Developed countries have cultivated stable repo markets for decades, and they serve as a crucial source of short-term funding for banks and broker dealers. The US repo market, for its part, provides in excess of $6 trillion of liquidity to the market, according to data from BNY Mellon, the Fed and Finadium.
In the US and the European Union, liquid bond markets mean private investors can post the bonds as collateral in exchange for cash . Today, African bonds mostly sit idle in investor portfolios with only a small amount used as collateral in financing transactions, and only a tiny portion considered as eligible collateral, BNY Mellon data show.
While a modest over-the-counter repo market does already exist for some African nations, a mature repo market that could serve as the foundation for its financial systems and help open up new markets has been missing, until now, according to the head of the Liquidity & Sustainability Facility, David Escoffier. “We’re trying to rebalance global markets by creating an infrastructure that will make investing by global investors easier,” he says. “This initiative is sustainable; it’s a long-term infrastructure platform that will really make a difference for African markets.”
Ultimately, the hopes for the LSF are both high and ambitious: deeper repo markets could help African countries to save up to an estimated $11 billion on their borrowing costs over five years, according to people who saw estimates from investment manager PIMCO. A spokeswoman for the asset manager declined to comment.
Africa’s debt-to-GDP ratio rose to almost 70% from 2014 to 2021, according to the World Bank. This has heaped pressure on Africa’s bonds, including the $117 billion of Eurobonds that make up the Standard Bank African Sovereign Eurobond index. The high cost of borrowing “makes us more vulnerable to exogenous shocks,” explains Ken Ofori-Atta, the finance minister of Ghana. “The result is a precipitation of macro instability, economic isolation and austerity without growth.”
On average, the 23 African nations that have access to the Eurobond market pay 170 to 290 basis points more to borrow on international markets than they should, relative to comparably rated sovereign issuers, according to estimates from Vera Songwe, a nonresident senior fellow in the Africa Growth Initiative at the Brookings Institution.
The idea for the LSF took hold in the spring of 2020 when Songwe was serving as Executive Secretary of the United Nations Economic Commission for Africa (UNECA). Believing that Africa could benefit from first-world financial market infrastructure, she penned an article in the Financial Times about what she described as the “stubbornly sticky perceptions” about Africa. The piece caught the eye of Escoffier, then a partner at the London-based consultancy Eighteen East Capital. He phoned Songwe and together they contacted a range of global central bankers, commercial banks and finance ministers to pitch in.
The LSF takes collateral in the form of African Eurobonds and then provides short-term financing against them, taking a “haircut” or discount ranging from 10% to 30% depending on the quality of the collateral in the basket. Currently, the facility can cater to more than 120 African sovereign Eurobonds, supporting liquidity in those securities and incentivizing potential investments in green African bonds, too. In time, once the market has sufficiently matured, the LSF team’s vision is to make it a form of contingency facility in times of financial stress, akin to the US and the guarantees the Fed offers with its repos.
Setting up the facility required collaboration with key industry partners. Songwe and Escoffier turned to BNY Mellon to facilitate the settlements and service the trades. The bank already services around $5 trillion in daily financing trades and runs the repo infrastructure for the Fed in the U.S.
“This is one tool that can support systemic market functioning and reduce fragmentation in the liquidity of these African bonds,” said Brian Ruane, Chief Executive Officer of BNY Mellon’s Clearance & Collateral Management business.