Can public debt restructure ease the burden on Uganda?

After a decade-long massive investment in infrastructure projects to address deficits in the road and energy sectors, Uganda’s public debt stock has increased substantially from 17.5 percent in FY 2010/2011 to 48.4 percent of gross domestic product (GDP) in FY 2021/2022.

Some of the key projects that have been funded by borrowed resources include the Entebbe-Kampala Expressway, Karuma Hydropower Dam, and the expansion of Entebbe International Airport.

The Covid-19 pandemic appears to have largely contributed to the recent rise because public debt stock as a percentage of GDP stood at 34.6 percent in FY 2018/2019, before the onset of the pandemic, but increased to 47.0 percent in 2020/2021. The pandemic exposed the weakness of Uganda’s economy to absorb shocks. This suggests that in case of another pandemic or an extreme economic shock, the country may fall into a debt crisis.

According to the recent debt sustainability analysis report by the Ministry of Finance, Planning and Economic Development, Uganda’s risk of debt distress has elevated from low in 2010 to moderate risk in 2022. The International Monetary Fund (IMF) defines debt distress as a scenario where a country is unable to fulfil its financial obligations, leading to debt restructuring.

The increasing risk of debt distress has triggered off the debate on debt restructuring in Uganda. In simple terms, debt restructuring involves adjusting debt terms, for instance the maturity schedule, interest rate or face value of the loans. It may also entail the exchange of outstanding debt instruments for new debt instruments or cash.

As experienced in other countries, the debt restructuring process is usually initiated by the country faced with debt challenges. As such, Uganda would have to initiate the debt restructuring process by drafting the restructuring proposal and submitting it to the relevant creditors, for instance China. The creditor may accept or reject the proposal or even propose a different set of terms.

Experience has shown that debt restructuring can be a complicated process, especially when dealing with multiple lenders, or in the case of the use of collateral as security against the loans such as natural resources or loans offered by a group of lenders commonly known as syndicated loans. For example, it took Mozambique three years to reach an agreement with its bondholders after first announcing the proposal.

In Uganda, the share of external debt owed to commercial creditors has been on the rise. It increased from 1.8 percent in 2018/2019 to 10.4 percent in FY 2021/2022.

In addition, China remained the largest source of debt among bilateral lenders in FY 2021/2022 with 20.7 percent.

The debt restructuring process may not yield the expected results. The restructuring process of Belize between 2006 and 2007 provides a good example. After restructuring, the debt burden remained high at 90 percent of GDP compared to 93.5 percent just before restructuring, yet the country’s external reserves had dwindled.

In Argentina, the restructuring in 2005 involved legal disputes with creditors and lasted for more than 10 years. The high bondholder demands on repayment protracted the negotiations and the restructuring process, adversely affecting Argentina’s economy to date. The restructuring process can, therefore, seriously disrupt the economy. As a result, the country may have to implement painful measures such as increasing taxes and cutting government expenditure to stabilize the economy.

In addition, the restructuring process may also result in a downgrading of the country’s credit rating which has a negative effect on foreign direct investment inflows into the country. For example, the downgrading of sovereign credit rating in 2020 resulted in an 18 percent decline in foreign direct flows in African countries from $46 Billion in 2019 to $38 Billion in 2020 according to the United Nations.

Given the uncertainty associated with the restructuring process’ duration and outcome, the Finance ministry and other key stakeholders in the debt ecosystem should opt for debt restructuring when other policy alternatives have failed to maintain debt at sustainable levels which is not the current case for Uganda.

Smartson Ainomugisha is a volunteer research associate at  EPRC Makerere University.