Debt Overhang: Debt reduction and crowding out

Debt Overhang: Debt reduction and crowding out

By the end of the 3rd Quarter of 2021, Ghana’s fiscal vulnerability had been evident to the market resulting in a loss of market access largely consistent with the country’s struggle to manage its public debt since independence. 


In all of Ghana's programme engagements with the International Monetary Fund (IMF) debt unsustainability has been recurring reflecting a weak fiscal regime of expenditure rigidities and low domestic revenue mobilisation. 

IMF Programme

The latest IMF Supported Programme is unique given the number of prior actions the country had to undertake in order to qualify for help from the IMF including taking a comprehensive approach to restructuring the country’s public debt with the domestic debt restructuring being a condition precedent to getting IMF Board approval.

Unlike the case of Zambia, which excluded the domestic debt from its debt restructuring to protect the domestic financial system, Ghana applied the most aggressive debt restructuring which was first announced on December 5th, 2022. 

Arguably the first of its kind in the history of the country. Government instruments (excluding only treasury bills) held across households (including pensioners), financial institutions, body corporates, and resident and non-resident investors were considered to be in the universe of eligible bonds. 

The country’s economic fundamentals had deteriorated to the extent that the traditional fiscal consolidation measures embodying expenditure restraint and revenue enhancement measures were considered to be inadequate and therefore restructuring had become fundamental to restoring fiscal sustainability.

The Ghanaian economy has witnessed poor revenue growth, low export earnings from cocoa, gold and oil because of over-dependence on international capital markets and low tax capacity over past two decades. 

The country’s debt stock as a result has increased considerably over the past decades – a trend generally connected with expansion in the size of government expenditures.

Ghana’s economy entered a full-blown macroeconomic crisis in 2022 on the back of pre-existing imbalances and external shocks. Large financing needs and tightening financing conditions exacerbated debt sustainability concerns, shutting-off Ghana from the international market.

Large capital outflows combined with monetary policy tightening in advanced economies put significant pressure on the exchange rate, together with monetary financing of the budget deficit, resulting in high inflation. 

These developments interrupted the post COVID-19 recovery of the economy as GDP growth declined from 5.1 per cent in 2021 to 3.1 per cent in 2022.

The 2022 fiscal deficit was well above target at 11.8 per cent. Public debt rose from 79.6 per cent in 2021 to over 90 per cent of GDP in 2022, as debt service-to-revenue reached 117.6per cent (World Bank., 2022). 

Debt overhang

The country’s debt overhang sets in when the face value of debt reaches 60 per cent of GDP or 200 per cent of exports, or when the present value of debt reaches 40 per cent of GDP or 140 percent of exports. 

The monetisation of fiscal deficits and Bank of Ghana lending to government through ways and means advances has risen to GH¢50 billion in 2022, exceeding the threshold set by Bank of Ghana Act 2002 Act 612 as amended Act 2016 Act 918 Section (2) the total loans, advances, purchases of treasury bills shall not at any time exceeds  five per cent of the total revenue of the previous fiscal year.  

These ways and means advances are temporary overdraft facilities provided to Government of Ghana (GoG) to help with financial difficulties caused by a cash flow mismatch by bridging the gap between expenditure and revenue receipts. 

This level of borrowing from the Bank of Ghana to finance fiscal deficit was clearly unsustainable, fueled inflation and endangering growth. 

In Ghana, deficit financing has led to borrowings from the multinational finance institutions, such as the International Monetary Fund (IMF), the World Bank, African Development Bank (ADB) and Euro-markets amongst others. 

Unfortunately, the rising national debt in Ghana begun to outweigh the country’s revenue generation capacity and drawing down on foreign reserves, hence stifling the much-needed public capital investments and economic productivity. 

Also, it has been reported that these borrowed funds are often mismanaged and misapplied, hence, were not used for economically productive activities, leading to debt burden, capital flight and economic instability in the long-run.  

Ghana has accumulated huge debt with rising cost of debt service which has undermined economic stability as domestic investments are being crowded out by rising cost of debt servicing. 

Fiscal Deficit

According to Komlan and Essosinam (2022), nations like Ghana that adopt unsustainable fiscal policies have an ever-increasing debt-to-GDP ratio that violates their budgetary restraint.

High debt levels resulted in high debt servicing, which has led to low the amount of money available for investment in infrastructure and other economic sectors.

The Ghana’s debt profile continued to increase in the face of expanding fiscal deficit and low revenue generating capacity. This was concerning because the country’s debt profile became more and more dominated by commercial debt. 

Weak fiscal and economic performance over extended periods of time led to an unsustainable fiscal situation for Ghana in 2022 which led to the domestic debt restructuring. 

The debt exchange perception has increased risk of Ghana government securities as expected to significantly blunt confidence in the Ghanaian economy in general, thereby affected the creditworthiness of private institutions as well individuals. 

This has translated into a further cut in letters of credit lines to domestic banking institutions, which have had grave implications for external trade and the stability of the local currency (Cedi). 

The Ghana Domestic Debt Exchange (DDEP) was launched on 5th December 2022. It was designed to offer relief to fiscal accounts through a sizable reduction of the coupon rates as well as through the extension of maturities on most domestically issued bonds.  

While par-neutral, the exchange aimed to provide a solid foundation for reducing Ghana’s debt to sustainable levels in the medium term via offering an effective cap on interest payments on public debt and stronger growth prospects.

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