Ethiopia: Economics is not the only thing dragging IMF funding negotiations

Behind closed doors, it is not only economics, but geopolitics and regional security that looms large in IMF negotiations with the Government of Ethiopia.

The Ethiopian government is hopeful in reaching a deal with the International Monetary Fund (IMF) this year, aiming to avert a looming debt default and stabilize depreciating currency, which is trading two times as much on the parallel market.

Following arduous negotiations between Zambia and Ghana and their respective creditors, Ethiopia is next in line for a debt restructuring deal. However, its significant obligations to external creditor, including China and the European Union may slow down the process, similar to the situation in Zambia. Ethiopia seeks $2 billion gap funding at a minimum.

Negotiations with the IMF hinge on a debt sustainability analysis, necessitating greater disclosure about creditors’ identities and the terms of financial obligations. Ethiopia’s population of 120 million and its strategic position in the Horn of Africa make it a priority for the U.S-led West, and by default the IMF, especially since the ceasefire agreement with Tigray last year. However, maintaining the peace and bringing calm in the country remains a challenge. If economic support to stabilize the economy and bolster reconstruction after war is not forthcoming, unrest in the country could get worse.

In parliament, Prime Minister Abiy Ahmed took credit for reducing debt servicing costs, which declined to 38% of GDP this year from 59% in 2018. As in a recent report by Abren, ways of making Ethiopia’s debt sustainable without important external financial backing will be difficult. The country’s debt obligations, especially by state owned enterprises (SOEs) and Commercial Bank of Ethiopia remain high, with a total debt of about US $26 billion, approximately 22% of the country’s GDP. Nearly half of this debt servicing is owed to Chinese entities, with the other half owed to the World Bank, other bilateral creditors, and SOEs. Moreover, Ethiopia faces a looming lump-sum payment on a one billion-dollar Eurobond maturing in 2024.

Political considerations and IMF shareholder preconditions set for green-lighting funding to Ethiopia are rarely discussed, but they loom large in the background. Key IMF stakeholder countries, including the United States, the United Kingdom and countries in the EU wanted an immediate end to the war against the insurgents of the Tigray region on humanitarian grounds, but critics argue, behind the rhetoric lays a desire to save the formerly dominant TPLF as an organized entity to counteract the influence of neighboring Eritrea, which Washington has long viewed as a regional spoiler. For their part, the Tigray rebels have tried to demonstrate their anti-Eritrea badge, and continue to accuse the country of waging a genocidal war against them.

In addition to Eritrea’s involvement in the two-year war in northern Ethiopia, multiple regional states in Africa as well as the Middle East were indirectly involved, with the UAE and Turkey backing the Government of Ethiopia (GoE), while Egypt and Sudan facilitated clandestine shipments of arms and supplies to the Tigray rebels. A 2022 report by Abren described secret flights arming TPLF.

The U.S and the E.U are still pressing Prime Minister Abiy Ahmed to fulfill conditions related to governance, human rights, and accountability to receive development aid, debt relief, and crucial funding for reconstruction. Nonetheless, Abiy is facing challenges due to the presence of zero-sum alliances in Ethiopia. As a result, a UN mediated post conflict transitional justice mechanism was rejected by Addis Ababa, on grounds of sovereignty and homegrown National Dialogue.

The Prime Minister must make hard concessions to meet Western demands, which will alienate major constituencies essential to maintaining stability in his ruling party. For instance, yielding to the demands of authorities in the Tigray region will be seen as betrayal by Amhara, where the population believes it suffered from decades of oppression under the Tigray People’s Liberation Front (TPLF). Significant populations in Somali, Afar and Oromo regions share similar anxieties.

Eritrea, which recently strengthened ties with China and Russia will continue to view TPLF as a threat next door, and any move that is perceived to be helpful to leaders in Mekelle will garner pushback from Asmara. Aware of all of this, Washington will be keen to use its financial leverage to pressure the GoE, in ways that will likely be distasteful to the various alliances Abiy has built over the past few years. This will have a destabilizing effect.

Despite these complexities, the prospect for an IMF stabilization program, debt relief, and restoration of funding from the United States African Growth and Opportunity Act (AGOA) largely depend on maintaining the peace. There is also hope in securing access to AGOA this year is a key goal, especially given its significance for Ethiopia’s industrial parks, which have pitched cautious investors to return.

Addis Ababa is hopeful that the G20 will agree on a more generous and coordinated plan for restructuring the overall debt of developing countries. Ethiopia, along with three other African economies, joined the G20’s debt workout process. Nevertheless, the recent G20 summit in India failed to reach consensus on new terms for debt restructuring. Standard & Poor’s has ranked Ethiopia’s public debt at CCC, indicating its vulnerability to non-payment.

To implement its “Homegrown Economic Reform Agenda”, the GoE draws heavily on IMF policy recommendations. The new governor of the National Bank of Ethiopia and former World Bank official, Mamo Mihretu, is also said to be considering liberalizing foreign exchange controls and potentially floating the Birr. The current official exchange rate of US$1=60 ETB is believed to be overvalued by a third, and a floating rate regime could lead to a rate of close to US$1=100 ETB this year.

If a flexible exchange rate is not implemented gradually however, it could wipeout savings and cause a sudden worsening of inflation, as recently happened in Nigeria, which according to a recent Bloomberg report declared a state of emergency due to a rapid food price surge after currency float. Special interests, such as SOEs tasked with facilitating key imports like fertilizer and fuel will also pushback against a rapid move from the current pegged rate to a market exchange system. The GoE seeks IMF stabilization funding before making such a move. This is an issue discussed in a previous report by Abren. Despite arguments about how to get there, a move towards a flexible exchange rate is generally viewed as positive.

Tackling inflation remains a critical challenge for the GoE. The Prime Minister’s economic team pledges to tighten monetary and fiscal policies to address the issue. The 2023-24 budget, presented to parliament by Finance Minister Ahmed Shide last month, increases overall spending to 801.65 billion Birr from 786.6 billion Birr. However, accounting for the inflation, the budget has gotten almost a fifth smaller.

In the meantime, measures have been taken to crack down on contraband and boost local food supply to address the economic challenges for poor households, which make up a significant portion of the population. Steps to raise wages of civil servants will be challenging, given the current budget shortfall when adjusted for inflation. Profitable SOEs like Ethiopian Airlines and Ethio-Telecom are due to boost wages. Nonetheless, as mentioned, negotiation with the IMF hinge on more than economics. Behind closed doors, it is not only economics, but geopolitics, regional security and politics that loom large.