The Bank, however, says the likelihood of China unilaterally providing comprehensive debt relief to Zambia is low.
In its latest analysis titled “Zambia’s end game – a scenario analysis” issued on May 28 to its institutional investors, the Bank stated that while debt restructuring is not yet unavoidable, the country currently appears on a path to default and a balance of payments crisis.
But the Bank is optimistic that the government will get the situation under control as the country does not have a recent history of default and “broadly speaking, has pursued market friendly policies, including maintaining an open capital account”.
“Based on our assumptions and calculations, we think current market prices are broadly aligned with the scenario in which Zambia faces default in 2020, but then restructures debt under an IMF programme. Despite some maturity extensions and potential (moderate) notional haircuts, we think recovery values in this scenario could be in the mid/high 60s. In the optimistic no-default scenario, we see c. 20 points of potential upside for Zambia ‘27s. In a disorderly default, recovery values are naturally hard to estimate, but as incidents of other countries’ uncured defaults would indicate, bond prices could easily fall to the low 50s (or even lower). Based on this analysis, we think that risks to Zambia credit at current prices have become balanced and we hence upgrade Zambia from Underweight to Market Weight. On the curve, the high-coupon ‘27s are our preferred pick and we recommend switching from the low-coupon ‘22s…,” it stated.
“While its capacity to repay is rapidly diminishing, the question of Zambia’s willingness to repay informs our assessment of the probability surrounding different policy scenarios, as discussed later. On the one hand, Zambia does not have a recent history of default and broadly speaking, has pursued market friendly policies including maintaining an open capital account. The government has stated repeatedly that it does not intend to renege on its obligations to creditors.”
It stated that despite the government having continued to service its debts notwithstanding its increasingly stressed liquidity position, the lack of recognition of the crisis was a source of concern for the investors.
“And yet these assertions have not been accompanied by what investors might view as an urgent recognition of the crisis at hand and a turnaround in the current policy direction i.e., a radical fiscal adjustment (preferably with or even without IMF support) perhaps halting a larger share of current investment projects, publishing its debt sustainability analysis and charting out policies to bring debt back to a sustainable trajectory. Therefore, we now view Zambia’s willingness to repay as having also declined,” Barclays stated.
It stated Zambia’s debt repayment capacity had been significantly eroded in recent years.
“While a debt restructuring is not yet unavoidable, in our view, on the current trajectory the country appears on a path to default and a balance of payments crisis. In this note, we explore threedifferent potential scenarios and their implications for creditors. The country’s predicament may offer a template for the treatment of other SSA countries facing questions around public debt sustainability and with a debt profile that is dominated by non-Paris club creditors, in particular the Chinese sovereign or other Chinese-related entities,” Barclays stated.
“…The market appears to be pricing a high likelihood of a credit event in Zambia, given that prices of Zambia’s eurobond have now fallen to the mid 60s and cash price convergence across the curve is almost complete. In this note, we present three possible scenarios for Zambia’s debt servicing trajectory. In the optimistic scenario, we think default can still be avoided. However, this scenario would require a clear change in policies accompanied by an IMF programme in the near term. The alternative scenarios assume a muddle-through on current policies, which would likely result in an FX liquidity shortfall by 2020. In this case, the two sub-scenarios would be (i) that Zambia is then forced into IMF cooperation eventually – which we believe would involve private sector involvement (PSI) in a broader debt restructuring at that point; or (ii) a ‘disorderly’ default.”
It further stated that the current domestic political climate points to a continuation of the lax policies that have characterized the Zambian policy making environment in recent years.
“We think such policies—including the lack of radical fiscal adjustment, contracting of external debt at a rapid pace and a willingness to run down international reserve buffers below safe levels—have confounded investors and contributed to a perception that the country is headed for a hard stop. In the same vein, tensions with the country’s main foreign currency generating sector, mining, have recently escalated. The government has initiated a process to terminate the operating licence of Vedanta Resources subsidiary Konkola Copper Mines (KCM), in which the government owns a 20.6% minority stake. KCM has a poor record in Zambia, having repeatedly fallen into arrears to local mine suppliers and contractors…More broadly, the government is unhappy about the mining sector’s plans to lay off workers and cut production following changes to the mining tax regime in the 2019,” it stated.
“The timing of the government’s action is curious. Given its financing difficulties, the action could suggest an even more strained cash position than we previously thought. The government has claimed three foreign entities are ready to buy KCM assets (Bloomberg, 21
May 2019), and given Vedanta’s reported contractual breaches of its license conditions (Mining Technology, 24 May 2019), we would not be surprised to see a sale proceed. At the same time, there may also be an underlying political motivation. Mine closures and falling wages have contributed to a climate of discontent in the Copper Belt, which the opposition has sought to capitalize on and which the government is seeking to quell, meaning the government’s actions have been very popular with the local population.”
It suggested measures for the country’s economic survival.
“For the government to continue muddling through in 2019, it would in our view require a combination of factors: 1) extraordinary cash inflows through for example the sale of assets;
2) government access to other external financing, for example by drawing down on other previously contracted debt or new loans altogether from private banks, as has been the case in previous years; 3) outflows, e.g., offshore portfolio investors and the private sector (banks
and corporations), being capped at a specific level,” Barclays stated. “…On this basis, the government could in principle stretch out its reserves until mid-2020 – but the starting level of reserves in 2020 would be a small fraction of gross external financing needs, with generous assumptions that the government could still access some financing from contracted loans and attract some FDI, and crucially that the kwacha does not come unmoored, which would raise external debt service. The BOZ would have to buy FX for these resources to count towards official FX reserves as well as continue hiking policy rates to prevent significant kwacha weakness.”
And Barclays says a debt restructuring with China was unlikely.
“…we have omitted the possibility of Zambia being ‘bailed out’ unilaterally by its single most important creditor, China. In early 2018, the government said it was seeking a re-profiling of its debts with China in order to provide liquidity relief. But despite several trips to China by high ranking Zambian delegations, no deal has been forthcoming, with the Minister of Finance telling investors in April that the discussion with China focused on a reduction in interest rates rather than a re-profiling, e.g., an extension of maturities,” it stated.
“We think the likelihood of China unilaterally providing comprehensive debt relief to Zambia is low. Unlike other SSA countries (e.g., Angola, Republic of Congo, Ethiopia), Zambia is important neither strategically nor from a natural resource perspective. It has copper assets, but these belong to private international mining companies and are not a resource the government can exchange for support. And with China’s share of the debt accounting for only c.30% of the total, there is little incentive for it to bail out the sovereign, only for it to continue servicing the debt of other creditors.”
It stated that if political impediments are still too significant for Zambia to engage with the
IMF and creditors, based on a more sustainable economic policy path, “this would leave Zambia in a ‘disorderly’ default situation”.
“…i.e a situation in which Zambia would ultimately have to stop servicing external debt without the immediate prospect of the situation being resolved. In such a scenario, it is naturally hard and imprecise to estimate where bond prices could trade. Past incidents of ‘unresolved’ defaults suggest, however, that levels could be significantly lower than current market prices and also much lower than the recovery values we projected in our scenario,” stated Barclays.