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AfricaJuly 2 2012

Ghana's sound fundamentals untainted by falling cedi

Ghana has been hurt by the weakness of its currency since late last year. Yet its economy, one of the fastest-growing in the world, is still in rude health, and investors are said to be increasingly bullish about the country, even if they are hindered by shallow capital markets. 
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As Ghana’s cedi started to depreciate late last year, many people in the country were surprised. That its slide continued in the first five months of 2012 – it lost 15% of its value against the dollar, making it one of the worst-performing currencies in Africa – added to the puzzlement. After all, the economy was one of the fastest growing in the world, with a gross domestic product (GDP) that grew by 14% in 2011 and is expected to rise by a still-hefty 8% this year. Inflation was in single digits, while exports were rising quickly thanks to the start of oil production in the country in late 2010.

“It’s worrying,” says Keli Gadzekpo, chief executive of Databank, a local investment bank. “You’d think that with the oil component added to our export base, it would create the opposite effect and that the cedi would have been stronger.”

Imports to blame?

The depreciation partly stemmed from surging imports. These increased by 50% in 2011, almost outpacing the growth in exports and leaving Ghana with a big current account deficit of 9% of GDP. “The problem is that Ghana doesn’t produce enough consumer durables,” says Stephen Bailey-Smith, head of Africa research at Standard Bank. “So as soon as the economy strengthens, it sucks in huge amounts of imports.”

Bankers add that a lack of local manufacturing means goods are often brought in from abroad. “You just have to walk through our markets and you’ll see that every little thing from toothpicks to toys is imported,” says Alhassan Andani, managing director of Stanbic Bank Ghana.

Many economists also blame the cedi’s malaise on excess liquidity – a consequence of the high growth – and falling demand for government bonds as central banks elsewhere on the continent started to tighten monetary policy. “For most of 2011, until about October, there were healthy inflows from foreign investors who found Ghanaian yields favourable,” says Razia Khan, head of research for Africa at Standard Chartered. “As soon as those [flows] started to dry up because of global concerns and yields elsewhere started to look more attractive, you saw evidence of pressure on the currency.”

The problem is that Ghana doesn’t produce enough consumer durables… So as soon as the economy strengthens, it sucks in huge amounts of imports

Stephen Bailey-Smith

Ms Khan adds that Ghanaians themselves then started to lose confidence in cedi assets. “A lot of the more recent pressure hasn’t been real import demand,” she says. “It’s been speculative demand for foreign currency. Foreign currency accounts held domestically have ballooned.”

Inflation up

The cedi’s slide has hurt Ghana. Inflation increased by 70 basis points to 9.3% between January and April, causing analysts to predict it will climb to double digits before the end of the year. The government’s funding costs have risen substantially. And the foreign reserves of the central bank, which was slow to raise interest rates and sell dollars to commercial banks, slumped from $5.4bn to $4.3bn in the first five months of the year.

Yet Ghana’s economic fundamentals remain strong. As well as its rapidly expanding GDP and exports, it is generally viewed as west Africa’s most democratic and politically stable country. It ranks among the least corrupt states on the continent.

Ghana’s fiscal management in recent years has also been lauded, even if many analysts criticise a lack of political will to cut expensive fuel subsidies. Its budget deficit has shrunk since 2008 and stood at 4% in 2011. Mr Bailey-Smith says even that figure was exacerbated by the government paying off arrears built up by previous regimes. “If you strip the arrears out of last year’s budget, you had only a minor deficit,” he says.

The country’s debt-to-GDP ratio was 43% at the end of April. While this is quite high by African standards, investors are seemingly unperturbed. Exemplifying this, Ghana’s $750m debut Eurobond from 2007, issued with an 8.5% coupon, has traded at less than 6% for most of the past year.

Moreover, the government has been careful with how it deals with its newly found oil reserves. Alone among African oil producers, it hedges its exports fully, using put options which currently allow it to sell them at $95 a barrel. Similarly, it hedges its imports – which helps it better determine the amount of subsidies it needs to pay from year to year – by using call options with a strike price of $97 a barrel. Analysts believe this is a sensible way to protect its budget against fluctuations in energy prices, with some calling on other African states to do the same.

Oil changes perceptions

Oil will continue to boost Ghana in the medium term. Production, currently about 80,000 barrels a day, is expected to rise to 120,000 a day by next year. The rest of the economy, particularly sectors such as gold mining, telecommunications and financial services, is strong in its own right, growing about 8% last year.

Linking the oil and agriculture industries is difficult… But, all of a sudden, oil changes the outlook. People are more bullish about the economy as it expands

Winston Nelson

Nonetheless, oil has helped increase overall investment in the country. Analysts at African Alliance, an investment bank, say that even agriculture has attracted more foreign money in the past two years. “Linking the oil and agriculture industries is difficult,” says Winston Nelson, head of the firm in Ghana. “But, all of a sudden, oil changes the outlook. People are more bullish about the economy as it expands. People now see this is an economy that can grow at 8% for the next five years.”

What would perhaps entice foreign and local investments even more would be the development of Ghana’s capital markets. The government bond market is hindered by the fact it only goes out to five years. Standard Chartered’s Ms Khan says the country should follow the examples of Kenya and Nigeria, both of which issue debt with tenors of 20 years.

She adds that selling longer-term maturities would reduce Ghana’s refinancing risks and thus help lower its funding costs over time. “Unfortunately, there has been a reluctance to issue longer-term bonds out of some strange fear of locking in higher interest rates,” she says. “Financial market development has lagged investor appetite for long-term domestic assets.”

Ghana has long talked of issuing seven- and 10-year debt. Following a heavily oversubscribed five-year bond in June, analysts hoped such plans would be put into action. But there has not yet been any explicit announcement from the government about a seven-year auction.

There is a divide in the bond market between foreign and domestic investors. The former can only buy government paper with a maturity of three or five years, the longest tenors on offer. As such, they tend to dominate demand for those securities, while local buyers stick with short-term debt. “They have to remove the segmentation in the market,” says Mr Bailey-Smith. “At the moment, there’s no culture of onshore funds buying the three- and five-year bonds. Foreigners hold most of those.”

Pension reforms

Corporate bond issuance, a rarity in Ghana, will likely be held back by the rise in interest rates from 12.5% to 15% this year. Most borrowers will be loath to issue deals with coupons of 25% or higher, especially when they can get cheaper funding from banks.

Yet many bankers think that recent reforms allowing some state pension fund contributions to be managed privately will help. “In the past the [Ghana stock] exchange has been driven mostly by equities,” says Databank’s Mr Gadzekpo. “We expect that because of the pension law and the coming onstream of private pension management, the bond market will see some exciting activity.

“At the moment, corporates aren’t looking to place bonds of scale and with frequency. But when you have pension funds with money to invest, the situation will change.”

In the longer term, pension reforms could also benefit the equity market. Kweku Bedu-Addo, chief executive of Standard Chartered in Ghana, says they might lead to more pension funds investing in private equity firms, which will eventually look to initial public offerings (IPOs) on the stock exchange as one form of exit from their portfolio companies.

Ghana would like to become a regional financial centre and attract secondary listings, particularly from foreign companies with operations in the country. A few, such as Tullow Oil, which operates the Jubilee offshore field, and AngloGold Ashanti, which has two gold mines in Ghana, have launched IPOs in Accra. But many others are put off by the exchange’s lack of liquidity. Weekly trading volumes are rarely above 2m cedis ($1.2m) and brokers complain that some stocks are “passed on from generation to generation”.

The weakening cedi has dampened the appetite for equities, particularly among foreign investors. While the stock exchange was up 7% in the year to mid-June, in dollar terms it was down 9%. “Volumes are so, so low on the stock market compared to last year,” says Angela Osei-Kufuor of African Alliance.

But she adds that overseas investors are increasingly bullish about Ghana, thanks to its new-found oil riches and fast economic growth, which few think will slow down any time soon. “The cedi depreciation doesn’t help,” she says. “But foreign investors with a longer term view of Ghana are actually rushing in. The ones that are getting out need the funds, rather than have a negative stance on the country.”

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