The idea of seeing sovereign bonds from developing countries[1] traded in global financial centers such as London and New York seemed unimaginable just short of 15 years ago, in the post-HIPC era of debt forgiveness: in 2005, countries eligible to concessional funding from the World Bank (hereafter “IDA countries”) had only $5 billion in foreign bonds, or 2% of their external debt stock, while other developing countries (Lower Middle-Income Countries, or LMICs, with access to the main lending window of the World Bank, hereafter ”IBRD countries”) owed a total of $50 billion – 16% of their debt stocks – in foreign bonds. Yet, this has almost become the norm. By 2015, those amounts had tripled for IDA countries (to $15 billion or 10% of public external debt stock) and multiplied by 5 for IBRD LMICs.
The sharp divide between emerging markets, which were increasingly integrated to global financial markets, and developing countries, which depended primarily on concessional lenders, was blurred. The emergence of those “frontier markets” corresponds to the search for higher yields by investors. From a demand point of view, being able to tap markets without cumbersome policy conditions was a boon to policymakers in those frontier economies[2].
The aftermath of the COVID-19 pandemic has been challenging for the world’s poorest borrowers. However, easy monetary policy in the US and euro-area largely kept the spigots of the bond markets open: IDA-eligible countries raised $14.5 billion in 2021, an unprecedented record. The shift came in 2022 when broad global inflation due to a variety of policy choices, and the Russian-invasion of Ukraine, led to global monetary tightening. By 2023, the spigots had become a dribble.
The “safe” interest rate, the 10-year US Treasury yield, rose from 1.5% in December 2021 to 4.6% at the end of September 2023. Risk spreads increased in every asset class, but “frontier market” economies were cut off primary issuance altogether. This short blog explores the consequences and the under-appreciated magnitude of this shift.
The number of sovereign issuers with market access collapsed
As illustrated in Figure 1, new issuance for bond markets follows very different patterns by type of countries. The classification we use might be unusual to market observers, but familiar to development policy specialists. IDA countries, eligible to World Bank concessional finance, are among the poorest countries. Yet, starting in 2010, they also drew on markets to finance their needs, with a peak in 2017, when nine IDA countries were able to issue an international sovereign bond. The COVID-19 crisis in 2020-2021 led to the creation of the Debt Service Suspension Initiative (DSSI) in April 2020, under the fear that the size of the shock would lead markets to stop lending altogether. A mixed success on the official lending side, the idea was that markets would stop funding low-income countries[3]. With extremely accommodative macroeconomic policies in advanced economies, this was not the case, to the contrary, as seven IDA countries emitted bonds in 2021. Yet this theory was not wrong, just too early for its time. In 2023, a grand total of zero IDA eligible countries issued bonds. For IBRD LMICs, a group of large emerging markets with smaller, more fragile economies, the situation is mixed, but is getting worse. Only five of these countries managed to issue a bond, but all before March 2023: the last issuance of an IBRD-eligible LMIC dates back to March 2023, when Morocco issued two USD denominated bonds, with 5- and 10-year maturity, each for US$ 1.25 billion.
Gross Issuances by group
This gap between low-income countries and the rest of IBRD eligible countries is made even more evident by the volume of gross issuances on international markets. While the trend is similar across country groups, with a particularly propitious period between 2016 and 2019, IDA countries saw the flows of capital reduce considerably during the COVID-19 pandemic, and then pick up again in 2021, before being completely cut-off.
For IBRD-eligible countries classified as UMICs (excluding China), the gross issuance amounts in 2022 and 2023 slightly declined from the issuance peaks of the period 2017-2021 – which totalled more than 400 US$ billion – but this was particularly due to a large use of bond markets against the crisis of 2020, as documented by the IMF[4].
Across regions, the most notable shifts occurred for the MENA region (Egypt, Lebanon, Morocco, Pakistan, and Tunisia), where gross issuances were significant, rising to $14 billion in 2017, as well as Sub-Saharan Africa. Several countries (Angola, Cameroon, Cote d`Ivoire, Ethiopia, Ghana, Kenya, Mozambique, Nigeria, Rwanda, Senegal, Tanzania, and Zambia) were able to borrow consistently on international capital markets, notably over the 2017-2021 period, when they received more than US$ 40 billion in bond market financing.
Benchmark yields have skyrocketed in 2022-23
Why such changes? There are no particular surprises here: with increasing rates and increasing spreads, markets are unwilling to lend and markets do not clear. To put this into perspective, the yield to maturity on debt instruments from IDA countries is now approximately 4 times higher than the U.S. 10-year yield. Among IDA countries, some have been hit harder than others, in particular countries in Sub-Saharan Africa and in the MENA region.[5] Interestingly, the yield curve for lower middle-income IBRD-eligible countries suggests that the condition at which they access international markets remain favourable: for instance, the latest 2023 issuance from Morocco still showed favourable spreads – with a 6.5% yield at issuance – reflecting a high level of confidence from international investors.
Financial fragility is not only evident in terms of yields, but also maturity: on average, maturity at issuance has dropped from 16 years in 2018 to only 7 years in 2022 for IDA countries, while for IBRD-eligible LMICs, it declined from 15 to 10 years between 2018 and 2023.
Conclusion: Is this the end of frontier markets as an asset class?
As the landscape of international finance continues to evolve, the onus is increasingly falling on low-income IDA countries, to navigate complex bond markets for crucial borrowing. While financing needs are high, these nations often find themselves at a precarious juncture. Their limited access to external bond markets not only impedes their near-term fiscal and external obligations but also creates significant challenges in repaying upcoming debt maturities. The choice to restructure involves complex decisions, and a view about the future path of interest rates – which was modelled in a “real option framework”, for instance. If rates remain high, the choice might tilt in favour of deeper restructuring. If not, it is the role of global financial safety nets to offer protection from liquidity cycles.
[1] See for instance “Where Credit is Due” by Gregory Smith, or recent comments by Kemi Adeosun in our conference on October 16th.
[2] In this blog, “developing countries” include all low (LICs) and lower-middle income economies (LMICs), and “emerging markets” all upper middle-income countries (LMICs). Throughout, we will distinguish between countries eligible to the concessional window of the World Bank (International Development Association, or IDA) and LMICs which borrow from its main lending window (IBRD). The full list of countries, and their classification, is detailed in the table in the appendix.
[3] Lang, Mihalyi and Presbitero (2022) show that the DSSI helped in making bond markets more robust for IDA eligible economies, available in pre-print version at: https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3708458
[4] Fiscal Monitor April 2023: On the Path to Policy Normalization.
[5] As of end September 2023, among IDA countries only Uzbekistan, Honduras, Côte d'Ivoire, Rwanda, Mozambique and Senegal had a benchmark yield below 10%.
Appendix: countries under analysis
