KEY POINTS
• The UN says inaccurate and context poor sovereign credit ratings cost African countries about $74.5 billion annually through higher borrowing costs and lost financing.
• The Africa Credit Rating Agency, AfCRA, is expected to provide Africa focused assessments of sovereigns, sub sovereigns, companies and institutions.
• Nigeria has previously challenged what it considers excessive risk premiums on African sovereign borrowing.
MAIN STORY
The United Nations says African countries lose about $74.5 billion annually because sovereign credit ratings do not adequately reflect the continent’s economic realities, resulting in higher borrowing costs and reduced access to financing.
The UN Office of the Special Adviser on Africa disclosed this ahead of the formal launch of the Africa Credit Rating Agency, known as AfCRA, in Port Louis, Mauritius.
The agency is expected to provide independent assessments of sovereigns, sub sovereigns, companies and institutions, with a focus on African economic conditions.
According to the UN, the gap between perceived and actual risk has created a significant financial burden for African economies, with the continent’s default experience reportedly lower than the risk levels reflected in prevailing credit ratings.
“Africa’s actual default rate is far lower than what its credit ratings imply, yet the continent pays the highest cost of capital in the world,” the UN said.
It estimated that inaccurate ratings cost Africa $74.5 billion every year through excessive borrowing costs and lost financing opportunities.
“That is a tax on Africa’s development, paid for no good reason,” the UN said.
The issue has particular significance for Nigeria, which has repeatedly raised concerns at the United Nations about the risk premiums attached to African sovereign debt.
At a special meeting of the UN Economic and Social Council on credit ratings in March, Nigeria compared its borrowing costs with those of an unnamed highly indebted European country.
Nigeria said its debt to GDP ratio was considerably lower, it had never defaulted on sovereign debt and its foreign reserves were stronger. Despite this, the country said its recent dollar denominated sovereign bonds carried yields of between 8.6 per cent and 9.1 per cent.
The unnamed European country, by comparison, was able to borrow at about 3.9 per cent to 4.0 per cent, according to Nigeria.
Nigeria also questioned the continued investment grade gap between African sovereigns and profitable banks and businesses operating within the same economies.
It argued that international credit rating agencies should engage more extensively with domestic investors and economic actors instead of relying largely on assumptions generated outside the continent.
Nigeria further raised concerns about the limited physical presence of major global rating agencies across Africa, saying this could restrict their understanding of local economic conditions.
The UN said AfCRA is intended to address some of these information and methodology gaps by producing assessments based on African data, expertise and economic context.
The agency is expected to give greater consideration to factors that conventional ratings may not adequately capture, including the size and role of the informal sector, as well as economic vulnerability and resilience.
It is also expected to strengthen market intelligence and challenge longstanding perceptions surrounding African sovereign risk.
The African Union said AfCRA would complement existing international credit rating agencies rather than replace them.
The AU said the agency would operate independently, be driven by the private sector and fund its operations itself. Governments would not be permitted to own shares in the agency, a measure intended to protect its independence and credibility.
The launch follows years of concern among African governments over the effect of sovereign credit ratings on borrowing costs and the fiscal resources available for development.
The UN Economic Commission for Africa said the institution forms part of wider efforts to reform the continent’s financial architecture, deepen domestic capital markets and reduce borrowing costs.
The African Union said AfCRA would also give African countries a stronger voice in global financial governance while encouraging assessments based more closely on economic evidence and local conditions.
THE ISSUES
- Higher sovereign borrowing costs affect the amount of money governments have available for development after debt servicing obligations are met. If investors demand higher yields because of perceived risk, governments may have to devote more revenue to servicing new and existing debt.
- The disagreement over African credit ratings is partly about information. African governments argue that ratings should account more fully for local economic conditions, domestic investors, informal economic activity and resilience rather than relying heavily on externally generated assumptions.
- AfCRA introduces an Africa focused alternative into a market currently dominated by established international rating agencies. Its credibility will depend on whether investors regard its assessments as independent, transparent and sufficiently rigorous.
- The creation of another rating institution does not by itself guarantee lower borrowing costs. African sovereigns would still need to convince domestic and international investors that their economic and fiscal conditions justify the risk assessments assigned to them.
WHAT’S BEING SAID
“Africa’s actual default rate is far lower than what its credit ratings imply, yet the continent pays the highest cost of capital in the world.” – United Nations Office of the Special Adviser on Africa
“That is a tax on Africa’s development, paid for no good reason.” – United Nations Office of the Special Adviser on Africa
WHAT’S NEXT
AfCRA is expected to begin providing independent credit assessments as part of wider efforts to improve African financial market information, strengthen domestic capital markets and address concerns over the continent’s borrowing costs.
BOTTOM LINE
The UN says African economies are paying a significant financial penalty because credit ratings do not sufficiently reflect their actual economic and default risks. AfCRA is being positioned as an Africa focused institution intended to provide additional assessments rooted in local data and economic conditions.
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