Investors are bracing themselves for an emerging market credit crisis as the economic fallout from the coronavirus pandemic hits vulnerable countries and limits their ability to repay debts.
Commodity prices have plunged and demand has frozen as the outbreak has spread across the globe, with currencies tumbling against the dollar. This has hit all emerging markets, particularly those burdened with high debts and fiscal deficits.
Zambia, one of Africa’s biggest copper producers, has joined Ecuador in telling investors it was struggling to repay debts. Zambia was already straining to service a growing debt burden, much of it in the form of eurobonds and loans from China.
But the economic blow of the pandemic and a related plunge in metal prices have forced the copper exporter to ask to cut or delay repayments, sending its bonds sinking this week.
Its request comes days after Ecuador also asked to restructure its debts, after the collapse in the oil price shredded its finances.
The woes of the two countries reflect broad distress in emerging markets.
“Even before the crisis there were about a dozen countries in Africa that were in debt distress,” said Richard Kozul-Wright, director of development strategies at Unctad, the UN’s trade and development agency. “A lot of them were in high distress, but even those in moderate stress must be getting very, very worried about their ability to pay.”
Analysts say the developing world as a whole is more resilient than at the onset of previous downturns, such as the Asian financial crisis of 1997-98 and the Latin American debt crisis of the 1980s. Governments have built up buffers in the form of foreign exchange reserves, brought inflation under control and increased borrowing from local rather than foreign investors.
But many countries remain fragile, particularly those with shakier finances, which have feasted on cheap debt over the past decade. The overall debt burden of so-called “frontier” markets — the smaller, lesser-developed countries — reached a record $3.2tn last year, equal to 114 per cent of their annual economic output, according to the Institute of International Finance.
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Much of the debt has been raised through bond sales. As a result of rising investor nervousness, emerging market bonds lost more than 15 per cent in the first quarter of 2020, roughly twice the decline they suffered at the peak of the 2008 crisis. Last month $31bn was sucked out of emerging-market debt funds, the biggest outflow on record since October 2008, according to the IIF. The dollar has also strengthened, making it more difficult for developing countries to repay foreign-currency bonds.
“Everything that was weak before the crisis is now getting destroyed,” said one emerging markets hedge fund manager. “The dominoes are starting to fall now.”
Latin America has been hit hard because it depends heavily on oil and commodities exports, which have both slumped. Goldman Sachs predicted last Friday that the region was “about to hit the wall” and suffer its worst recession in the postwar period, contracting 3.8 per cent this year.
Argentina has already had to postpone negotiations with creditors over restructuring $83bn of debts because of the virus emergency. Yet even countries that are in good shape could default, given the scale of the challenges, according to William Jackson of Capital Economics.
“The coronavirus pandemic may trigger crises that aren’t in the ‘classic’ emerging market mould,” he said. “The vast demands on the public sector to increase healthcare and other welfare spending could tempt some governments to default on their debt obligations to foreign investors.”