2024 World Bank/IMF Annual Meetings
FSD Africa Workshop on Managing the foreign exchange risks of LDC borrowers
Theme: Approaches to foreign exchange risk management for LDC borrowers
In recent years African lower middle-income countries (LMICs) have increasingly gained access to borrowing on the international capital market (euro-markets) in foreign currency. This has provided sovereign borrowers greater flexibility when financing fiscal expenditures and bu ers in terms of being able to postpone tightening of fiscal policies. However, along with greater market access, countries have come to experience accentuated debt burdens and increased sovereign exposure to foreign exchange risks. Managing such exposures has proven to be particularly challenging during cyclical downturns when fiscal revenues decline and access to euro-borrowing may be threatened due to concerns among investors regarding LMIC sovereign creditworthiness.
In addition, Multilateral Development Banks (MDBs) have customarily lent in foreign currency (U.S. dollars) and it is has been assumed that borrowers in both low income countries (LICs) and LMICs would absorb the associated FX risks. In most instances borrowing countries had no alternative as they lack hedging opportunities due to the limited depth and liquidity of their financial markets. A similar challenge faces e orts to increase MDB lending capacity by transferring MDB assets to domestic institutional investors in borrower countries, as recently explored in a feasibility study undertaken by FSD Africa . This study explores a process by which brownfield assets of MDBs are transferred to African institutional investors, freeing up MDB capital for more lending while leveraging assets administered by African institutional investors (estimated at US$ 2.4 trillion) and thereby contributing to local capital market development.
In as much as such transfers involve assets denominated in U.S. dollars, currency mismatch issues will arise, limiting the scope for asset transfers, because the liabilities of local institutional investors are denominated in domestic currencies rather than in dollars. While the climate crisis provides added impetus to funding investments in LDCs, foreign currency risks are endemic to development assistance and external funding provided by the private sector, most of which is financed in US dollars. This FSD Africa curated event on the side-lines of the Bank/IMF Annual Meetings will explore the feasibility of alternative approaches to managing and/or lessening the impact of the currency mismatch risks in expanding MDB lending capacity.
To ascertain the applicability/usefulness and scalability of the four outlined approaches – singly or in combination
To discuss whether other additional/alternative approaches are available and could benefit from being explored to resolve currency mismatch issues
To understand what measures would need to be taken to encourage adoption of chosen remedies, strengthen their impact, and achieve scale
This proposal involves establishing an FX hedging guarantee fund to provide partial coverage of foreign exchange risks – like the proposal made by the Bridgetown initiative.
Where local capital markets and FX markets are underdeveloped, over the counter currency hedging techniques can be used to create synthetic local currency loans – building on and deepening the experiences of TCX.
First-loss guarantees can be used to facilitate the issuance of bonds denominated in local currency by making them attractive to institutional investors – a significant FX component is embedded in the coverage provided. This approach has been championed by Guarantco.
Providing funding and technical assistance to establish a platform that absorbs maturity transformation risk. The aim is to reduce the risks associated with longer-term funding on local currency capital markets with a view to easing the process of local market development.
Panellists:
Format: Remarks by each panellist with discussion among panellists followed by facilitated Q & A engaging other Roundtable participants.
| Evans Osano | Jemima Gathumi | Amos Mugi | Cynthia Burudi |
|---|---|---|---|
|
Director, Capital Markets, FSD Africa Evans@fsdafrica.org |
Head of Programmes, Capital Markets, FSD Africa Jemima@fsdafrica.org +254 717 578 506 |
Technical Specialist, Capital Markets, FSD Africa Amos@fsdafrica.org |
Assistant Programme, Capital Markets, FSD Africa cynthia@fsdafrica.org +254 712 137 141 (also on WhatsApp) |