Webinar Report: Impact of the COVID-19 Crisis on the African Financial Sector
The COVID-19 pandemic is a major challenge for both developed and developing countries. Industrial and agricultural value chains are significantly impacted by social distancing and containment measures which hamper the proper functioning of the global economy. The main raw materials exported by African countries have seen their prices plummet due to the fall in world demand. This situation seriously threatens export earnings, public finances balance, external debt sustainability and Africa’s economic growth prospects. At the sectoral level, transport and tourism have come to a standstill with potentially disastrous consequences for jobs and growth. It is likely that the pandemic will set off a the first recession in Sub Saharan Africa for 25 years, with GDP expected to contract by between -2.1% and -5.1%, and export earnings are projected to fall by $ 100 billion. This recessionary environment necessarily induces higher risks of default by (household and corporate) borrowers and therefore negatively affects the African financial sector. Increased capital outflows, a drying up in liquidity and higher non-performing loans could further aggravate the domestic banking system and their capital ratios, while some countries’ banking systems might have to be recapitalised or even restructured.
Given the potential contagion effects of a recession, this webinar discussed the potential impacts of the COVID-19 crisis on the African financial sector, and policies / actions to support the sector through the pandemic. The webinar was hosted by the Making Finance Work for Africa (MFW4A) Secretariat, and featured speakers from Afreximbank, TCX Fund, Standard Bank and Baker McKenzie.
David Ashiagbor, Coordinator, MFW4A Secretariat
Hugues Kamewe-Tsafack, Financial Sector Advisor, MFW4A Secretariat
Wildu du Plessis, Head of Banking and Finance – Africa, Baker McKenzie
Intong Eric Monchu, Senior Manager – Trade Finance, Afreximbank
Kevin Holmes, Head – Trade, Product Management, Transactional Products and Services, Standard Bank
Ruurd Brouwer, CEO, TCX Fund
Discussants debated immediate policy responses to further strengthen the African financial sector, with a focus on trade finance, financial markets, and the banking sector.
2. Background Presentations
McKinsey projects that Africa’s GDP could suffer from a USD 90 billion loss due to economic and financial impact of the COVID-19 crisis. In terms of cross-border trade and financial flows, the following difficulties emerging or worsing:
· Current account pressure on many economies (mainly commodity-led and tourism-based economies in the region);
· Risk of trade payment defaults by financial institutions;
· De-risking and gradual cut in credit lines by international banks;
· Sharp decline in migrant remittance inflows; and
· Cuts in Foreign Direct Investments (FDI), long-term financing and portfolio flows.
With regard to capital markets, the plunge in the main stock market indices since the start of 2020, including the Nikkei (-22%), Dow Jones (-24%) and the FTSE 100 (-29%), reflects an increasing pessimism among international investors about global growth prospects. In commodities markets, with the exception of gold whose price has risen in recent months and which acts as a safe-haven asset in times of crisis, the main commodities exported by African countries have seen their prices fall sharply. Oil price has fallen by more than 50% since January 2020, while other raw materials such as commodities and precious metals are experiencing price drops between 10% and 30%. This sharp drop in commodity prices seriously threatens export revenues, balance of public finances, external debt sustainability and growth prospects in the major economies of the African continent.
COVID-19 also raises legal issues, particularly with respect to execution of commercial contracts. “Force Majeure” clauses and other concepts (such as material adverse effects) could potentially be used to postpone or avoid a co-contractor’s obligation to pay. In addition, many firms are expected to face financial and legal issues linked to supply chain disruptions and lack of business continuity insurance, particularly in the African region. Firms could therefore be exposed to increased cash flow and liquidity management risks, downgraded financial ratings and potential situations of financial distress. Social distancing measures taken by governments also complicate paper-based administrative processes and urge firms and public administrations to make more use of digital tools, such as e-signatures and virtual meetings; however, digital tools are not always available.
Furthermore, the COVID-19 health crisis has led to many changes in the behaviour of financial market players. Due to the poor state of the global economy affecting sectors such as transportation, industrial production lines and tourism, regional financial markets are experiencing massive capital outflows. Africa is experiencing its sharpest decline in remittances flows in recent years. Access to international foreign currencies – such as the Dollar, the Euro, the Yen and the Yuan – is therefore drying-up rapidly; thus leading to higher interest rates in international financial markets for African borrowers (governments and companies).
In response, central banks are developing support mechanisms for governments and financial institutions through monetary easing policies in order to lower the cost of capital. These regulatory initiatives are combined with fiscal stimulus from governments in order to help domestic private sectors to better face impact of economic shocks on their investment projections. For financial institutions, these initiatives by central banks and governments will help them to better fulfil their liquidity requirements in the short term and maintain to a certain extent their support to the real economy. Current pressures on foreign exchange markets and currency reserves must also be taken into account. A depreciation of local currencies in Africa could further worsen the economic damage, in terms of inflation, debt servicing and external and fiscal imbalances.
Banks in Africa have welcomed the initiatives from central banks to ease the economic/financial impact through quantitative easing policies. However, banks continue to face growing liquidity constraints across both foreign and local currency assets, which are negatively affecting lending capacities to multinational firms and SMEs. For instance, East and West Africa through their central banks have provided liquidity to support SMEs and firms through financial institutions.
Regarding Development Finance Institutions (DFIs), they are doing their part to support African financial institutions. Regional, bilateral and multilateral partners have enacted mechanisms and facilities to help commercial banks and other financial institutions support mainstream economy. For instance, Afreximbank unveiled a Pandemic Trade Impact Mitigation Facility (PATIMFA) -a $3-billion facility - to assist member countries in managing the adverse impact of financial, economic and health shocks caused by the COVID-19. In the longer term, the large pool of domestic savings in various African jurisdictions represents an opportunity to better plan and fund business transformation in the region as well as shape new economic models for the post-COVID-19 period.
3. Q&A Highlights
During the Q&A, panelists had the opportunity to recall the strategic role credit guarantees and insurance mechanisms could play to unlock financial institutions’ lending capacities. Furthermore, these risk sharing mechanisms could partially be based on local currency liquidity to mitigate the risks associated with foreign loans or borrowing. Secondly, as liquidity becomes particularly scarce, new guarantee facilities issued by multilateral and bilateral financial institutions should reduce the effects of risk aversion and allow larger amount of funding by local or multinational financial institutions in the developing world. Following facilities launched by Afreximbank and the African Development Bank (AfDB) in response to the impact of COVID-19 on the continent, with funding of USD 3 and 10 billion respectively, other multilateral and bilateral partners are preparing responses adapted to their loan portfolios and liquidity needs from clients in the African financial sector. Discussions are also underway to defer payments on their commitment portfolio.