EIU Global Outlook: who’s at risk for sovereign defaults?

The pandemic will bring many emerging countries close to sovereign default.

The coronavirus pandemic has put many countries in a difficult fiscal situation, compounded by a decline in tax revenue and rising public expenses. Rich countries are well placed to sustain high levels of debt, given that interest rates remain low. However, some emerging countries will find themselves on the brink of sovereign default.

All eyes on Turkey in Europe

Fears that west European economies could face sovereign-debt crises have receded since the recent agreement on a €750bn (US$892.5bn) EU-wide recovery fund. Conversely, the outlook for east European countries appears gloomier. Economies in the Balkans and Central Asia depend on remittance inflows from migrant workers, which have all but stopped. These states also owe large debts to China, which they will struggle to repay. As a result, many will rely on IMF support to stay afloat in 2020-21.

Turkey’s outlook also appears worrying. Public debt remains low, but Turkish corporates are highly indebted in foreign currency. This exposes them to bouts of currency volatility, as seen in 2018. If the Central Bank of Turkey’s foreign-exchange reserves decline sharply, only an IMF facility could avert a balance-of-payments crisis. However, the Fund’s demands would not be palatable politically.

Sri Lanka, Pakistan and Mongolia are at risk

The Asia-Pacific region appears better placed than others to manage the fiscal impact of the pandemic, and The Economist Intelligence Unit does not expect sovereign defaults there. However, domestic challenges will affect the appetite of the region’s heavyweights for foreign investment. Smaller, highly indebted economies, including Sri Lanka, Pakistan and Mongolia, therefore face a difficult situation.

The outlook for all three countries will depend on the trajectory of China’s economy and the willingness of the Chinese leadership to restructure debt. Sri Lanka will have no choice but to restructure public debt, much of which is owed to China. Pakistan is in a similar position; the country is highly indebted to China and will avoid a default only through IMF support. Mongolia’s outlook is also tied to China’s; we believe that the Mongolian economy will rebound in the second half of 2020 as a result of higher exports to China. If this assumption proves wrong, Mongolia’s outlook will be dire.

Argentina and Ecuador are already in default

Fiscal and debt positions across Latin America have deteriorated since the onset of the pandemic. Some countries, such as Chile and Peru, entered the crisis with ample fiscal space. However, in much of the region the outlook is bleaker. Two of the region’s major economies, Argentina and Ecuador, have defaulted on their external debt this year. Although the governments of both countries reached agreements with their creditors to restructure debts, Argentina still needs to negotiate a lending programme with the IMF. 

Other countries in the region with elevated debt levels, including Brazil, Costa Rica, El Salvador and Uruguay, will also have to make considerable fiscal efforts to assuage sovereign risk. Tax increases will help, but we do not expect fiscal revenue in Latin America to return to pre-pandemic levels even by 2024. 

Egypt, Jordan, Tunisia and Morocco are in a tough spot

There is little risk that wealthy Gulf countries will face sovereign defaults. Heavyweight states, such as Saudi Arabia, Qatar or the UAE, have ample sovereign reserves to withstand the crisis. Bahrain and Oman are in a more precarious situation. However, should push come to shove, support from these countries’ wealthier neighbours would be forthcoming. 

The situation across poorer Middle Eastern countries appears more worrying. Lebanon is in default. The economies of Egypt, Jordan, Tunisia and Morocco typically depend on remittances, tourism and trade. The coronavirus pandemic has wiped out these three sources of growth. Support from multilateral donors (so far forthcoming) will prove crucial for these states to stay afloat.

Angola, Zambia and Congo-Brazzaville are struggling to repay Chinese debt

Africa’s largest economies, Nigeria and South Africa, have high levels of public debt; both states continue to repay commitments from the global financial crisis and have issued high amounts of sovereign debt in 2016-17. However, most of these sovereign bonds will only mature in the medium term, averting the risk of an imminent sovereign default. 

By contrast, Angola, Zambia and Congo-Brazzaville face a difficult situation. All three countries owe high (but opaque) levels of debt to China. China’s willingness to restructure or forgive these debt commitments will be crucial, but its options are limited. It will probably agree to debt restructurings in an attempt to recoup some of its money. Cancelling interest payments is another option. However, negotiations will be fraught, especially if private creditors are added to the mix.

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