The Absa 2019 Financial Markets Index was recently released at the World Bank annual meetings held in Washington DC. The index has been running for three years successively and has provided a basis for rating performance of 20 African markets based on 6 pillars. The Absa Index is one of the most useful tools in addition to other indexes such as the Barclays Emerging Markets Africa Bond Index and the famous Purchasing Managers Index (PMI) that measures monthly private sector pulse. The Absa Group have delivered this Financial Markets Report for three (3) years back to back with the question echoing as to how useful this tool is to guide market development, liquidity improvements. Further it is vague as to wether fiscal units do comprehend what the index signals for respective jurisdictions annually? I have taken time to emulsify what the index is signaling about the posture of African fiscals. This article is wholly about how finance ministries across the continent should take keen interest in understanding that the policies they advocate for, do have significant impact on the liquidity posture of markets.
What exactly is the Absa Index signaling about African fiscals?
From inception of the index launch there has existed this misconception that since the index is financial market related, only the central banks or capital market regulators should take keen interest because it actually speaks to metrics under their respective mandates. Much as it is important for the regulators to be close to the index as it provides a benchmark against peers on the continent, fiscal units should take keen interest too seeing that the markets are a thermometer of the alignment between fiscal and monetary policy. So then what is the Absa Index saying about the state of African fiscals? Why are Aftican markets reflecting between 27-75 out of 100 compared to South Africa that is in the 88s? Why do African nations grapple with liquidity generally? Why do Ideally liquidity reflects the monetary policy posture of most jurisdictions which has for ages in Africa been a response to fiscal policy posture.
A little trip down memory lane, Bank of England (BOE) governor Mark Carney and his US Fed counterpart Jerome Powell at Jackson Hole meeting of global central bankers last summer, stated that it is incorrect to think the effects of the state of global politics can be cleaned up using monetary policy tools. This was in response to Donald Trumps sentiments around what the US Fed and other central banks should do to build requisite stimulus given the state of the global economy. Trump tried to coerce the US Fed into lowering interest rates to achieve the requisite growth in the US economy because evidently the trade impasse was beginning to take a toll on the global giant. The argument has been that current risks to growth globally (US China trade war, Brexit and geopolitical tensions in the Middle East) are not ‘market’ but ‘politically’ driven and as such the antidote for correction should also come from the fiscal side. Coming closer to home, the mindset is no different from Trumps. Central banks are constantly blamed for failing to align monetary to fiscal policy and as such is always bailing the latter out. Since markets don’t lie, central banks have very little room to maneuver and are ideally running out of options in nations with elevated debt positions. Suffice to say monetary policy has bottomed. The job of central bank governors is becoming tougher by the day requiring aspirin as they try to deal the headaches dislocated fiscals while trying to keep growth in check because economies still have to expand. Fiscals need to scale down and respond appropriately if there is to be any growth in Africa.
Fiscal and financial market relationships
The dislocation between monetary and fiscal policy manifests in either plummeting foreign exchange reserves or an anemic build up leaving nations vulnerable to external shocks and weak import cover positions. This is as a consequence of changes in fiscal regimes coupled with plummets in commodity prices resulting in African nations burning reserves to defend currency stability. Copper (Zambia and DRC), oil (Angola, Nigeria, Gabon and South Sudan) and cocoa (Ivory coast and Ghana) currency nations fall in this category. The discussion around currency regimes whether floating, fixed or managed is for another round of liquidity discussions. Expansionary fiscal policy has however overshadowed monetary policy as such yields on government securities have had to elevate causing a bearish trajectory in the term debt market. In layman’s terms, what I’m trying to say is that lending rates feed off the shape of the government security curve and can only be at spreads above should extending balance sheets to corporates make economic sense. Any other options outside this would force banks to lock up cash in securities thereby crowding out the domestic credit market.
Expansionary fiscal policies targeted at infrastructure investments have cost nations unsustainable debt positions which has in turn caused credit rating agencies such as Moodys/S&P/ Fitch to downgrade African sovereigns to junk. In fact there have been more downgrades in 2018/2019 period than upgrades. This has therefore weighed and waned investor perception about African instruments (paper) let alone dollar denominated bonds (eurobonds) have Credit Default Spreads (CDSs) wider than ever (between 450-1,650 basis points). The ultimate result of rising debt exacerbating downgrades is that liquidity of instruments has been adversely impacted to the extent that offshore participation in government security auctions has dwindled while asset sell-off pressure has risen with investors shying away from reinvestments but preferring to convert proceeds of local investments to dollars. This increases capital flight and swells dollar demand resulting in currency pressure the exact quagmire that is explained in pillar 1 of the Absa Index – access to foreign exchange. Some nations are in talks with the Washington based lender for bail out packages but until the deals are concluded, investors will either sit of the fence and observe or outright exit (due to weariness of the wait) to more stable and predictable jurisdictions. Lack of tangible debt redemption strategy or generally lack of fiscal discipline has been a market roiler in African markets affecting liquidity.
Even pension funds that are dubbed the biggest players in the discount instrument market are slowly shying away from taking sovereign risk. Superannuation funds that are supposed to play the role of semi pension funds, lack liquidity because State Owned Entities (SOEs) are either not remitting pension deductions from employees and as such create a funding bubble or crunch that manifests in lack money and feeble participation in the money markets. It is for this reason that build up of debts such as domestic arrears in unpaid pensioners results.
Absa Index 2019 birds eye view
The performance of nations between 2019 and 2018 reveals mixed signals with winners and losers. South Africa the most developed market on the continent has had its fair share of economic challenges sliding to 88 from 93 out of 100 last year. Political risk, suppressed growth and fiscal underperformance have weighed the market leader while Mauritius in second place at 75 reveals a rising market giant with improvement across almost all pillars. Kenya maintained its third slot whose liquidity is enhanced by multiple Eurobond listings and trades while Namibia in fourth place has wide range of assets but grapples with low market turnover. With all the developments in the Singapore of Africa, Rwanda makes a debut in the top 10 boosted by improvements in Financial reporting standards while Tanzania had the greatest improvement to seventh place coming from fifteen a year ago supported by a strong investment environment despite small and illiquid markets. Egypt is recovering quick from the Arab spring era that roiled its markets years back. Confidence is creeping back into the North African market. The index shows a jump to eleventh place from 16 last year. Ghana’s performance has slid to thirteen from seventh a year ago while Zambia retained eighth place supported by improved regulatory and legal environment yet weighed by its capacity of local investors and falling reserves.
Much as the index can be directed to the central banks, there is need for this index to be familiarized with fiscal heads and legal regulatory bodies as these not only have a role to play in market development but could be contributors to the macroeconomic dislocations weighing financial market performance.
Authored by Mutisunge Zulu a Financial Risk Analysts. The views expressed in this analysis are the purely the writers.
