The country spotlight for the seventh issue of our Debt Newsletter for Public Debt Managers in Africa is Zambia.

Following the announcement by the Government of Zambia that it has completed the mandatory exchange of existing Eurobonds for which it has defaulted since 2020 for new debt instruments, Moody’s upgraded Zambia’s Issuer ratings as a reflection of the incremental improvement in the still very weak credit profile post-bond restructuring. The successful debt exchange gave the government some financial relief as liquidity pressures eased, debt affordability improved and the debt burden reduced slightly.

According to Moody’s, the Caa2 ratings indicate a still elevated risk of redefault over the next few years given that government debt remains high, debt affordability remains strained and access to funding remains constrained. The stable outlook balances risks at the Caa2 rating level, reflecting anticipated access to concessional financing from international financial institutions that eases liquidity pressures and supports debt sustainability, notwithstanding slowing growth and rising financing requirements in the near term. Moody’s further indicates that the government’s strong performance to-date under its International Monetary Fund (IMF) programme anchors Moody’s expectation of continuing gradual institutional improvement. Meanwhile, availability of IMF funding mitigates near-term liquidity risks related to the latest drought. The local and foreign-currency ceilings are raised by one notch to B2 and B3 from B3 and Caa1, respectively. The local-currency ceiling of three notches above the sovereign rating reflects the government’s small role in the economy and moderate domestic and geopolitical risk relative to peers.

Going forward, Moody’s would likely upgrade the ratings if additional financing sources were identified to reliably meet increasing government borrowing needs and ease liquidity risks. Higher sustained economic growth that allows the government to materially reduce its debt burden and increase external buffers would also support higher ratings. Conversely, Moody’s would likely downgrade the ratings if the probability of redefault and additional debt restructuring resulting in sizable investor losses were to increase. This could come as a result of continued drought conditions beyond current expectations that severely limited economic growth and exports and weighed on government liquidity, or if the government were to lose the support of international financial institutions and access to concessional financing.

Reinforcing some of Moody’s statement – an interesting research or opinion piece penned before Moody’s recent rating action (June 2024), suggests that while low-and lower- middle income countries have regained access to financial markets, liquidity pressures have mounted. According to the authors, while debt rollovers should be cheaper, immediate debt relief is the best way to stabilise developing economies and enable them to pursue climate-related investments. This could be an opportune time for Multilateral Development Banks (MDBs) to play a supportive role in facilitating green transition. However, to ensure that funds from MDBs are used to finance climate action, rather than to service existing debts, all creditors must share the burden and refrain from reducing their exposures too soon. The reduction in China’s lending must be managed more smoothly and sovereign bonds should be gradually replaced as an asset class by green bonds.

The successful debt restructuring of Zambia’s past defaulted Eurobonds should be hailed as a milestone as it eased the government’s liquidity pressures. But it will be interesting to observe whether MDBs will be heeding the call to increase their support for the financing of green projects and other climate-related financing so desperately needed by lower and lower-middle income countries.