Ghana’s domestic debt restructuring options: debt ‘haircut’, debt reprofiling or combination of both

This study is an attempt to assess the extent to which Ghana’s domestic debt restructuring options such as debt reduction, debt rescheduling and debt reprofiling will impact the financial sector as well as the overall economy.

For the purpose of this paper, Domestic Debt Restructuring (DDR) refers to changes to contractual payment terms of public domestic debt (including amortization, coupons, and any contingent or other payments) to the detriment of the creditors, either through legislative/executive acts or through agreement with creditors, or both.

In this paper, domestic sovereign debt (domestic debt for short) is defined as public debt liabilities that are governed by domestic law, and subject to the exclusive jurisdiction of the domestic courts of a sovereign (IMF (2013, 2015b, 2020) and Asonuma and Trebesch (2016).  

This research is motivated by a number of contributions. First, the value of the paper lies in that the results provide, for the first time, evidence of the relationship between domestic debt restructuring and debt reduction, debt rescheduling and debt reprofiling and its impact on the Ghanaian economy.

Second, this paper contributes to the limited literature on domestic debt restructuring in developing countries in general and in Ghana in particular.

The review of the literature suggests that not only there are a few papers researching the issue of domestic debt restructuring but also all of them approach the issue by describing the state of domestic debt restructuring not from debt reduction, debt rescheduling and debt reprofiling perspectives.

There had been much media attention over the past months on what domestic creditors will do in the case of Ghana’s domestic debt restructuring.   It seems there will be three approaches: the government as the debtor may prefer a debt reduction i.e Haircut (Debt reduction) whereas other creditors like universal banks would seem to prefer rescheduling and reprofiling with lower interest.

Ghana’s total public debt as of October 2022 was US$58. billion (¢452 billion or 84% of GDP) from US$32.3 billion (¢143 billion or 55.5% of GDP) in 2017, according to the Bank of Ghana and Ministry of Finance and Economic Planning data. Of this, external debt was US$28.1 billion (¢203.4 billion or 40.5% of GDP), while domestic debt issued in cedis was US$26.3 billion (¢190 billion or 37.8% of GDP). The current country’s debt to GDP ratio stood at about 84% which the World Bank has projected to reach 107% by the end of 2022.

Debt is an increasing problem across all poor income groups of Sub-Sahara African countries prior to COVID-19, and but the pandemic has only exacerbated the problem. In fact, African countries including Ghana has been borrowing heavily on both the domestic market as well as the global financial markets in recent years—a trend that has created new challenges in the area of debt servicing cost in the face of dwindling domestic revenue mobilization.

The two Bretton Woods institutions, the World Bank and IMF recently announced that projected Ghana’s Debt to GDP ratio to reach 107% and 90.7% respectively at the end of December 2022 compared to the Bank of Ghana’s Debt to GDP ratio of 78.3% in July 2022 but has increased further to ¢452 billion or Debt to  GDP ratio of 84% in October 2022.

Rising debt levels have corresponded with rising debt service costs, but a country such as Ghana has not necessarily improved its ability to revenue mobilization over the past such obligations. Indeed, failure to meet debt service obligations is said to have devastating impacts, including downgrading by international credit rating agencies (and, hence, future higher costs), heightened pressure on foreign exchange reserves and a domestic currency depreciation (60% depreciation against the major trading currencies), higher inflation and the real possibility of being rationed out of the market—and negative reputational consequences.

According to Owusu Sarkodie, A. (2022) by the time the HIPC initiative ended in 2006, Ghana’s total public debt was US$ 780 million (25% of GDP). The public debt stock has since risen by 7000% to US$54 billion which is about 78.3% of GDP in June 2022, but increased further to ¢452 billion in October 2022.  In Cedi terms, the country’s public debt has increased from ¢9 billion in 2008 to ¢122 billion in 2016 and has increased to nearly ¢452 billion in October 2022. The current debt-to-GDP ratio of 84% while the average for developing countries is 60%. The total Ghanaian debt has grown by over ¢300 billion over the past six years.

According to the Ministry of Finance and Economic Planning annual debt report (12/2021), the country’s domestic debt stock stood at ¢53.4 billion in 2016, however, increased to ¢66.7 billion in 2017, but increased to ¢86.8 billion in 2018, grew further to ¢104.4 billion in 2019, also increased further to ¢149.8 billion in 2020 but grew further to ¢181.8 billion in 2021. From the Ministry of Finance domestic debt has increased from ¢54.3 billion in 2016 to ¢181.1 billion in December 2021 thus showing a nominal increase of ¢128.4 billion over the past five years. After the HIPC initiative that ended in 2006, the Ghana public debt stock in terms of domestic and external had been driven by the continuous accumulation of budget deficits, persistent currency depreciation, unproductive borrowing for consumption and off-budget borrowing and off-budget borrowing.

Ghanaian governments have a history of large fiscal deficits in election years. The country’s continuous high fiscal deficit was driven partly by unproductive public spending that was not efficient in supporting equitable development (for instance, during the run-up to elections in 1992, 1996 and 2000, 2008, 2012. 2016. In 2020, the deficit was 15.2% of GDP compared to the 8% average from 2017 to 2019, but still higher than the average fiscal deficit in low =income African countries of about 5% of GDP.

Ghana’s extensive borrowing from the domestic and external markets and spending have not been matched by a commensurate increase in revenue. Ghana just rakes in 12.3% of taxes of GDP, below the African average of 16.6%. The economy’s overreliance on commodity exports mainly cocoa, gold and limited oil production made it vulnerable to external events that have caused the recent foreign currency crunches and economic downturn. Ghana has not been able to diversify its economy and the structure of the economy has remained the same in the post-independence period.

Over the past decade, Ghanaian public debt has also been rising again because of a range of factors, from the after-effects of the 2008-2009 global financial crisis, energy sector excess capacity payments ¢17 billion which related to the legacy of take or pay contracts that saddled the country’s economy with annual excess capacity charges of close to US$1 billion between 2013 to 2016; 2017-2019 financial sector bailout which is said to have cost ¢25 billion, persistent high budget deficits, Covid 19 pandemic and commodity pricing slowdown to low domestic savings rates and infrastructure investment promises made by democratically elected governments. Also, corruption and financial irregularities at the Ministries, Departments and Agencies contributed to the rising public debt in the country over the past decades.

The underlying causes of the rising debt are, therefore, the continued dependence on commodity exports, as well as borrowers and lending not being responsible enough, meaning that new debts do not generate sufficient revenue to enable them to be repaid (Atuahene, 2022). Other causes are the sharp deterioration in terms of trade, higher interest rate changes on non-concessional loans, huge currency depreciation and low commodities prices are often mentioned as some of the major causes of the rapid growth of public debt in Ghana over the past decade.

Although the primary responsibility for avoiding the build-up of unsustainable debt lies with sovereign borrowers such as Ghana and lenders, lenders should also lend in a way that does not undermine Ghana’s future debt sustainability. Both Ghana and lenders can be adversely affected by sovereign defaults and both are accountable for their own conduct in these transactions. Irresponsible borrowing or lending can lead to illegitimate debts which have contributed to the country’s unsustainable debt burdens (Ellmers, 2017. It is a fact that Ghana’s public debt has increased astronomically over the last four to five years and the increase in both domestic and external debt had been occasioned by unproductive borrowing, high budget deficits, and different kinds of exogenous shocks that the country faced which is not unique to Ghana.

This situation has led the country to use about 70% of its revenue to service debt.  Ghana’s debt-service costs in the first half amounted to ¢20.5 billion ($2 billion), equivalent to about 70% of tax revenue, according to Bloomberg (2022). Unfortunately. The cost of debt service has been rising because of the rising interest rate globally which has resulted in higher debt service costs. The last straw has been the Covid-19 pandemic has impacted negatively the debt situation in many developing countries including Ghana where both the domestic and external debt deteriorated considerably. The rising interest rate environment being fueled by the Russian and Ukrainian war has worsened the debt situation in developing countries such as Ghana with the attendant rising debt service costs.

To make matters worse, many developing countries including Ghana cannot reduce their debt burden on their own because they cannot generate sufficient revenue, especially from their tax systems. Ghana’s expenditure has been driven by interest expenditure as the country took a lot of expensive domestic debt and continued to borrow during the Covid-19 pandemic which meant that interest payment had been elevated now. Ghana and other countries are drifting towards a debt crisis.

Economic slowdowns and rising inflation have increased demands on spending, making it almost for the country to pay back the money it owes. Ghana’s major problem now is rising public debt which stands above 84% of GDP and is projected to reach 107% by the end of 2022, according to the World Bank. Ghana has been thrust into debt distress as 70% of its total revenue goes towards debt servicing. Restructuring of domestic debt leads to an effective default ending the ‘gilt’ status of government bonds.

From the above, the restructuring of the country’s public debt has become the necessary option if the country seeks a bailout from the Bretton Woods institutions. The only option would be to restructure both its external debt as well as huge and expensive domestic debt. Also, the persistent depreciation of the local currency against the US dollar has contributed to the unsustainable debt levels It can be concluded that Ghana’s debt levels are unsustainable, and the country will have to take steps to restructure its debt to qualify for IMF assistance. The Fund states that it won’t lend to countries that have unsustainable debts unless the member takes steps to restore debt sustainability, which can include debt restructuring.

From above Ghana must restructure its local currency debt as part of its plan to secure a US$ 3 billion loan from the International Monetary Fund. The country’s largest domestic debt holders include domestic banks, non-bank financial institutions (NBFIs), private individuals and foreign investors which must be engaged in a debt restructuring that could entail debt reduction, debt rescheduling and debt reprofiling. The restructuring of domestic debt would be part of Ghana’s debt sustainability plan required by the International Monetary Fund. The country’s debt restructuring should focus on domestic bonds, though external debt could be included depending on how much Ghana would have to reduce its debt servicing costs to achieve fiscal sustainability. The only two instances of domestic debt restructuring in Ghana, in 1979 and 1982, primarily featured demonetization rather than principal haircuts or interest rate reduction (Imani Center Policy, 2022)

When considering the restructuring of domestic debt, a government usually only has three broad strategies as follows:

Shaving off some of the principal amount (“face value reduction” or “haircut”)

Changing the tenor or maturity of the debt, which is to say deferring payments

Lowering the initial interest rate of the debt instruments.

With government securities constituting nearly 30% of assets and exceeding 45% of income (due to the high concentration of “investment” funds in government securities among Ghanaian banks), any process that cuts face value(“haircuts”) will hit the risk-weighting of banks’ capital.

Similarly, any process that touches coupons/interest rates will hit the bottom line (profit after tax) of banks massively. The analysis of the study showed an effect between financial threat and job loss, general health, information search and loss of investment. However, a negative relationship was identified between financial threat and total debt, stress, economic hardship and anxiety. Findings from this study imply that job loss, output loss, general health, information search and loss of investment are major factors that determined the financial threat in Ghana.

3.0 Ghana’s public debt dynamics

For the purpose of this paper, Ghana’s domestic debt restructuring (DDR) refers to changes to contractual payment terms of public domestic debt (including amortization, coupons, and any contingent or other payments) to the detriment of the creditors, either through legislative/executive acts or through agreement with creditors, or both.  The government has been engaging the country’s largest debt investors including local banks, insurance companies, pension funds and private individuals in the domestic debt restructuring project that could entail an extension of maturities, reduction in the coupon rates, and haircuts on principal and interest payments.

A country’s debt dynamics include both external and domestic debt, and debt accruing to state-owned enterprises and its maturity structure. All need to be considered when considering any debt restructuring. Ghana’s total public debt as of June 2022 was US$58. billion (¢452 billion or 84% of GDP) from US$32.3 billion (¢143 billion or 55.5% of GDP) in 2017, according to the Bank of Ghana and Ministry of Finance and Economic Planning data. Of this, external debt was US$28.1 billion (¢203.4 billion or 40.5% of GDP), while domestic debt issued in cedis was US$26.3 billion (¢190 billion or 37.8% of GDP). The current country’s debt to GDP ratio stood at about 84% which the World Bank has projected to reach 107% by the end of 2022. Ghana has been thrust into debt distress as about 70% of its total revenue goes into debt servicing obligations thus leaving little room for other statutory obligations or investment in infrastructure.

The country’s debt reorganization will initially focus on domestic bonds, though external liabilities could also be included depending on how much Ghana would have to reduce its debt-servicing costs to achieve fiscal sustainability. Regarding external debt, the portfolio includes debt owed to multilateral such as the IMF and World Bank, bilateral, commercial loans such as Eurobonds, and other export credits. The external debt also comprises of fixed (86.5%), variable (13.1%) rates and some interest-free (0.4%) debt.

As of 2021, about 72% of the external debt was also dollar-denominated. Based on the monthly bulletin published by the Central Securities Depository for September 2022, the total treasury bills and bonds issued by government stood at ¢160.1bn. Banks were the largest holders with 31.6% (¢50.6 billion), Firms & Institutions with 25.3% (¢40.5 billion), Others (including retail and individuals) with 13.9% (¢22.3 billion), Foreign Investors with 10.8% (¢17.3 billion), Bank of Ghana with 10% (¢16.01 billion), Pensions with 5.6% (¢8.9 billion), Rural Banks with 1.4% (¢2.2 billion), Insurance Companies with 0.9%(¢1.44billion) and SSNIT with 0.4% (GHC0.6billion). Treasury Bills represented 16.4%(¢26.25 billion) of total securities, medium tenor bonds (2yrs to 5yrs) are 49.5% and long tenor bonds (6yrs and above) are 34.2%. Foreign investors hold 10. 8% (¢17.3 billion).

The currency denomination of the domestic debt should not influence the inclusion or exclusion of certain securities from the restructuring. Including both local and foreign currency debt issued under domestic law in the restructuring will set ex-ante equal conditions for both types of instruments and allow to achieve of greater savings (e.g., Jamaica, 2010 and 2013).34 For a highly dollarized economy, where the share of local currency debt is very small, there may be a case for excluding local debt from the restructuring, for example when those instruments are important for the operation of the domestic payments system and development of the local currency bond market (e.g., Uruguay, 2003 and Argentina, 2019).

The domestic debt of ¢160.1 billion excludes the Government treasury bills valued at approximately ¢26.25 billion.  According to the IMF report (2021) including Treasury bills in the restructuring carries risks, but may be unavoidable in some cases, from these reasons Ghana’s government has excluded Treasury bills from the domestic debt restructuring.  Changing the terms of Treasury bills can have adverse effects on interbank liquidity, the central bank’s ability to conduct monetary policy operations, and the country’s capacity to manage its short-term payments. That said, when the share of T-bills in domestic debt is high, the sovereign may have no alternative but to include them in a debt restructuring (e.g., Barbados, 2018 and Russia, 2000) so as to reduce its short-term financing needs and rollover risk. Where T-bills do not create large refinancing pressures, it is generally advisable to exclude them from the domestic debt restructuring.

Domestic debt investors have already lost 52% of the USD value of their holdings this year and the government needs to weigh the fact that it needs access to the domestic bond market to finance the budget over the next three years in any decision on domestic debt restructuring. Debt restructuring can be done either via tenor extension, coupon reduction, reprofiling, principal haircut, or a combination of three or all options. With the USD value of domestic debt having been depreciated away, government’s focus should be on coupon reduction, combined with tenor extension if required, to reduce the interest cost of domestic debt. By the IMF computation public domestic debt may include the debt of some of the State -Owned Enterprises (SOEs) and the outstanding contractor arrears of ¢10 billion as of September 2022 have to be factored in the public sector debt possibly excluding interests on the outstanding payment (Cherry, 2022)’ Ghana’s current unsustainable has led to high debt distress where the country will be unable to fulfil its financial obligations and debt restructuring will be required.

Over the past six months, Ghana’s economy has experienced higher inflation which has been on a sustained upward trajectory. The rising inflation with the subsequent increases in the Bank of Ghana’s policy rate have resulted in a rising interest rate environment. The cedi has persistently suffered very high levels of depreciation.  According to Bloomberg, the cedi has lost about 60% 0f its value against the US$ this year, making it the second worst-performing currency in the world after the Sri Lankan Rupees.

The country has been burdened by unwieldy food and fuel costs which weigh unevenly and has been prone to protest and political chaos. This has resulted in the value of existing government bonds declining. This means that the value of Ghana government bonds has been declining. However, the downgrade by the rating agencies has caused the country to lose access which has caused the steep depreciation of the cedi against the major trading currencies since March 2022 and also suffered higher borrowing costs in the domestic market and in addition harmed growth and investment.

Restructuring only domestic law debt may also offer a way of ringfencing the external reputational consequences of debt restructuring and avoiding loss of access to external debt markets. But at the same time, Ghana’s domestic debt restructuring may impose losses on domestic stakeholders and may have large direct and indirect costs for the domestic financial system, with spillovers to the domestic economy.

Source: Dr. Richmond Atuahene