective, bilateral loans are costly to administer.
Second, loans are made sound soft by simply deflecting attention away from cumulative costs of debt financing (repayments of interest plus principal) towards the terms of loans (interests, grace period, maturity, and so on). Otherwise, total cost of financing a $1b loan with 4% interest rate over 30 years term is considerably higher than the same amount of loan at 6% and over 15 years period.
Long term loans are more in the interest of the lenders than the borrower because the lender is guaranteed to earn interest and then the principal. This is particularly the case since the financial crises which has generated a glut of funds, sitting idle in bank accounts with nearly zero interest rates, still worse, exposed to the turbulent stock market, where the money would get wiped out overnight.
So much about the multilateral loans and their conditions, and now further down in Table 1, we find bilateral loans. The bulk of the publicly guaranteed bilateral and private creditors, $16b, seems to have come from China. According to the China Africa Research Initiative at Johns Hopkins University of the United States, Ethiopia’s outstanding loan from China from 2000 to April 2019 stood at $12.1 billion.
How bad is it getting?
Now that we have had a snapshot of what Ethiopia’s debt looked like in 2018 (Table 1 above), it is appropriate to turn our attention to the dynamics of Ethiopia’s debt in recent past (Table 2, below). Ethiopia’s outstanding debt was $7.3b in 2010 and $28b in 2018, that is a four-fold increment in just eight years.
This means Ethiopia’s external debt has been growing by nearly 20% per year during the eight years period between 2010 and 2018. The latest approvals of a chain of multi-billion loan approvals would inflate Ethiopia’s debt stock to $37b, a 32% increase in one year, between 2018 and 2019.
Even before the latest ballooning of the country’s debt, Ethiopia has already been struggling with the existing debt burden. Between 2010 and 2018, interest payment increased nine times, principal payments, 12 times, and total debt payment (interest plus principal) over 11 times.
External debt can be justified as long as the funds borrowed end up with increasing capacity to export. This does not seem to have been happening, if anything the loans seem to be contributing to inducing Ethiopia’s capacity to import (due to investment in white elephants, wasteful mega projects, such as industrial parks and other infrastructural projects). Consequently, the gap between Ethiopia’s exports and imports, that is trade deficits, has widened by nearly two and a half times during the period under analysis.
How does Ethiopia compare with the rest of Africa?
A few times I have tried to discuss the seriousness of Ethiopia’s troubles with external debt, I keep getting a response which runs something like, “Ethiopia is actually not doing that bad compared to the rest of Africa!”. I envy people who have the capacity to show brave face in front of a looming disaster. The fact is that Ethiopia is actually doing exceptionally badly compared to the rest of Africa.
Figure 1 compares Ethiopia with Sub-Saharan average in terms of external debt stock expressed as a ratio of exports. This ratio is a good indicator in that it shows the amount of yearly exports required to pay off the debt.
The ratio for SSA on average increased from 75% (less than one year exports revenues) in 2010 to 144% (about a year and a half exports revenues). The corresponding figure for Ethiopia shows a different order of magnitude. In 2010, if Ethiopia utilized export revenues for nothing else except paying off debts, it would have taken Ethiopia about a year a half worth exports to clear its debt.
By 2017, the situation has gotten from bad to worse, the number of years it would have taken rose to four years. The reality is that Ethiopia’s export revenue has never been anywhere near enough to cover expenditure on imports, as noted in Table 2, let alone to pay parts of existing debts.
On the contrary, more and more debt has been used to fill the gap between revenues from exports and expenditure on imports. This means Ethiopia has continued to borrow and hence the debt stock has continued to rise during the last few decades, and chances are, this trend will continue, Ethiopia’s external debt piling up in the foreseeable future, unless major changes are taken place.
Figure 2 compares Ethiopia with the rest of SSA in terms of cost of debt, measured by debt service to exports ratio. As opposed to the hypothetical debt stock to export ratio, this indicator provides a better perspective in that it measures actual year on yearly flows of funds (interest and principal payments) expressed as a ratio of exports during that year.
In 2010, Ethiopia debt repayment was just under 5% of total export earnings during that year, slightly less than the corresponding figure for the SSA average. In a matter of a year, Ethiopia surpassed the SSA average and by far, while that of the rest of SSA slightly fell to 4%, Ethiopia’s grew to 6%.
This gap got rapidly widened over the years, Ethiopia’s debt service reached 21% of export earnings in 2017, while that of the rest of SSA reached only 12% during the same period.
This piece has focused on external debt but external debt can explain only half of the story. The Ethiopian government has been heavily borrowing from domestic banks as well. According the IMF country report cited earlier, Ethiopia’s total debt during 2018 was 61% of the country’s GDP. External debt discussed here constituted only 54% of that amount, the remaining being debt to domestic banks. We have discussed the consequences of external debts, but domestic debt has had equally dire consequences.
To begin with, investment funds are scarce resources, and their uses have opportunity costs. In the Ethiopian context, there is no doubt that government borrowing has been crowding out private borrowing. It is not without reason that Ethiopia’s private sector has been crippled and incapacitated over the years.
Private sector crowding out has had considerable cost to the economy. The cost has been made considerably higher than it should because Ethiopia’s public investment has been proven to be wasteful, contributing next to nothing to capacity to produce goods and services for exports or domestic consumption.
If the funds were borrowed by the private sector, then the money would have been guaranteed to be repaid to the banks and then made available for the next batch of investors to borrow. Additionally, the private sector would have invested on sensible projects, create jobs for millions, and then produce goods and services that would have appeared on domestic markets (hence less inflation) or exported (less external deficit).
Ethiopia’s debt is like a volcanic mountain waiting to erupt! The situation is distressful not just due to the fact that the debt level has risen rapidly over the years. There are many countries whose debt to GDP ratio is higher than that of Ethiopia. What makes the case of Ethiopia rather alarming and unique is that the more Ethiopia has borrowed the lower its capacity to export has become over the years.
This piece (Part I) has concentrated on giving the reader a sense of magnitude, the depth of Ethiopia’s trouble with external debts. The follow up piece, Ethiopian Government Attitude to Debt: Borrow, Come What May!, will concentrate on explaining murky situations lurking behind the Ethiopian government decision to borrow at any cost and the irresponsible and steadfast commitments of multi-lateral and bilateral donors to lend to Ethiopia.