Next stop for Ethiopia: unchartered waters of international investment

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By Bereket Gebru (May 29, 2014)


There are connotations associated with almost every name out there. These connotations are reflections of historical events, social norms or other facts and beliefs. For instance, the name Hitler is widely associated with the World War II German leader Adolf Hitler who infamously oversaw the killing of millions of people.
The good thing, however, about connotations associated with names is that they change through time. In some cases, the change could even be extreme. Scientific remarks depicting the North Pole of thousands of years ago as a temperate region stand proof of the fact that connotations might change extremely with time.
Some changes do not have glacial paces though. Known for its ancient civilization and grandeur in international relations, Ethiopia is generally noted as a great civilization in history. Its recent history has, however, been marred with poverty and famine. As a result, its name has been often than not associated with agony and misery. It only took a few episodes of famine and hunger to change the long established image of the country anti-clockwise.
The last few years have, however, forced the pendulum of international opinion on Ethiopia to its positive end. The great length the country has come towards making access to education and health universal since the ascendance of the Ethiopian People’s Revolutionary Democratic Front (EPRDF) is commendable.
The coverage of infrastructure and provision of social services to its 90 million plus population has also increased in folds. Both the agricultural and industrial sectors of the economy have noticeably put on more muscle. The service sector has also positioned itself as a strong source of economic growth and employment. The scope and feasibility of the projects the country has embarked on are vividly indicative of the brighter days the country is poised to live through. In general, the internationally corroborated double digit economic growth of the country in the past decade is a bold line drawing the path to the future.
After what has been a successful decade though, the country has finally reached at a point where it would use a higher pedestal. Setting itself firmly on the goal of joining middle income countries within a short period, Ethiopia has invested highly on its future by planning and carrying out economically and socially meaningful projects.
As far as Ethiopia has come away from the conditions of the last two and half decades, there still remains a long way to go before it realizes the goal it set out to achieve. Building and harnessing local investment capacity has been one of the priorities of the government and the results of that effort have become tangible with the use of local funds to see through the mega projects underway.
For all the improvements in that section though, achieving middle income status still needs something complementing local investment. That is where the introduction of more international investment into the economy comes into play to push the country into a higher realm of development.
In addition to motivational schemes that have always been in place to lure foreign investors into Ethiopia, the government has recently made moves to clearly denote the level of risks involved while investing in the country for international investors. Towards that end, it requested the biggest three credit rating agencies in the world to rate the level of risks investors would be taking by investing in the country.
The scores came in last week and they are in line with the expectations of the government. The three biggest credit rating agencies of Standard and Poor’s (S&P), Fitch and Moody’s gave Ethiopia an almost similar rating. S&P gave Ethiopia ‘B/B’ foreign and local currency ratings while Fitch came up with a long-term foreign and local currency Issuer Default Debt Rating (IDR) of ‘B’ with a stable outlook. Moody’s also rated the foreign currency sovereign credit rating as ‘B1’, one notch above the others.
The agencies rate sovereign credit using the letters A to D along with plus or minus signs and numbers. “The terms "investment grade" and "speculative grade" have established themselves over time as shorthand to describe the categories 'AAA' to 'BBB' (investment grade) and 'BB' to 'D' (speculative grade).
The terms "investment grade" and "speculative grade" are market conventions, and do not imply any recommendation or endorsement of a specific security for investment purposes. "Investment grade" categories indicate relatively low to moderate credit risk, while ratings in the "speculative" categories either signal a higher level of credit risk or that a default has already occurred.”
Although Ethiopia’s best score of B1 still puts it under the speculative category, the reports of the rating agencies have pointed out some strong characteristics of the Ethiopian economy that would play vital roles in drawing foreign direct investment into the country.
Fitch Ratings' Report has, for instance, been entitled rather vividly as “Ethiopia: Rapid Progress, Strong Potential”. The report focuses on the progress achieved so far in terms of development and economic performance as well as future potential and the challenges ahead. The agency has identified structural features, macroeconomic performance, public finances and external finances as the four key elements in its sovereign rating criteria.
Accordingly, the report states “Ethiopia's (Issuer Default Debt Rating) IDRs reflect a balance between weak structural features indicating vulnerability to shocks and strong economic performance and improved public and external debt ratios since debt relief under HIPC in 2005-2007.”
Fitch pointed out a “GDP per capita of USD500 in 2013, well below 'B' medians and the private sector's weakness, reflecting the country's fairly recent transition to a market economy,” as the two main points weighing against a better rating for Ethiopia.
On a positive note, the report states that “governance indicators as measured by the World Bank are broadly in line with 'B' medians.” These indicators are reflective of political and social stability. The report goes on to point out that “economic performance is strong. With an average real GDP growth of 10.9% over the past five years, Ethiopia has outperformed regional peers due to significant public investments in infrastructure as well as growth in the large agricultural and services sectors.”
By noting the strong economic performance and expansion of infrastructure in the country, the report has given an affirmative response to questions raised by investors in that regard. Considering international investors cite poor energy, communication, roads, etc as obstacles towards increased investment in the least developed countries, the report has shed light on Ethiopian efforts to curb the problem.
Further positive remarks by the report point out that “despite a track record of high and volatile inflation, it declined significantly in 2013, reflecting lower food prices and the authorities' commitment to moderate central bank financing of the government.” By expressing the correct measures taken by the government to control inflation, the report has shown a glimpse of the mature financial and economic policies in the country.
“Despite large capital expenditure, the general government (GG) budget deficit remained contained to an average 1.4% of GDP over the past five years. At two months of current account receipts, international reserves are low compared with peers. However, with debt service also low, reserves relative to debt service are above the 'B' median.” The consistent low budget deficit expressed by the report also complements the fine tuned financial and economic policies of the country.
In dealing with the future economic performance of the country, the report states: “Fitch expects real GDP growth of 9% in 2014 and 8% in 2015. Ethiopia's growth over the medium-term can be sustained by large, untapped resources, including large hydro-electric potential.”
In addition to confirming the double digit economic growth the country has experienced over the past decade, testifying to the sound economic and financial policies the government has followed along with acknowledgments of its determination to see through required measures, the report has clearly put that the economic growth can be sustained at least over the medium term. In so doing, the credit rating report has clearly shown international investors that Ethiopia has a conducive environment for investment.
The report further notes that “the stable outlook reflects Fitch's assessment that upside and downside risks to the rating are currently well balanced. The main factors that could lead to a positive rating action, individually or collectively, are: -Stronger external indicators, including higher exports, as well as stronger FDI and international reserves -A sustained decline in inflation reflecting an improved macro-policy environment -Further improvement in structural factors, including stronger development and governance indicators.”
On the other hand, it clearly depicted that “the main factors that could lead to a negative rating action, individually or collectively, are: -Rising external vulnerability related to declining international reserves, widening current account deficit or rising external indebtedness -Increased risk of contingent liabilities from State Owned Enterprises (SoEs) and publicly-owned banks materializing on the government's balance sheet.”
By providing a clear picture of existing situations in the country that have led to the stable outlook designated to it, the credit agency has acted as an independent body giving its account of what is happening in Ethiopia to international investors. The agency’s identification of factors that could lead to a negative outlook in the future, on the other hand, help the Ethiopian government take preventive measures.
On a more comparative note though, Ethiopia’s rating has put it right among its better off African peers. As has been mentioned earlier, the speculative grade Ethiopia belongs to ranges from scores of ‘BB’ to ‘D’. The speculative grade, however, is further divided into non-investment grade speculative (Bal-Ba3 for Moody’s and BB+ - BB- for the other two), highly speculative (B1–B3 for Moody’s and B+ - B- for the other two), substantial risks extremely speculative (Caa1-Caa3 for Moody’s and CCC+ - CCC- to the other two), in default with little prospect for recovery (Ca for Moody’s and CC & C for the other two) and in default (C for Moody’s and DDD to D for the other two).
Accordingly, Ethiopia B1 rating by Moody’s and the B ratings of S&P and Fitch put Ethiopia into the highly speculative category. Other African countries in this category include Burkina Faso, Benin, DRC, the Republic of Congo, Cameroon, Ghana, Kenya, Libya, Rwanda, Uganda and Zambia.
Consistent economic growth along with stronger features that have helped Ethiopia attain this rating would see the country receive an upgrade on its rating. That would mean a slight upgrade into the non-investment speculative group that Ethiopia is now so closely rated out of. The African countries in this group include Angola, Gabon and Nigeria.
Unchartered waters
As has been widely reported, the sovereign credit rating puts Ethiopia in a position to debut on international capital markets. The reports further cite Ethiopian Prime Minister Hailemariam Desalegn’s earlier interviews that the government planned a debut Eurobond once it had secured a credit rating, though he gave no time frame. Sufian Ahmed, Minister of Finance and Economic Development also stated in a press conference on the issue that “this result offers the government with the opportunity to tap into the international capital market.”
As an unprecedented move in the country’s economic history, international capital markets are well within ‘unchartered waters’ for Ethiopia. The debt market has proved to be a murky water of various sorts of sharks. After all, it is the mishandling of debt related issues that have pushed European countries like Spain, Greece, Italy, Portugal, Ireland and Cyprus into subservient flattened dolls of the stronger EU members and international financial oligarchs.
“Over the years, credit ratings have achieved wide investor acceptance as convenient tools for differentiating credit quality. But in recent years, the reputation of the rating companies and their ratings have hit a slump following the financial crisis, which they were not able to predict an in fact they helped to create by providing good ratings for institutions that were on the verge of collapse, like the Lehman Brothers bank in 2008.”
Noting the potential bad outcome that is associated with the international capital market and working relentlessly to avoid them, the government needs to make the best out of the positives credit rating brings. Accordingly, the signs from the government are cognizant of both opportunities and threats.
After mentioning the opportunity the sovereign credit ratings have created to tap into international capital markets, Sufian Ahmed stated “of course, that is, if we decide to enter the capital market… as to issuing sovereign bond, we have not yet decided.”
While responding to a journalist’s query, Sufian further noted that it would be good to introduce the country to capital markets but that the question is really about the timing. He went on to say:
“The capacity of the government is also limited to regulate such a complex market. Policy implementation has priorities. The stock market is good, beneficial, we should introduce it. But we should make good preparations before doing that. It requires a strong legal base; we need to discuss with all stakeholders, and we need to draw lessons from others, including our neighboring countries. We are aware that there are only few stock markets in Africa; the National Bank of Ethiopia is doing all the study and the assessment. So, I hope yes one day we will introduce it, but I don't know the details and the timetable. If you are asking me from the perspective of priority, there are other things that we should do first.”
There are also reports stating that bankers cautioned the government could use the rating more as a marketing tool to attract foreign direct investment into Ethiopia, benchmarking the country against neighboring Kenya and Uganda, rather than to issue a bond immediately.
With such concerted and thoroughly deliberated moves by the government, the complex issue of international capital markets seems to have met its match.

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