Credit ratings provide critical insights into credit across a range of issuers, securities, economies, and sectors and have thus played a significant role in the development of financial markets over time. While potential lenders and investors use credit ratings to mitigate any informational asymmetry vis-à-vis issuers of debt or similar instruments, they also facilitate such issuers’ access to capital markets and are ultimately determinative of how much an issuer can raise and at what price.
Credit ratings are increasingly important for African sovereigns as they seek to access international capital markets and raise the funds they need to implement their various investment or development programs. When these issuers look to borrow on international capital markets, lenders and investors often turn to the views of the big three credit rating agencies (CRAs) – Moody’s Investors Service, S&P Global Ratings, and Fitch Ratings.
The amount of outstanding foreign debt has grown in tandem with international credit rating activity on the continent. As of 2023, 32 African countries had a sovereign rating with one of the big three rating agencies, while the average number of ratings issued annually has surged from seven between 1994 and 2007 to 37 between 2008 and 20201 .
Credit ratings provide critical insights into credit across a range of issuers, securities, economies, and sectors and have thus played a significant role in the development of financial markets over time. While potential lenders and investors use credit ratings to mitigate any informational asymmetry vis-à-vis issuers of debt or similar instruments, they also facilitate such issuers’ access to capital markets and are ultimately determinative of how much an issuer can raise and at what price.
Credit ratings are increasingly important for African sovereigns as they seek to access international capital markets and raise the funds they need to implement their various investment or development programs. When these issuers look to borrow on international capital markets, lenders and investors often turn to the views of the big three credit rating agencies (CRAs) – Moody’s Investors Service, S&P Global Ratings, and Fitch Ratings.
The amount of outstanding foreign debt has grown in tandem with international credit rating activity on the continent. As of 2023, 32 African countries had a sovereign rating with one of the big three rating agencies, while the average number of ratings issued annually has surged from seven between 1994 and 2007 to 37 between 2008 and 20201 .
While no sub-Saharan African (SSA) country, except South Africa, had issued debt on private international markets before 2006, by 2021, 15 countries from the region had issued Eurobonds (i.e., bonds sold in a currency other than that of the issuer)2, according to the International Monetary Fund (IMF). SSA now counts many seasoned sovereign Eurobond issuers, including, among others, Côte d’Ivoire, Senegal, Ghana, Benin, Nigeria, Ethiopia, Kenya and Gabon. By September 2021, the total outstanding Eurobonds of SSA issuers reached $136.2bn, according to the United Nations’ Office of the Special Adviser on Africa3. As of the end of June 2023, there was an estimated $143bn (face value) of African sovereign Eurobonds outstanding, with a market value of about $107bn4.
But in spite of their growing presence on international capital markets, African sovereign issuers still face low credit ratings and struggle to raise funds at competitive rates.
While no sub-Saharan African (SSA) country, except South Africa, had issued debt on private international markets before 2006, by 2021, 15 countries from the region had issued Eurobonds (i.e., bonds sold in a currency other than that of the issuer)2, according to the International Monetary Fund (IMF). SSA now counts many seasoned sovereign Eurobond issuers, including, among others, Côte d’Ivoire, Senegal, Ghana, Benin, Nigeria, Ethiopia, Kenya and Gabon. By September 2021, the total outstanding Eurobonds of SSA issuers reached $136.2bn, according to the United Nations’ Office of the Special Adviser on Africa3. As of the end of June 2023, there was an estimated $143bn (face value) of African sovereign Eurobonds outstanding, with a market value of about $107bn4.
But in spite of their growing presence on international capital markets, African sovereign issuers still face low credit ratings and struggle to raise funds at competitive rates.
Low Ratings Questioned
The quality of African issuers’ credit ratings and their impact on the ability of such issuers to raise funds on capital markets and support their development initiatives, especially in times of global crisis like the COVID-19 pandemic, have led some observers and policymakers to wonder whether ratings issued by the big three CRAs were justified or supported by empirical data. Some African policymakers have publicly denounced the lack of full understanding of local dynamics by international CRAs, while others have flagged the omission of key material information from the assumptions driving such ratings or the “reckless behavior” of CRAs5, especially when (often surprisingly) served with rating downgrades.
Low Ratings Questioned
The quality of African issuers’ credit ratings and their impact on the ability of such issuers to raise funds on capital markets and support their development initiatives, especially in times of global crisis like the COVID-19 pandemic, have led some observers and policymakers to wonder whether ratings issued by the big three CRAs were justified or supported by empirical data. Some African policymakers have publicly denounced the lack of full understanding of local dynamics by international CRAs, while others have flagged the omission of key material information from the assumptions driving such ratings or the “reckless behavior” of CRAs5, especially when (often surprisingly) served with rating downgrades.
In its 2022 report, a detailed analysis by the United Nations’ Inter-Agency Task Force on Financing for Development found that 61 out of 154 rated sovereigns were downgraded by at least one of the big three CRAs during the COVID-19 pandemic. Developing countries accounted for nearly all the sovereign downgrades, negative outlooks and reviews for downgrades, with middle-income countries accounting for 60% of the downgrades. Developed countries, which saw much larger debt increases and economic slowdowns during the pandemic, largely escaped downgrades reinforcing their access to ample, cheap market financing6.
This rating discrepancy was even more striking when eligible African countries were reluctant to participate in the IMF and World Bank supported Debt Service Suspension Initiative (DSSI) during the pandemic that would otherwise have helped them in fighting COVID-19, due to fears of credit rating downgrade7. Some African countries (including Ethiopia, Cameroon, Senegal, and Côte d’Ivoire) saw their ratings placed under review for downgrades by the Moody’s in 2020 after requesting to participate in the DSSI8.
Currently, only two African countries – Botswana and Mauritius – have investment-grade ratings. Apart from South Africa, Botswana, Mauritius and Namibia, no other SSA country has had an investment-grade rating when issuing a Eurobond. The result is higher borrowing costs leading some African policymakers to express concerns over a mispricing of their sovereign debt due to an historic perception risk by investors9. Across all maturities, the average coupon rate for SSA issuances was 1.3 percentage points higher than the average for emerging market and developing economy (EMDE) countries from other regions between 2014 and 2021, according to the IMF.
Not all of this is down to credit ratings. An analysis of data from nearly 1,600 international primary sovereign fixed coupon bonds issued between 2003–2011 by 89 countries found that SSA countries pay significantly higher coupons at issuance compared to their peers from other regions, even after controlling for their risk rating at issuance, according to the IMF10.
In its 2022 report, a detailed analysis by the United Nations’ Inter-Agency Task Force on Financing for Development found that 61 out of 154 rated sovereigns were downgraded by at least one of the big three CRAs during the COVID-19 pandemic. Developing countries accounted for nearly all the sovereign downgrades, negative outlooks and reviews for downgrades, with middle-income countries accounting for 60% of the downgrades. Developed countries, which saw much larger debt increases and economic slowdowns during the pandemic, largely escaped downgrades reinforcing their access to ample, cheap market financing6.
This rating discrepancy was even more striking when eligible African countries were reluctant to participate in the IMF and World Bank supported Debt Service Suspension Initiative (DSSI) during the pandemic that would otherwise have helped them in fighting COVID-19, due to fears of credit rating downgrade7. Some African countries (including Ethiopia, Cameroon, Senegal, and Côte d’Ivoire) saw their ratings placed under review for downgrades by the Moody’s in 2020 after requesting to participate in the DSSI8.
Currently, only two African countries – Botswana and Mauritius – have investment-grade ratings. Apart from South Africa, Botswana, Mauritius and Namibia, no other SSA country has had an investment-grade rating when issuing a Eurobond. The result is higher borrowing costs leading some African policymakers to express concerns over a mispricing of their sovereign debt due to an historic perception risk by investors9. Across all maturities, the average coupon rate for SSA issuances was 1.3 percentage points higher than the average for emerging market and developing economy (EMDE) countries from other regions between 2014 and 2021, according to the IMF.
Not all of this is down to credit ratings. An analysis of data from nearly 1,600 international primary sovereign fixed coupon bonds issued between 2003–2011 by 89 countries found that SSA countries pay significantly higher coupons at issuance compared to their peers from other regions, even after controlling for their risk rating at issuance, according to the IMF10.
Assessing Methodologies
Still, the big three CRAs have come in for some criticism from beyond Africa, including the United Nations and its agencies, and European policymakers.
In 2011, the then European Central bank President, Jean-Claude Trichet denounced the “oligopolistic” role of CRAs, which he said was not desirable in a highly globalized financial system11, and called for tighter regulation of CRAs within the European Union. A report from the United Nations Conference on Trade and Development (UNCTAD) says that the assessments of rating agencies appear to be based on a bias against most kinds of government intervention. It also argues that the big three CRAs tend to be highly correlated, reflecting an oligopolistic sector, and focus on “business-friendly” indicators rather than considering other qualitative components of specific country indicators12.
Further research has tried to identify hard data trends to corroborate this view. A study by the United Nations Development Program (UNDP) compared African sovereign ratings from the big three CRAs with those of Trading Economics, which uses an algorithmic model with no human intervention13. While the model suggested that the big three CRAs at times over-rated African countries, on balance it under-rated them – for example, Moody’s rating for Zambia sits at 20 ‘points’ below the Trading Economics score.
The financial impact of such under-rating on African countries is considerable, with an additional $31bn in new financing potentially available to them if credit ratings were more accurate, while interest costs could be $14.2bn lower through maturity, or $2.2bn per year, the UNCTAD report suggests.
Improving the quality of African sovereign issuers’ credit ratings is a challenge, but solutions can be found by identifying the underlying issues and devising new methodologies and models, which provide an accurate representation of African sovereign issuers’ risk profile, while taking into account structural factors that are key to lenders and investors.
Assessing Methodologies
Still, the big three CRAs have come in for some criticism from beyond Africa, including the United Nations and its agencies, and European policymakers.
In 2011, the then European Central bank President, Jean-Claude Trichet denounced the “oligopolistic” role of CRAs, which he said was not desirable in a highly globalized financial system11, and called for tighter regulation of CRAs within the European Union. A report from the United Nations Conference on Trade and Development (UNCTAD) says that the assessments of rating agencies appear to be based on a bias against most kinds of government intervention. It also argues that the big three CRAs tend to be highly correlated, reflecting an oligopolistic sector, and focus on “business-friendly” indicators rather than considering other qualitative components of specific country indicators12.
Further research has tried to identify hard data trends to corroborate this view. A study by the United Nations Development Program (UNDP) compared African sovereign ratings from the big three CRAs with those of Trading Economics, which uses an algorithmic model with no human intervention13. While the model suggested that the big three CRAs at times over-rated African countries, on balance it under-rated them – for example, Moody’s rating for Zambia sits at 20 ‘points’ below the Trading Economics score.
The financial impact of such under-rating on African countries is considerable, with an additional $31bn in new financing potentially available to them if credit ratings were more accurate, while interest costs could be $14.2bn lower through maturity, or $2.2bn per year, the UNCTAD report suggests.
Improving the quality of African sovereign issuers’ credit ratings is a challenge, but solutions can be found by identifying the underlying issues and devising new methodologies and models, which provide an accurate representation of African sovereign issuers’ risk profile, while taking into account structural factors that are key to lenders and investors.
Local Knowledge
One of the common criticisms vis-à-vis the big three CRAs is a lack of on-the-ground knowledge and full understanding of local social and economic dynamics which prevail in African countries being rated by such CRAs, something that is exacerbated by, or reflected in, their historic lack of physical presence and investment in the continent. Both Moody’s and S&P maintain a single office each in Africa, in Johannesburg, while Fitch has no official presence on the continent.
This issue is partially being addressed through recent investments in African ratings agencies. For example, in 2022 Moody’s acquired a majority (51%) stake in Global Credit Rating Company Limited (GCR), the continent’s largest ratings agency with a broad geographic footprint that includes South Africa, Nigeria, Senegal, Kenya, and Mauritius14.
Local Knowledge
One of the common criticisms vis-à-vis the big three CRAs is a lack of on-the-ground knowledge and full understanding of local social and economic dynamics which prevail in African countries being rated by such CRAs, something that is exacerbated by, or reflected in, their historic lack of physical presence and investment in the continent. Both Moody’s and S&P maintain a single office each in Africa, in Johannesburg, while Fitch has no official presence on the continent.
This issue is partially being addressed through recent investments in African ratings agencies. For example, in 2022 Moody’s acquired a majority (51%) stake in Global Credit Rating Company Limited (GCR), the continent’s largest ratings agency with a broad geographic footprint that includes South Africa, Nigeria, Senegal, Kenya, and Mauritius14.
A Different Approach
Another suggestion has been to create a new ratings agency that is accountable not to investors but to multinational agencies, such as the United Nations. However, even if the many hurdles to the creation of such an organization were overcome, there remains the issue of whether investors, who ultimately decide at what rate they are willing to lend, would take its pronouncements into consideration more than those from the big three CRAs.
Similar challenges would apply to another alternative that has been floated: the creation of a pan-African ratings agency with the involvement of the African Union, national monitoring and regulatory agencies, as well as ministries of economics and finance.
A more promising approach involves pushing for more transparency from the big three CRAs. By referencing more objective criteria, it would both improve confidence in their actions and make it easier for African sovereigns to meet those criteria. There are likely to be, and arguably fairly, limits to how much the ratings agencies are willing to reveal so as to guard the ‘secret sauce’ elements of their methodologies from competitors, but progress could be made.
IMF research has found that traditional rating models could be improved by including four structural factors where SSA sovereigns continue to face acute challenges such as the level of development of the financial sector, the transparency of the budget process, the size of the informal sector, and the quality of the regulatory system. It concluded that the high risk premium estimated for SSA countries fades away when these structural factors are accounted for in the rating models. Analysis of available empirical data further found that the risk premium estimated in current rating models is mainly driven by empirical misspecifications and a lack of regard to some structural factors that are critical to investors15.
In the African Sovereign Credit Review 2023 Mid-Year Outlook, the United Nations Economic Commission for Africa (UNECA) and the African Peer Review Mechanism urged African regulators to develop regulatory mechanisms to supervise the work of international CRAs operating within their respective jurisdictions to ensure proper conduct of business and enforcement16. The report called upon the local regulators to ensure accountability for inaccurate rating opinions issued in Africa.
A Different Approach
Another suggestion has been to create a new ratings agency that is accountable not to investors but to multinational agencies, such as the United Nations. However, even if the many hurdles to the creation of such an organization were overcome, there remains the issue of whether investors, who ultimately decide at what rate they are willing to lend, would take its pronouncements into consideration more than those from the big three CRAs.
Similar challenges would apply to another alternative that has been floated: the creation of a pan-African ratings agency with the involvement of the African Union, national monitoring and regulatory agencies, as well as ministries of economics and finance.
A more promising approach involves pushing for more transparency from the big three CRAs. By referencing more objective criteria, it would both improve confidence in their actions and make it easier for African sovereigns to meet those criteria. There are likely to be, and arguably fairly, limits to how much the ratings agencies are willing to reveal so as to guard the ‘secret sauce’ elements of their methodologies from competitors, but progress could be made.
IMF research has found that traditional rating models could be improved by including four structural factors where SSA sovereigns continue to face acute challenges such as the level of development of the financial sector, the transparency of the budget process, the size of the informal sector, and the quality of the regulatory system. It concluded that the high risk premium estimated for SSA countries fades away when these structural factors are accounted for in the rating models. Analysis of available empirical data further found that the risk premium estimated in current rating models is mainly driven by empirical misspecifications and a lack of regard to some structural factors that are critical to investors15.
In the African Sovereign Credit Review 2023 Mid-Year Outlook, the United Nations Economic Commission for Africa (UNECA) and the African Peer Review Mechanism urged African regulators to develop regulatory mechanisms to supervise the work of international CRAs operating within their respective jurisdictions to ensure proper conduct of business and enforcement16. The report called upon the local regulators to ensure accountability for inaccurate rating opinions issued in Africa.
Self Help
While there is clearly a lot that CRAs could be doing to improve their performance in Africa, sovereigns also have a role to play in how they are seen by financial markets. In fact, a recent study by the IMF concluded that the perception risk premium that has led to higher borrowing costs for SSA countries relative to their similarly rated peers can be explained by structural challenges in the countries themselves17.
The IMF’s list of recommendations includes reforms to develop and deepen the liquidity of domestic financial markets, improve the transparency of budget processes, strengthen the quality of public institutions, create a business environment conducive to the development of the private sector, and reduce informality.
These measures would help unlock sustainable financing at the lowest possible cost and could pave the way for SSA countries to meet their financing needs to implement critical investment or development programs.
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