Charles Collocott examines our debt situation, and explains why we should look at other country's experiences
China's loans to South Africa – Brief I
22 January 2019
In this brief I will give a short review of the overall debt risk currently facing South Africa, followed by a summary of the Chinese loans taken on so far and the reasons given by government for refusing to disclose the terms. I close the brief by laying the grounds for enquiries into the experiences other countries have had with Chinese debt – in order to see what South Africa can possibly learn from them.
THE GENERAL DEBT RISK PICTURE
When a government’s borrowing is not accompanied by sufficient economic growth and revenue generation to service its debt, this can result in a downward spiral that ends with debt restructuring and bailouts. According to a study by the World Bank on a sample of 79 countries, the threshold debt-to-GDP level is 77.1%. Beyond this, each additional percentage point in debt-to-GDP costs the economy 0.0174% in annual real growth. A more recent study, by the Centre for Global Development, shows a statistically significant threshold effect in countries with rising debt-to-GDP ratios above 50-60%, where growth drops off and leads to default or debt restructuring. South Africa falls into this category, with its debt-to-GDP ratio almost doubling from 27.8% in 2007 to 53.1% by 2017.
Adding to South Africa’s concerns are the current levels of debt held by the state owned enterprises (SOEs), and critically not just the government guaranteed debt; with cross-default clauses in place within the SOE loan agreements, if for example Eskom were to default on its payment to just one debtor, this would trigger an automatic recall on the loans to all its debtors. On that basis, all Eskom’s debt is effectively government guaranteed, because government cannot allow the parastatal to go into liquidation through a triggering of the cross-default clause. Therefore, a highly conservative assumption would be that the only SOE debt government is liable for, is the debt which it has guaranteed. The latest reported total guaranteed debt figure is R670 billion, with R350 billion held by Eskom alone. Adding the recent R411 billion in Chinese loans would take the total figure to around R1 081 billion – making up 87% of the government’s revenue, and 23% of GDP. If this total of R1 081 billion was called upon, this would push the debt to GDP ratio to 69.95% - assuming pre-existing debt and GDP remained constant.
The primary concerns around South Africa reaching unsustainable debt levels are that it will impede sound public investment, reduce economic growth, and do significant damage to citizens’ livelihood.So far in 2018, government has taken a series of three loans from China, totalling R411 billion. If included on government’s books, this would make up 12.5% of the R3.293 trillion total debt.So there can be little doubt that the sheer size of the recent Chinese loans alone has added a significant amount of additional risk to South Africa’s budget.
THE LITTLE WE KNOW ABOUT THE CHINESE LOANS AND GOVERNMENT’S ARGUMENTS FOR NON-DISCLOSURE
With regard to the latest and largest tranche of R370 billion, said to be earmarked for an economic stimulus package, government refuses to divulge any information about it – not the currency, what it will be spent on, interest rates, repayment period, etc. Adding to the abstruseness is that government officials have repeatedly called the R 370 billion ‘a gift.’ However, officials have also made mention of the ‘not exorbitant’ interest rate attached. A gift with interest payments that accrue to the giver is a strange gift indeed. Hence, we feel it safe to assume that it is indeed a loan. Also odd was the Finance Minister, Mr. Tito Mboweni’s responsewhen he was asked by parliament’s Standing Committee on Finance, ‘why the terms were being kept so secret?’ He responded with:
“I understand the concerns that the committee has regarding the loan ... However, China are our friends. It is very difficult to set rules when it comes to friends and money.”
We know that an earlier tranche of R37 billion was loaned to Eskom. It is in US dollars and will thus need to be paid back in US Dollars, which adds exchange rate risk. This loan is to help Eskom finish the Kusile power station, has a grace period of 5 years and repayment begins thereafter in 20 instalments over 10 years. In response to questions in parliament for further information, such as interest rates and if it has been securitised, President Ramaphosa said the conditions of the loan agreement could not be made public due to confidentiality clauses, and that further disclosure would place Eskom in a disadvantageous position when seeking further funding from the markets.
However, there cannot possibly be any way in which non-disclosure of investment terms will not increase real and perceived risk for possible future investors. This is because withholding material information for any investment by default increases the risk of that investment. There are therefore three other possible reasons for non-disclosure of the terms. First is that the Chinese debt may have been given seniority status in repayments, making current and future creditors to Eskom subordinate and more at risk, and government (wrongly) thinks not disclosing this is the better option. Second and similar to the first, is that the loans may have been secured using Eskom’s assets, also making future investments more risky and less attractive; and again government is misdirected in its reasoning for nondisclosure. The third possibility is that the terms are so massively skewed in China’s favour, that government simply does not want to disclose them in fear of a public backlash leading up to the general elections.
Finally, the R4 billion tranche was loaned to Transnet and will be used for operation expenses and capital expenditure. It is a five year Rand denominated loan that will be paid back quarterly at a floating and undisclosed interest rate.
THE BASIS GOING FORWARD
With South Africa at risk of reaching or having reached a threshold level of debt-to-GDP, it is important to have a clear picture of the implications of any additional debt burden. Unfortunately, given the secrecy surrounding the recent Chinese loans, this is currently not fully possible. Further adding to the fog is that in contrast with other major creditors, China does not formally participate in multilateral mechanisms, such as the Paris Club, in dealing with sovereign loans and defaults. Chinese debt relief is done in an ad-hoc, case-by-case basis, and as such there is no guiding framework to define China’s approach to debt relief and restructuring. We must therefore rely on anecdotal evidence. So to try and gauge a range of potential outcomes, my next two briefs will look at the experience six other countries have had with taking on Chinese debt, the fourth brief will look at how those experiences could or should be applied to South Africa, and the final brief will include ancillary matters as well as an overall conclusion.
Charles Collocott is a Researcher at the Helen Suzman Foundation.
Correction made 24 Jan 2019.
John Hurley, Scott Morris, and GailynPortelance. 2018. “Examining the Debt Implications of the Belt and Road Initiative from a Policy Perspective.” CGD Policy Paper. Washington, DC: Center for Global Development, at 2.