Can Ethiopia restructure its debt in the midst of civil war?

Ethiopia’s debt is closely linked to economic policy. The previous Ethiopian People’s Revolutionary Democratic Front (EPRDF) administration had applied a developmental state approach for two decades.

Government was thus the core enabler of the “normative, structural, institutional, technical, and administrative environments […] to achieve its national development vision” according to a paper entitled ‘Developmental State’ as an Alternative Development Path in Ethiopia: Miracle or Mirage?’.

The State needed funds for the construction and development of industrial parks, railways, highways, dams etc. Although it borrowed domestically, the country’s limited financial system and domestic savings meant it was forced to look to foreign creditors.

In the following years, public debt went from 39.61% of the GDP (2010) to reach 57.72% of the GDP  (2019).

Transitioning economy

Abiy Ahmed’s rise to power in 2018 came amidst an already tense economic and political situation. He signaled a shift towards a liberal economic policy gaining wide political and financial international support, including:

• $1bn from the IMF;
• $3bn from the World Bank (WB);
• $100m from the French Agency for Development (AFD);
• $1bn from the UAE .

In 2019, Abiy said: “Prior to our reforms, Ethiopia’s economy was in a dangerous and complex state. A week after taking office, we couldn’t pay salaries […], we were facing important foreign currency shortages. We couldn’t pay loans or borrow more and struggled to deal with our budget deficit.”

In that context he implemented the ‘Homegrown Reform Agenda’ that reduced debt by 10% between 2018 and 2020,

The new administration also renegotiated a considerable amount of debt with China (including $4bn extended by 20 years).

Covid and DSSI

As has been the case worldwide, the arrival of Covid-19 to Ethiopia has had dire consequences.

Although exports had grown by 17.7% in 2019, they fell to -0.51% in 2020 further exacerbating the foreign currency shortage and the country’s ability to service its debt, inflation also increased to 20.6%. It was in this context that Ethiopia applied to the G20 Debt Service Suspension Initiative (DSSI) in 2020.

This allowed for the suspension of $72.65m in the first quarter ($7.78m in principal payment and $24.87 million in interest payment). Even so, the absence of a clear position on private creditors within the DSSI has not reassured markets with Moody’s lowering the country’s rating to a Caa1. This in turn caused Ethiopia’s dollar bond value to decrease to under 92 cents.

China generally has a clause in its contracts that it is to be paid first.

However, entering the DSSI may help to keep private creditors at bay and could also create a precedent. The disagreement between the Paris Club and China is freezing the situation and serving as a shield for Ethiopia.

In the past, the Paris Club had no competition and was the sole restructurer. “China’s strong presence means they have to negotiate” Alexander Demissie, founding Director of the China-Africa Advisory, tells The Africa Report.

Indeed, the G20 initiative is the first of its kind. Previously, western countries informally gathered within the Paris Club to restructure debt. China’s rise as a global superpower and its boycott of the Paris Club gave way to the DSSI under common G20 membership .

“China’s presence further complicates the matter. Paris Club members and more specifically G7 countries’ position is that China is using its loans to African countries as leverage, another issue is transparency. China being included in the DSSI process and getting closer to the Paris Club is a good thing but I don’t think they will easily reach an agreement given the international political economy surrounding China and the US in particular” a source close to trade issues tells The Africa Report.

Tensions and political goodwill

“It is a question of who gets paid back first” adds Demissie. “China generally has a clause in its contracts that it is to be paid first”. Paris Club members therefore need China to operate within the same debt restructuring framework, fearing it might otherwise get preferential treatment as a creditor. As for China’s feared aggressive loan repayment terms, “enforcing collateral would be suicidal for China and its narrative towards African countries as a non-imperial power” he says.

As for the IMF, it “strongly encourages the swift formation of the creditor committee for Ethiopia to enable the timely delivery of the debt operation that Ethiopia is requesting”. Perhaps pushing for an entente with China  is a viable option given no clear restructuring terms have emerged thus far.

Then comes Tigray…

Added to these elements is the ongoing conflict in the country’s Tigray region. “There has been a sense of crisis in the economy since the start of the war” says the source close to trade issues. In response to escalation in fighting, the US announced sanctions in May 2021, thereby further destabilising the economy.

International tensions may also affect debt renegotiations. “Most of the time, confrontational debt renegotiations create a permanent sense of crisis. Given the political environment and unless the government’s rapport with the US improves, I don’t think this is the right time for negotiations, as there is no goodwill”, says our source. In contrast, Sudan successfully renegotiated its $50bn debt down to $6bn. It shows that there is international goodwill because there is support for Sudan’s political transition. Ethiopia’s case will evaluate the G20’s framework [DSSI] credibility”.

That’s why the environment of the debt restructuring process plays an important role. “Cooperative and market-friendly restructuring programmes are always associated with better outcomes. Tensions might poison the cooperative spirit of negotiations”, adds our source.

The environment of the debt restructuring process plays an important role. Cooperative and market-friendly restructuring programmes are always associated with better outcomes. Tensions might poison the cooperative spirit of negotiations”, says our source.

Bottom line

Facing international scrutiny and internal instability, Ethiopia has perhaps managed to find a loophole in today’s sovereign debt restructuring mechanisms.

“The more recent G20 Common Framework for Debt Treatments is a welcome improvement […] but even this framework will need flexibility and adaptable implementation mechanisms in order for it to effectively address the needs of Ethiopia and other countries” Yasmin Wohabredbbi, State Minister said in an interview with the Milken Institute.

At the end of the day, what Ethiopia really needs is not just a loophole, but internal stability, so it can pick up where it left off in its pre-pandemic economic growth.