Guinea-Bissau: Joint IMF/World Bank Debt Sustainability Analysis Low-Income Country Framework
Author: International Monetary Fund
Publication Date:
14 Dec 2011
eISBN:
9781463928513
Language:
English
Keywords:
ISCR; CR; West AFRITAC; revenue; debt; deficit; containing debt vulnerability; creating flow; service-to-revenue ratio; sustainability indicator; debt outlook; Public and publicly-guaranteed external debt; Debt service; Exports
Download PDF (465.2 KB)

Following the Heavily Indebted Poor Countries (HIPC) completion point (including topping-up assistance) and the Multilateral Debt Relief Initiative (MDRI) reached in December 2010, the Paris Club agreed to provide extensive debt relief in May 2011. As a result, Guinea-Bissau’s debt outlook has improved considerably. An update of the debt sustainability analysis for low-income countries (LIC DSA) confirms a moderate risk of external debt distress in Guinea-Bissau. Since the 2010 DSA1 the minimum concessionality requirement for foreign currency borrowing has been lowered from 50 to 35 percent, reflecting a moderate risk of debt distress. The macroeconomic assumptions underlying the baseline scenario envisage a gradual improvement of the external current account over the medium and long term, backed by sustained growth in the predominant export (cashew) sector. The projected debt indicators under the baseline scenario would remain well below the policy-dependent thresholds, even with a declining grant element. However under the scenario assuming a shock to exports and currency depreciation, all debt indicators deteriorate significantly and the present value (PV) of debt to export ratio breaches the corresponding threshold. The inclusion of domestic public debt confirms the conclusions of the external debt sustainability analysis. To contain debt vulnerability, the authorities should strengthen debt management capacity.

Abstract

Following the Heavily Indebted Poor Countries (HIPC) completion point (including topping-up assistance) and the Multilateral Debt Relief Initiative (MDRI) reached in December 2010, the Paris Club agreed to provide extensive debt relief in May 2011. As a result, Guinea-Bissau’s debt outlook has improved considerably. An update of the debt sustainability analysis for low-income countries (LIC DSA) confirms a moderate risk of external debt distress in Guinea-Bissau. Since the 2010 DSA1 the minimum concessionality requirement for foreign currency borrowing has been lowered from 50 to 35 percent, reflecting a moderate risk of debt distress. The macroeconomic assumptions underlying the baseline scenario envisage a gradual improvement of the external current account over the medium and long term, backed by sustained growth in the predominant export (cashew) sector. The projected debt indicators under the baseline scenario would remain well below the policy-dependent thresholds, even with a declining grant element. However under the scenario assuming a shock to exports and currency depreciation, all debt indicators deteriorate significantly and the present value (PV) of debt to export ratio breaches the corresponding threshold. The inclusion of domestic public debt confirms the conclusions of the external debt sustainability analysis. To contain debt vulnerability, the authorities should strengthen debt management capacity.

I. Key Assumptions Under the Baseline Scenario

1. Guinea-Bissau reached the completion point under the Enhanced HIPC Initiative in December 2010. All outstanding debt to the IMF at the time of the completion point was cancelled as part of HIPC assistance. Most, but not all, of the debt owed to the World Bank and the African Development Bank was canceled under the HIPC (including topping-up assistance) and MDRI. This led to debt relief amounting US$ 1.2 billion in nominal terms. The Paris Club agreed to forgive nearly all of its claims in May 2011. The authorities are finalizing bilateral agreements with the Paris Club and seeking comparable treatment from remaining creditors.2

Guinea-Bissau: Key Baseline Macroeconomic Assumptions

Real GDP growth is expected to accelerate significantly from 3.5 percent in 2010 to about 5.3 percent in 2011, then to stabilize at 4.5 percent in the medium and long term. The stronger economic activity in 2011 has been driven by good cashew harvest and high cashew prices. Over the long term to 2030, growth is also expected to be supported by cashew production, along with a continued stabilization of the political environment and appropriate macroeconomic policies.

Inflation, as measured by the GDP deflator growing at a rate slightly below CPI inflation, is assumed to accelerate in 2011 and to decelerate in 2012 owing to changes in commodities prices. Over the long term, the GDP deflator (and CPI) is projected to return to its historical level of 2 percent.

The current account deficit (excluding official transfers) is expected to slightly improve from 10.2 percent in 2010 to around 9.9 percent of GDP in 2011. This evolution reflects an exceptional increase in cashew exports in 2011 driven by high production and cashew export prices, largely offset by higher imports, especially fuel and food. In 2012, cashew export prices are assumed to revert to their medium-term average. After a slight deterioration to 10.1 percent of GDP in 2012 the current account deficit is projected to gradually decline to 7.6 percent in 2030. Over the longer term to 2030, real export volumes are projected to grow at around 6¼ percent a year. Remittances are expected to stabilize at a long-term rate of 6.5 percent.

The primary fiscal deficit (defined as revenue and grants less primary non-interest expenditure) is projected to reach 2.6 percent in 2011. Over the medium term, the primary deficit would gradually improve to about 1 percent of GDP in 2015, thanks to increasing revenue collection and sustaining improved public expenditure management. Over the long term, the primary deficit would be widened in average to about 1.8 percent to promote long-term development and growth. Domestic debt is projected to gradually decrease in nominal terms in line with the authorities’ domestic arrears clearance strategy and with the rescheduling of the debt owed to the BCEAO.

Net aid flows (grants and concessional loans) are expected to stabilize at a moderate level in the long term. Budget support grants are projected to stabilize at about 1.5 percent of GDP over the period of 2011-2020, and to gradually decline to 0.5 percent by 2030. Concessional loans are assumed to be on 0.8 percent interest rate with 40 (IDA) to 50 (AfDB) years maturity and ten-year grace period. Following the Guidelines for Debt Limits in Fund-Supported Programs, the post-HIPC improvement of debt outlook lowering risk of debt distress from high to moderate justifies a change in concessionality requirements from 50 to 35 percent. Per se, starting in 2012, some new borrowing is expected to be on less concessional terms, resulting in a progressive decrease in the average grant element of new disbursements from 52 to 35 percent. In all, non-concessional borrowing is assumed to remain moderate on the grounds that the country will not have continued access to commercial debt. Fiscal financing gaps will therefore have to be filled through grants or highly concessional loans.

2. The DSA assumptions under the baseline scenario are broadly in line with those used in the 2010 DSA (Box 1). Economic growth is expected to reach 4.5 percent over the medium and long term. This reflects a continued stabilization of the political environment, the government’s efforts to raise potential growth of the economy through investments in agriculture and infrastructure, and a continued growth in cashew production. Despite the recent increase, inflation is expected to remain stable at the historical level of 2 percent. New external borrowing is assumed to be on less concessional terms, i.e., a gradual reduction in the average grant element of new disbursements from 52 to around 35 percent during the projection period. This will create more room for external financing to address pressing development needs. The authorities, however, will continue to seek highly concessional terms when borrowing.

3. Downside risks to the baseline projection arise from an unfavorable global environment. Lower-than-expected cashew prices and growth in developed economies pose risks for economic growth. In addition, the authorities could face increasing domestic pressures for shifts in economic policies that could undermine fiscal prudence and economic reforms.

II. External Debt Sustainability

Baseline scenario

4. Following the HIPC completion point, Guinea-Bissau’s public and publicly guaranteed (PPG) external debt amounts to US$ 173.7 million (17.5 percent of GDP) at the end of 2011.3 Under the assumptions of the baseline scenario and with a three-year average Country Policy and Institutional Assessment (CPIA) rating of 2.67, all debt indicators are expected to remain below their relevant policy-dependent thresholds. The PV of PPG external debt will decline from 13.4 percent of GDP in 2011 to 9.7 percent in 2021, and will remain at around 7.7 percent of GDP up to 2030 (Table 1).

Table 1:

Guinea-Bissau: External Debt Sustainability Framework, Baseline Scenario, 2008–2030 1/

(In percent of GDP, unless otherwise indicated)

article image
Sources: Country authorities; and staff estimates and projections.

Includes both public and private sector external debt.

Derived as [r - g - ρ(1+g)]/(1+g+ρ+gρ) times previous period debt ratio, with r = nominal interest rate; g = real GDP growth rate, and ρ = growth rate of GDP deflator in U.S. dollar terms.

Reflects exceptional financing (i.e., changes in arrears and debt relief); changes in gross foreign assets; capital grants; and valuation adjustments. For projections also includes contribution from price and exchange rate changes.

Assumes that PV of private sector debt is equivalent to its face value.

Current-year interest payments divided by previous period debt stock.

Historical averages and standard deviations are generally derived over the past 10 years, subject to data availability.

Defined as grants, concessional loans, and debt relief.

Grant-equivalent financing includes grants provided directly to the government and through new borrowing (difference between the face value and the PV of new debt).

5. The ratios of PV of debt and debt service to exports and revenue are also projected to remain well below their threshold values throughout the 20-year projection period (Figure 1, Table 2, and Text Table 1). This suggests that external debt remains sustainable even with a declining grant element.

Figure 1.
Figure 1.

Guinea-Bissau: Indicators of Public and Publicly Guaranteed External Debt under Alternatives Scenarios 1/ 2011-2030

Citation: IMF Staff Country Reports 2011, 355; 10.5089/9781463928513.002.A002

Sources: Country authorities; and staff estimates and projections.1/ The most extreme stress test is the test that yields the highest ratio in 2021. In figure b. it corresponds to a Exports shock; in c. to a Exports shock; in d. to a Exports shock; in e. to a Exports shock and in figure f. to a One-time depreciation shock
Table 2:

Guinea-Bissau: Sensitivity Analysis for Key Indicators of Public and Publicly Guaranteed External Debt, 2011-2030

(In percent)

article image
article image
Sources: Country authorities; and staff estimates and projections.

Variables include real GDP growth, growth of GDP deflator (in U.S. dollar terms), non-interest current account in percent of GDP, and non-debt creating flows.

Assumes that the interest rate on new borrowing is by 2 percentage points higher than in the baseline., while grace and maturity periods are the same as in the baseline.

Exports values are assumed to remain permanently at the lower level, but the current account as a share of GDP is assumed to return to its baseline level after the shock (implicitly assuming an offsetting adjustment in import levels).

Includes official and private transfers and FDI.

Depreciation is defined as percentage decline in dollar/local currency rate, such that it never exceeds 100 percent.

Applies to all stress scenarios except for A2 (less favorable financing) in which the terms on all new financing are as specified in footnote 2.

Text Table 1.

Summary of Baseline External Debt Sustainability Indicators1/

article image
Source: IMF staff estimates.

Debt indicators refer to Guinea-Bissau’s public and publicly guaranteed external debt.

With an average CPIA rating of 2.67 over 2008–10, Guinea-Bissau is classified as having a weak policy and institutional framework.

Alternative scenarios and stress tests

Although stress tests to the baseline scenario confirm that Guinea-Bissau’s external debt position presents low vulnerability to shocks, the most extreme shock scenario4 shows that some vulnerability persists. Four of five debt indicators remain well below their respective thresholds under stress tests. The PV of debt-to-exports ratio increases (Text Table 2) from 50.4 percent in 2011 to 126.3 percent in 2021 and gradually decreases to 91.6 percent in 2030, thus breaching the corresponding threshold for most of the projection period. The remaining ratios are also sensitive to the above-mentioned shock, but remain well below their threshold values.5 In all, this alternative scenario indicates that Guinea-Bissau would be still vulnerable to a shock from a sharp fall in exports or currency depreciation.

Text Table 2.

Summary of External Debt Sustainability Indicators Under the Most Extreme Shock Scenario1/

article image
Source: IMF staff estimates.

Debt indicators refer to Guinea-Bissau’s public and publicly guaranteed external debt.

Two standard deviations shock in 2012-2013 to historical average export growth.

One-time 30 percent nominal depreciation relative to the baseline in 2012.

Threshold over which countries with weak policy and institutional frameworks would have at least a 25 percent chance of having a prolonged debt distress episode in the coming year. With an average CPIA rating of 2.67 over 2008–10, Guinea-Bissau is classified as having a weak policy and institutional framework.

III. Public Debt Sustainability

Baseline scenario

6. Following debt relief at completion point and the Paris Club agreement in May 2011, total public debt as a percent of GDP declined from 157.9 percent in 2009, to 49 percent in 2010, and is projected to fall further to 43.7 percent in 2011 (Table 3). Domestic debt is projected to gradually decrease in nominal terms in line with the authorities’ domestic arrears clearance strategy and with the rescheduling of the debt owed to the BCEAO. Under the assumptions of the baseline scenario total public debt (domestic and external) would decline steadily thereafter to reach 16.7 percent of GDP in 2030. The PV of total public debt to GDP follows a similar pattern, falling from 39.5 percent in 2011 to 20.2 percent in 2021 and 12.5 percent at the end of the projection period.

Table 3:

Guinea-Bissau: Public Debt Sustainability Framework, Baseline Scenario, 2011-2030

(In percent of GDP, unless otherwise indicated)

article image
Sources: Country authorities; and staff estimates and projections.

[Indicate coverage of public sector, e.g., general government or nonfinancial public sector. Also whether net or gross debt is used.]

Gross financing need is defined as the primary deficit plus debt service plus the stock of short-term debt at the end of the last period.

Revenues excluding grants.

Debt service is defined as the sum of interest and amortization of medium and long-term debt.

Historical averages and standard deviations are generally derived over the past 10 years, subject to data availability.

Alternative scenarios and stress tests

7. Alternative scenarios and stress tests show that public debt indicators continue to decline, however, this decline would be more gradual (Figure 2 and Table 4). Under the historical scenario assuming that real GDP growth and the primary deficit are held constant at their historical averages, i.e. at 2.3 and 3 percent respectively, the PV of public sector debt to GDP would decline from 39.4 percent in 2011 to 29.2 percent in 2030. The PV of public sector debt to revenue would follow a similar trend, falling from 209.5 percent in 2011 percent to 124.4 percent at the end of the projection period. The PV of debt service-to-revenue ratio would hover around 10 percent until 2030.

Figure 2.
Figure 2.

Guinea-Bissau: Indicators of Public Debt under Alternatives Scenarios 1/ 2011-2030

Citation: IMF Staff Country Reports 2011, 355; 10.5089/9781463928513.002.A002

Sources: Country authorities; and staff estimates and projections.1/ The most extreme stress test is the test that yields the highest ratio in 2021.2/ Revenues are defined inclusive of grants.
Table 4:

Guinea-Bissau: Sensitivity Analysis for Key Indicators of Public Debt, 2011-2030

article image
Sources: Country authorities; and staff estimates and projections.

Assumes that real GDP growth is at baseline minus one standard deviation divided by the square root of the length of the projection period.

Revenues are defined inclusive of grants.

8. Under the scenario assuming the most extreme shock6, public debt indicators would worsen considerably. The PV of debt-to-GDP ratio increases to 43.2 percent in 2013 and starts to decline steadily to 23.1 percent in 2030. Similarly, the PV of debt-to-revenue ratio declines from 200.9 percent in 2013 to 112 percent at the end of the projection period. The PV of debt service-to-revenue follows more irregular pattern reaching 8.6 percent at the end of the projection period.

IV. Conclusion

9. Following the debt relief at the HIPC completion point, Guinea-Bissau’s debt outlook has considerably improved, and the LIC DSA suggests that the country faces a moderate risk of debt distress. Although under the baseline scenario all debt indicators remain well below the relevant thresholds, alternative scenarios and stress tests indicate vulnerability to export shocks. The inclusion of domestic public debt confirms the conclusions of the external DSA. The authorities share the staffs’ assessment on the DSA.

10. Guinea-Bissau needs to undertake further actions to reduce its external vulnerabilities. The country should continue to rely on grants and concessional borrowing to meet its financing needs for the foreseeable future, despite the improved post-HIPC debt outlook. The authorities’ commitments under the current Extended Credit Facility to boost their debt management capacity are crucial to containing debt vulnerabilities. It includes strengthening debt management capacity, making progress on structural reforms, diversifying the export base, and mobilizing domestic revenue to reduce reliance on external financing.

1

IMF Country report No. 10/380 and World Bank Report No. 57893-GW.

2

Algeria, China and Cuba provided full debt cancellation.

3

Following debt relief at completion point, PPG external debt decreased from 121.9 percent of GDP in 2009 to 19.1 percent of GDP in 2010.

4

The most extreme shock is calibrated as export value growth at historical average minus two standard deviations in 2012–2013 or as a one-time 30 percent nominal currency depreciation relative to the baseline in 2012.

5

The results under the historical scenario (where key variables are held constant at their 10-year historical level) show much more rapid decrease in debt indicators than in other scenarios. However, these results are subject to considerable uncertainty, because the underlying data come from the post-conflict period and are not reliable.

6

Shock is calibrated as real GDP growth and the primary balance at their historical averages minus one half standard deviations.

Same Series

Other IMF Content

Other Publishers

Cover IMF Staff Country Reports
Guinea-Bissau: Third Review Under the Three-Year Arrangement Under the Extended Credit Facility and Financing Assurances Review: Staff Report; Joint IMF/World Bank Debt Sustainability Analysis; Informational Annex; Press Release on the Executive Board Discussion; and Statement by the Executive Director for Guinea-Bissau
Author: International Monetary Fund
Volume/Issue:
Volume 2011: Issue 355
Publisher:
International Monetary Fund
ISBN:
9781463928513
ISSN:
1934-7685
Pages:
81
DOI:
https://doi.org/10.5089/9781463928513.002