THE UNITED REPUBLIC OF TANZANIA MINISTRY OF FINANCE AND PLANNING

Transcription

1 THE UNITED REPUBLIC OF TANZANIA MINISTRY OF FINANCE AND PLANNING TANZANIA NATIONAL DEBT SUSTAINABILITY ANALYSIS NOVEMBER,

2 Table of Contents TABLE OF CONTENTS... 2 LIST OF TABLES... 3 ACRONYMS... 4 EXECUTIVE SUMMARY... 5 CHAPTER 1: INTRODUCTION BACKGROUND DEBT SUSTAINABILITY ANALYSIS OBJECTIVES OF THE DSA METHODOLOGY... 9 CHAPTER 2: REVIEW OF RECENT MACROECONOMIC PERFORMANCE GDP AND INFLATION DEVELOPMENTS GOVERNMENT FINANCE EXTERNAL SECTOR CHAPTER 3: DEBT PORTFOLIO REVIEW PUBLIC DEBT DEVELOPMENTS EXTERNAL DEBT STOCK DOMESTIC DEBT STOCK DOMESTIC DEBT BY INSTRUMENT DOMESTIC DEBT BY HOLDER CATEGORY PUBLIC EXTERNAL DEBT FLOWS DOMESTIC DEBT SERVICE PROFILE CHAPTER 4: ASSUMPTIONS FOR 2016/17 DSA MACROECONOMIC ASSUMPTIONS PUBLIC FINANCE EXTERNAL SECTOR EXTERNAL NEW FINANCING ASSUMPTIONS DOMESTIC DEBT ASSUMPTIONS CHAPTER 5: DSA RESULTS AND ANALYSIS FACTORS CONTRIBUTING TO CHANGES IN EXTERNAL DEBT DEBT ACCUMULATION AND GRANT ELEMENT OF NEW BORROWING EXTERNAL DEBT SUSTAINABILITY RESULTS UNDER BASELINE SCENARIO CPIA DOWNGRADE EXTERNAL DEBT SUSTAINABILITY RESULTS EXTERNAL DEBT SUSTAINABILITY RESULTS UNDER HISTORICAL AND STRESS TESTS SCENARIO RESULTS OF TOTAL PUBLIC DEBT SUSTAINABILITY ANALYSIS (PDSA) CHAPTER 6: CONCLUSION AND POLICY RECOMMENDATIONS ANNEXES

3 LIST OF CHART Chart 1: Real GDP and Inflation Development Chart 2: Fiscal Performance measure in per cent of GDP Chart 3: Current Account Development (Per cent of GDP) Chart. 4: Trends of Public Debt (Millions of USD) Chart 5: Composition of External Debt by Currency (in Per centage) Chart 6: Domestic Debt (Billions of TZS) Chart 7: Treasury Bonds Weighted Average Yields (Per cent) Chart 8: Public Domestic Debt by Holder Category Chart 9: Redemption Profile of Existing Government Domestic Debt Chart 10: Factors contributing to changes in external debt Chart 11: Major drivers to changes in Tanzania s Public debt Chart 12: Debt Accumulation and Grant Element of New borrowing (per cent) Chart 13: Total Public DSA Results Chart 14: Projection of present value of Total Public debt-to- Revenue ratio Chart 15: Projection of Public debts Service-to- Revenue ratio LIST OF TABLES Table 1: External Debt by Creditor Category (Millions of USD) Table 2: Indicative debt burden thresholds Table 3: Public Debt and External debt Indicators under Baseline Scenario Table 4: External Debt Sustainability Results under Historical and Stress Tests Scenario Table 5: Historical average against projected current account Deficit in per cent of GDP

4 ACRONYMS AfDB African Development Bank CPIA DSA DSF ECA GDP HIPCs IBRD IDA IMF LICs MDRI MEFMI PPG PV TZS USD Country Policy and Institutional Assessment Debt Sustainability Analysis Debt Sustainability Framework Export Credit Agency Gross Domestic Product Heavily Indebted Poor Countries International Bank for Reconstruction and Development International Development Assistance International Monetary Fund Low Income Countries Multilateral Debt Relief Initiative Macroeconomic and Financial Management Institute of Eastern and Southern Africa Public and Publicly-Guaranteed Present Value Tanzanian Shilling United States of America Dollar 4

5 EXECUTIVE SUMMARY A Debt Sustainability Analysis (DSA) assesses a country s capacity to service its current and future debt based on the existing level of debt and future borrowing grounded on the long term macroeconomic frameworks. The DSA analyses the key indicators of the country s debt stock in present value terms and debt service relative to GDP, exports, and domestic revenue. Under the IMF/World Bank Debt Sustainability Framework (DSF), a country s debt sustainability is assessed by considering the quality of its policies and institutions as measured by the World Bank s Country Performance and Institutional Assessment (CPIA) scoring criteria. The major assumption of DSF is that countries with stronger (weaker) policies and institutions can sustain higher (lower) levels of debt. Countries are rated as strong, medium and weak performers depending on the quality of their policies and institutions using the CPIA. Tanzania was rated as a medium performer on the recent CPIA ratings. This report presents the results of Tanzania s public debt sustainability analysis conducted in November, The main objective of the analysis was to assess the impact of Government borrowing to finance the Five Year Development Plan II (FYDP II). Specifically, the DSA assessed the debt sustainability implications of declining grants and concessional funding to Tanzania, issuance of Euro Bond and other commercial borrowing and the issuance of the non-cash bond to securitise pension funds arrears. In line with this objective, the DSA findings were intended to feed into the review and updating of the current Medium Term Debt Management Strategy (MTDS), which provides basis for future financing decisions and to ensure that the national debt remains sustainable. The DSA findings indicate that Tanzania s external debt would remain sustainable under the baseline macroeconomic scenario. All the external debt burden indicators are projected to remain below their indicative thresholds under the baseline and alternative scenarios. However, the stress tests indicate Tanzania s vulnerability to some shocks going forward although there are no breaches of the applicable benchmarks. A return to historical growth levels 5

6 is projected to increase external debt ratios for all the debt indicators, with a near breach on applicable benchmarks for the ratio of present value of debt to exports. Exchange rate depreciation and terms of trade shocks could also increase the external debt related vulnerabilities in the medium to long term. This scenario underscores the need for government to scale-up domestic revenue mobilization efforts to create sufficient fiscal space to service debt in the absence of a refinancing strategy. There is also need to maintain high real GDP growth as well as implement a sound exchange rate policies going forward. The findings of the public debt sustainability analysis indicate that Tanzania s continues to maintain a low risk of debt distress. However, continued prudent policies and enhancing debt management capacity and public investment management is required to preserve debt sustainability. Government also needs to put in place a contingency plan to prepare for servicing of newly contracted debt, particularly the international bond, when they fall due to avoid costly policy adjustment or refinancing at unrealistically high costs. In addition, Government needs to attach great prominence to achieving a high CPIA score. The DSA was based on a macroeconomic framework that projects sustained strong growth momentum in 2016 and beyond supported by government initiative to invest in public infrastructure and industrialization under the FYDP II. These will be underpinned by the envisaged production of natural gas, soda ash, iron ore, investment in infrastructure projects (particularly the construction of a new standard gauge railway line) as well as construction and rehabilitation of major ports. Financing terms were assumed to be less favourable to reflect the changing development financing landscape and the expected transition to a middle income country, implying a gradual shift to the non-concessional financing window over the long term. FDI flows were assumed to average at 6.4 per cent of GDP during the projection period, reflecting the increased role that the private sector is expected to play in spearheading infrastructure development projects, particularly those relating to gas. Over the medium to long-term, the overall fiscal deficit is projected to remain around 3 per cent of GDP, in line with the East African Monetary Union convergence criterion. 6

7 In order to preserve the country s debt sustainability, the Government should consider to strengthen debt management capacity, including restructuring the debt management operations to enhance efficiency. The changing development financing landscape means that a significant portion of borrowing requirements will be met from new funding mechanisms that are associated with high risks. The recent rise in domestic debt underscores the need for government to prioritize the development of domestic debt market to enhance its absorptive capacity. Retiring a portion of maturing non-market domestic debt obligations through budget allocation will reduce its accumulation going forward. There is scope for the Government to scale up domestic resource mobilization by increasing the revenue-to-gdp ratio to align with the EAC convergence criteria. Apart from creating fiscal space, scaling-up domestic revenue will likely raise the country s creditworthiness for nonconcessional loans, thereby increasing the volume of resources available for development. The government may also consider using public resources to invest in areas that leverage private investments towards policy priorities. 7

8 1.1 Background CHAPTER 1: INTRODUCTION Borrowing, both by government and private sector, is a critical means of financing investment needed for economic growth and development. To realize this objective, the Government borrows from domestic and external sources in accordance with prevailing policy guidelines and regulations. However, around early 2000s, Tanzania s external debt burden reached unprecedented high levels which were considered to impede economic growth. As a result, Tanzania received debt relief under the Highly Indebted Poor Countries (HIPC) and the Multilateral Debt Relief Initiative (MDRI), which resulted into a significant reduction of debt burden. Henceforth, the Government devoted to maintain public debt at sustainable levels in the medium and long-term, as prescribed in the Government Loans, Guarantee and Grants Act CAP 134. This has primarily been implemented using Debt Sustainability Framework (DSF). This framework was developed in 2005 by the IMF and the World Bank to guide the borrowing decisions of low-income countries in a way that matches financing needs with current and prospective ability to repay debt. It uses thresholds of debt burden indicators, which depend on the quality of a country s policies and institutions, as measured by the World Bank under the Country Policy and Institutional Assessment (CPIA) to assess debt sustainability. 1.2 Debt Sustainability Analysis Debt Sustainability Analysis (DSA), a main component of DSF, is a structured analytical procedure of examining debt burden of a country. DSA encompasses at least three analyses: (i) an analysis of a country s projected debt burden over the next 20 years and its vulnerability to external and policy shocks; (ii) an assessment of the risk of external debt distress in that time, based on indicative debt burden thresholds that depend on the quality of the country s policies and institutions; and (iii) recommendations for a borrowing strategy that limits the risk of debt distress. In Tanzania, DSA is conducted every year. This year (i.e., 2016) DSA was conducted by experts from the Ministry of Finance and Planning (MOFP), Bank of Tanzania (BOT), Planning Commission (PC), and Treasury Registrar s Office (TRO) and the Controller and Auditor General (CAG). The experts benefited from technical support of the Macroeconomic and 8

9 Financial Management Institute of Eastern and Southern Africa (MEFMI). The DSA applied the thresholds for external and public debt sustainability indicators which takes into account the new assessment of CPIA for Tanzania. 1.3 Objectives of the DSA The main objective of the 2016 DSA was to assess the sustainability of Tanzania external and total public debt portfolio over the long-term. The DSA sought to identify any risks and vulnerabilities to which the country s public debt portfolio is exposed and provide policy recommendations. In line with this objective, the DSA findings were intended to feed into the review and updating of the current Medium Term Debt Management Strategy (MTDS), which provides basis for future financing decisions and to ensure that the national debt remains sustainable. Specifically, this year s DSA focused on the following key areas: i. Assessing the impact of Government borrowing to finance the Five Year Development Plan II (FYDP II) on the country debt sustainability. ii. iii. iv. Assessing the implication of a decrease in grants and concessional funding on debt sustainability. Examining the impact of issuance of Euro Bond and other commercial borrowing on debt sustainability. Evaluating the impact of the issuance of the non-cash bond to pension funds on debt sustainability. As in the previous DSA, recent macroeconomic performance was thoroughly reviewed to provide a base for future possible outcomes. The review of recent macroeconomic performance is provided in Chapter 2 below. 1.4 Methodology This DSA is like previous DSAs it was conducted using the Debt Sustainability Framework (DSF) for Low Income Countries (LICs). The DSF uses thresholds of debt burden indicators, which depend on the quality of a country s policies and institutions as measured by the World Bank under the Country Policy and Institutional Assessment (CPIA) to assess debt sustainability. 9

10 The 2016 DSA applied the thresholds under medium performer category for external and public debt sustainability indicators. CHAPTER 2: REVIEW OF RECENT MACROECONOMIC PERFORMANCE 2.1 GDP and Inflation Developments Tanzania economic performance remained buoyant and strong with real GDP growing at an average rate of 6.8 per cent between 2011 and In 2015, GDP grew by 7.0 per cent supported mainly by stability in power supply; increase in cement production; moderation in global oil price; and improved financial services to the private sector. Economic activities which recorded highest growth include: construction (16.8%), information and communication (12.1%), and financial and insurance services (11.8%). In the first half of 2016, real GDP grew by 6.7 per cent compared to 5.8 per cent recorded in the first half of The economy is expected to maintain strong growth momentum in 2016 and beyond supported by government initiatives to invest in public infrastructure and industrialization under the FYDP II. Inflation remained at single digit in 2015/16 through first quarter of 2016/17 consistent with tight monetary policy and fiscal consolidation, general slowdown in global commodity prices especially oil prices, and improvement in domestic food supply. Headline inflation was 5.5 per cent in June 2016 and declined further to 4.5 per cent in September In the same period, food inflation declined from 8.1 per cent to 6.0 per cent, while core inflation (excluding food and energy) remained below 3.0 per cent. Chart 1 illustrates both Real GDP and Inflation developments for the period between 2004/05 and 2015/16. 10

11 Chart 1: Real GDP and Inflation Development 8.0% GDP Growth (LHS) Inflation (RHS) 20.0% 7.5% 7.0% 6.5% 6.0% 5.5% 5.0% 4.5% 7.4% 17.8% 18.0% 7.0% 7.2% 7.1% 7.0% 7.1% 16.0% 6.6% 6.5% 14.0% 6.1% 11.8% 6.2% 11.4% 12.0% 5.9% 10.0% 8.4% 5.5% 8.0% 7.2% 6.5% 6.6% 6.3% 6.0% 6.0% 4.9% 5.4% 4.2% 4.0% 2.0% 4.0% 2004/ / / / / / / / / / / /16 0.0% 2.2 Government Finance During 2015/16, implementation of the budget was characterized by good performance in domestic revenue collections with shortfalls in budgetary foreign inflows 1. As a result, domestic borrowing was scaled up to finance key development expenditures. Domestic revenue in 2015/16 increased to 14.4 per cent of GDP from 12.8 per cent in 2014/15 (Chart 2). In the same period, tax effort increased to 12.8 per cent from 11.6 per cent. Total expenditure was 18.4 per cent of GDP compared with 17.1 per cent recorded in 2014/15. During the period, overall fiscal deficit was 3.5 per cent of GDP with domestic financing being 2.4 per cent of GDP consistent with lower realization of foreign financing. Over the past five years, foreign financing of the deficit has recorded a declining trend from 3.0 per cent of GDP in 2011/12 to 1.2 per cent in 2015/16, while domestic financing has shown an increasing trend to 2.4 per cent of GDP in 2015/16 from 0.5 per cent in 2011/12. 1 Mainly budget support funds (GBS) and foreign non-concessional loans 11

12 2004/ / / / / / / / / / / / /17 Chart 2: Fiscal Performance measure in per cent of GDP 25.0% Revenue (Incl. grants) Government expenditure 20.0% 15.0% Fiscal deficit 10.0% 5.0% 0.0% 2004/ / / / / / / / / / / / External Sector Over the past five years (2011/ /16), the current account deficit averaged at 10 per cent of GDP. The current account narrowed significantly in 2015/16 to 5.6 per cent of GDP, driven by increase in exports of goods and services particularly manufactured goods, transportation and tourism receipts coupled with a substantial decline in imports of goods and services. Chart 3: Current Account Development (Per cent of GDP) CAB (deficit) Exports of goods and services Imports of goods and services 40.0% 35.0% 30.0% 25.0% 20.0% 15.0% 10.0% 5.0% 0.0% 12

13 CHAPTER 3: DEBT PORTFOLIO REVIEW 3.1 Public Debt Developments The total public debt stock has been growing over the past decade after a transitory decline caused by debt cancellation through HIPC and Multilateral Debt Relief Initiatives (MDRI). Notwithstanding debt relief, which reduced the country s debt burden substantially, the debt has continued to increase reaching USD 20,749.9 million 2 in June 2016 from USD 17,583.3 million in June In terms of ratio to GDP, the debt stock increased from 36.2 per cent of GDP in June 2015 to 46.3 per cent in 2015/16 (Chart 4). External debt constitutes the largest proportion of the public debt, accounting for 67.5 per cent of total Public debt. Expressed in Tanzania Shillings, total debt stock rose by 17.5 per cent to TZS 45,615.1 billion from TZS 38,828.7 billion mainly due to new borrowing and depreciation of the local currency. Chart. 4: Trends of Public Debt (Millions of USD) Public external debt Public domestic debt 46.3% 49.0% % 37.0% 36.2% % 31.6% % 28.6% 26.2% % / / / / / / / / / /16 Source: Ministry of Finance and Planning and Bank of Tanzania 42.0% 35.0% 28.0% 21.0% 14.0% 7.0% 0.0% 3.2 External Debt Stock A large share of external debt was contracted on concessional terms although commercial debt has increased significantly recently. At end June 2016, public external debt stood at USD 2 This includes external debt amounting to USD 334 million debt owed by Bank of Tanzania, Tanzania Investment Bank 13

14 14,014.6 million which is equivalent to 31.4 per cent of GDP compared to USD 13,126.5 million in the corresponding period of Regarding the composition of extenal debt by creditor category as at June, 2016, the proportion of debt owed to multilateral institutions in public external debt portfolio remained dominant, albeit decreasing marginally to 57.4 per cent from 57.7 per cent at the end of June 2015 (Table 1). Table 1: External Debt by Creditor Category (Millions of USD) 2013/ / /16 Creditor category Amount Share (%) Amount Share (%) Amount Share (%) Multilateral 7, , , DOD 7, , , Interest arrears Bilateral 1, , , DOD , Interest arrears Commercial 2, , , DOD 2, , , Interest arrears Export credit DOD Interest arrears External debt stock 11, , , The external debt portfolio is dominantly denominated in United States Dollars which accounted for 55.6 per cent of the outstanding debt as at June, 2016 followed by Euro which accounts for 18.9 per cent. (Chart 5). The dominance of the two currencies in the national debt was same in the past four years. Fluctuation of foreign currency exchange rate against Tanzanian Shillings exposes the country to currency exchange risks, leading to increased debt servicing obligations. Chart 5: Composition of External Debt by Currency (in Per centage) USD EUR CNY Others Jun-12 Jun-13 Jun-14 Jun-15 Jun-16 14

15 3.3 Domestic Debt Stock Domestic debt comprises of marketable securities and non - marketable securities, pension fund liabilities, overdraft and other domestic debt. Marketable securities include Treasury bills and Treasury bonds with varying maturities while non-marketable securities comprise special bonds and stocks. As at end June 2016, the stock of domestic debt increased to TZS 14,730.0 billion (15.2 per cent of GDP) compared with TZS 8,799.2 billion (10.3 per cent of GDP) in June This includes TZS 3,207.4 billion pension fund arrears to be cleared through issuances of noncash bonds and provision of TZS billion debt realized from contingent liabilities. Chart 6: Domestic Debt (Billions of TZS) 15,000.0 Financing marketable debt Special bonds and overaft Liquidity paper Other debt Proposed non-cash bond 14, , , , , , , , , , , , , , / / / / / / / / / /16 Source: Ministry of Finance and Bank of Tanzania 3.4 Domestic debt by instrument Treasury bills and bonds constitute the largest share, accounting for two-third of domestic debt. However due to liquidity squeeze in the market, the demand for long term bond has generally declined. Consequently, the cost of Government borrowing, as reflected in the weighted average yield has increased across all maturities due to higher financing needs that did not match the liquidity condition in the market (Chart 7). 15

16 Chart 7: Treasury Bonds Weighted Average Yields (Per cent) 2013/ / / year 5-year 7-year 10-year 15-year 3.5 Domestic Debt by Holder category Following inclusion of issuance of non-cash bond, pension funds have emerged as the leading holders of government securities, accounting for 36.8 per cent followed by commercial banks and Bank of Tanzania at 30.8 per cent. Holding by other sectors has generally remained low, a reflection of narrow investor base. Chart 8: Public Domestic Debt by Holder Category 16

17 3.6 Public External Debt flows Disbursements received during the year 2015/16 amounted to USD 1,517.3 million compared to USD 1,963.7 million during preceding year. The decline was mainly due postponing of some non-concessional borrowing due to unfavourable market conditions. External debt service during the year was USD million, of which USD million was principal repayments and USD million was interest payment. Payments made by the Government amounted to USD million, of which USD was principal repayments and USD interest payments. 3.7 Domestic Debt Service Profile The government has been rolling over maturing principal while interest is paid through government domestic revenue. Domestic debt paid during the 2015/16 financial year was TZS 3,938.0 billion which included principal amounted to TZS 3,020.5 billion that was rolled over and interest cost of TZS billion paid out of government resources. Chart 9: Redemption Profile of Existing Government Domestic Debt 6, , , , , , SHORT TERM SECURITIES NON CASH BOND FOR PENSION FUNDS LONG TERM GOVT SECURITIES GOVERNMENT DEBT REALIZED FROM CONTIGENT LIABILITIES 17

18 CHAPTER 4: ASSUMPTIONS FOR 2016/17 DSA To analyze sustainability of the debt, a set of assumptions were generated for macroeconomic performance and new financing from external and domestic sources as follows: 4.1 Macroeconomic Assumptions GDP - growth drivers The economy has great potential to grow further in the medium term (2016/ /21) and long term (2021/ /36) given the diversified nature of the economy and markets. GDP growth is projected to remain strong at an average of 7.9 per cent in the medium term. Thereafter, as the economy continues to exhaust its potential, GDP is projected to grow at 7.0 per cent annually in the long run. Economic growth will largely be driven by implementation of policies under FYDP II in the following key areas: Improvement and stability in power supply mainly from natural gas which is expected to boost performance of other sectors including manufacturing; and rehabilitation of hydropower plants Infrastructural development including construction (and rehabilitation) of the railway lines, ports, airports, and utility infrastructures; The scaling-up of onshore gas production and construction of oil pipelines; Increase in Foreign Direct Investment flow including construction of Liquefied Natural Gas plant and backward linkages industries; Mineral recoveries e.g. coal, iron, nickel, etc and Setting up of new special economic zones Inflation Inflation is projected to remain at an average of 5.0 per cent in the medium term and beyond driven by reduction in the production costs on account of reliable and affordable power supply; prudent fiscal and monetary policies; improved transport services; and stability of the Tanzania shilling against the US Dollar. However, upside risks remain associated with uncertainties in weather conditions; fluctuations in global commodity prices; political conflicts in neighbouring countries which may result in food insecurity; and adjustment of electricity tariffs 18

19 4.2 Public Finance The medium term government policy objectives will focus on strengthening domestic revenue collection and enhance efficiency in expenditure management with the view to contain the overall fiscal deficit at sustainable levels. Domestic revenue is expected to increase to an average of 18.1 per cent of GDP in the medium term and further to 20.7 per cent in the long terms while total expenditure is projected to average 22.8 per cent of GDP in the medium term and 24.3 per cent in the long term. The ratio of fiscal deficit to GDP is projected to decline from 4.5 per cent in 2016/17 to an average of 3.0 per cent in the medium term and beyond. The fiscal outlook is based on: Increase in domestic revenue mobilization through improvement in revenue administration (tax and non-tax) and further widening of the tax base; Implementation of FYDP II with 60 per cent financed by the Government and the rest through public private partnership (PPP) arrangement and private sector alone; Maintaining annual public investment at 40 per cent of the total budget; Decline in grants and concessional borrowing; Increase in semi-concessional and non-concessional borrowing; Tshs billion is allocated to clear BoT Advance with allocation of Tshs 300 billion in each year for four years in the medium term; and Maintaining net domestic financing (NDF) at 1.5 per cent of GDP in the medium term and slow it down to 1.0 per cent in the long run to be in line with the projected fiscal deficit and strategies for developing domestic market. 4.3 External Sector In the medium term, imports are expected to increase on the back of the implementation of projects under FYDP II. As a result, current account deficit is expected to widen to an average of 7.4 per cent of GDP. However, import of oil (which accounts for 30 per cent of total imports) is expected to remain subdued on account of increase in usage of natural gas in power generation. In the long run, CA deficit is expected to narrow slightly to an average of 5.8% of GDP, driven mainly by increase in the value of export of goods and services, partly resulting from implementation of projects under FYDP II and mineral exports from new recoveries including helium, and nickel. 19

20 Official foreign reserves are expected to increase from an average of USD 4.2 billion recorded in the past five years to USD 5.4 billion in the medium term. Despite the increase in reserves, the months of import cover will remain at an average of 4.4, similar to the level recorded in past five years. This implies an increase in import bill over the medium term associated with implementation of projects under FYDPII. Months of import cover is expected to continue to increase in the long run to an average of 5.0 months, supported by improvement in exports partly resulting from envisaged industrial investment. 4.4 External New Financing Assumptions External New Financing Assumptions are based on the potential sources of financing and the recent trend of the availability of financing options. In the medium term, the government is expected to receive more concessional terms loans with a gradual decline in the long term and which would be replaced by commercial loans;- (i) The first preference will be from highly concessional sources mainly IDA, ADF, and other Multilateral Institutions while Semi-concessional sources will be given second priority particularly the implementation of the China Exim Bank for financing 60 per cent of the cost estimated for standard gauge railway line. (ii) Non concessional sources will be considered as last resort for financing the remaining gap through a mixture of bilateral funding from commercial banks through Syndication and ECA while an issuance of a euro bond in the medium term was also assumed. Following a reduction in the availability of concessional and semi concessional in the medium to long term. The scenario assume to issue 10-year sovereign Euro bond of USD 600 million with upsizing option up USD 1billion base on availability of funds from other sources in the 2017/ Domestic Debt Assumptions Government policy on domestic debt management is to borrow consistently at the lowest possible cost and a prudent degree of risk from domestic financial markets without causing undue effects on monetary policy and financial sector development. The domestic debt management policy includes among others: rolling over maturing principal while paying interest through domestic revenue; financing of the budget deficit through marketable instruments; and smoothening redemption profile. Over time, the composition of domestic borrowing is also 20

21 expected to shift towards medium- and long-term debt as the authorities intensify efforts to develop the local government bond market i. Net Domestic Financing limit for financial year 2016/17 is 1.5 per cent of GDP and will be maintained to 1 per cent of GDP in medium to long term to ensure adequate resources to private sector. ii. The Government will issue Non Cash Special Bond worth TZS 3,207.4 billion in different maturities, ranging from 3 years to 20 years more weight will be on longer maturities. The amount has been included in the domestic debt stock in order to assess its impact on debt ratios. iii. The matured non cash bond will be rolled over using marketable instruments. iv. Interest rate for non-cash bond will be 6.5 per cent will be fixed throughout the tenor of the bond from the date of issuance and will be paid semi-annually. v. The debt instruments (new financing and existing stock) will be rolled over on maturity. vi. Matured short term instruments will be rolled over into long term debt instruments. vii. Interest payment will be met from the Government budget. viii. Short term instruments and long term instruments will continue to be used for liquidity management and financing purposes, respectively. ix. Maturing special bonds and stocks will be rolled over into long term instruments. x. In line with East African Monetary Union (EAMU) protocol all maturing special bonds held by the Bank of Tanzania will be securitized into marketable instruments. xi. Yields on Government securities are expected to remain at 2015/16 levels in the medium term. xii. Advances from the central Bank were assumed to be raised through domestic markets for four years starting from 2017/18. CHAPTER 5: DSA RESULTS AND ANALYSIS Factors contributing to changes in external debt The analysis shows that current account deficit is the main driver of external public debt and exchange rate also explain proportion of changes in external debt dynamics. On the other hand, high levels of FDI and real GDP growth have contributed to reducing external debt (Chart 11). 21

22 Chart 10: Factors contributing to changes in external debt Net FDI Nominal interest rate real GDP growth exchange rate changes Residual current account deficit Change in external debt The factors contributing to changes in public debt depicted in chart 12 highlight the need to excises prudent economic management in the medium to long term. The main drivers of public debt have in 2015/2016 were been primary deficit and exchange rate depreciation which led to increased debt while real GDP growth reduced public debt. The automatic debt dynamics underscore the need to pay particular attention to the gap between real interest rate and the growth rate when contracting public debt to mitigate the snowballing effect on the country s debt portfolio. Chart 11: Major drivers to changes in Tanzania s Public debt 8.00 Primary deficit real interest rate real GDP growth real exchange rate depreciation Residual, including asset changes Change in public sector debt

23 5.1 Debt Accumulation and Grant Element of New Borrowing Based on the envisaged macroeconomic framework and new financing strategy, the resultant debt accumulation profile and grant element of new borrowing is depicted in the Chart 13. Chart 12: Debt Accumulation and Grant Element of New borrowing (per cent) a. Debt Accumulation Rate of Debt Accumulation Grant-equivalent financing (% of GDP) Grant element of new borrowing (% right scale) The graph shows sustained debt accumulation in the medium to long term, reflecting substantial borrowing to finance infrastructural projects. The grant element, a measure of loan concessionality, for new borrowing is, however, projected to significantly decline in the medium to long term, reflecting the effects of high interest rates (about 6-8per cent) on commercial loans to finance government s development plans. The grant element is, however, expected to moderate to an average of 15per cent 3, reflecting the combined effects of concessional and nonconcessional borrowing in the medium to long term. 3 According to the IMF, a loan is considered concessional when it has a grant element of at least 35per cent. 23

24 5.2 External Debt Sustainability Results under Baseline Scenario CPIA Downgrade Under the IMF/World Bank Debt Sustainability Framework (DSF), a country s debt sustainability is assessed by considering the quality of its policies and institutions as measured by the World Bank s Country Performance and Institutional Assessment (CPIA) scoring criteria. The Country Policy and Institutional Assessment (CPIA) is an index computed annually by the World Bank for all member countries. The index comprises sixteen indicators clustered into four pillars, namely: Economic Management; Structural Policies; Policies for Social Inclusion and Equity; and Public Sector Management and Institutions. The major assumption of DSF is that countries with stronger (weaker) policies and institutions can sustain higher (lower) levels of debt. Countries are rated as strong, medium and weak performers depending on the quality of their policies and institutions using the CPIA. The LIC- DSF uses thresholds for assessing a country s debt sustainability depending on the country s CPIA rating, as illustrated in Table 1.1 below. Table 2: Indicative debt burden thresholds Indicators Weak Medium Stronger CPIA< CPIA 3.75 CPIA 3.75 NPV of External debt to GDP NPV of External debt to Export NPV of External debt to Revenue External Debt Service to Export External Debt Service to Service Source: IMF/World Bank Tanzania was downgraded from strong to medium performer, based on the CPIA averages for the period 2013 to This subjects Tanzania to lower thresholds for external debt and public debt indicators. This downgrade underscores the importance of current efforts to improve governance, transparency and financial management. 24

25 5.2.2 External Debt Sustainability Results Under the macroeconomic baseline scenario, all the solvency and liquidity debt burden indicators for both public and external debt are projected to remain comfortably below the indicative thresholds throughout the projection period and also show consistent sustainable trends as depicted in the past DSAs. The ratio of the Present Value of (PV) of external debt to GDP is projected at 19 per cent in 2016/17, which is below the threshold of 40 per cent for medium performers. This ratio is projected to increase moderately to 20.1 per cent in 2017 and decline gradually thereafter to 18.9 per cent in 2024/25 and 14.6 per cent by the end of the projection period in 2036/37, reflecting strong economic performance. Table 3: Public Debt and External debt Indicators under Baseline Scenario External Public debt PV of debt to GDP PV of debt to Exports PV of debt to Revenue Debt service to exports Debt service to revenue Total Public debt PV of public debt to GDP PV of public debt to revenue Debt service to revenue ratio 2015/ / / / / / /36 Threshold The PV of external debt-to exports ratio is projected to increase from 94.2 per cent in 2016/17 to per cent in 2020/21 and decline to 71.0, which is below the threshold of 150 per cent reflecting increase in exports. The ratio of the present value of external debt to domestic revenue is projected at per cent in 2016/17 and 98.7 per cent in 2020/21, which is also significantly below the threshold of 250 per cent. It is projected to decrease throughout the projection period, reflecting improvements in domestic revenue collection. 25

26 A similar declining trend is observed for the liquidity external debt indicators. The ratio of external debt service to exports, also known as the debt service ratio, is projected at 7.8 per cent in 2016/17, increasing moderately to 8.7 per cent in 2018/19 and decline to 8 per cent in 2036/37 but remains significantly below the threshold of 25 per cent over projection horizon. The highest value of ratio of external debt service to exports which is 10.3 per cent is observed in 2027/28 the year the bond matures, the same trend is observed in the ratio of external debt service to revenue. The ratio of external debt service to revenues is also projected to remain significantly below the sustainable threshold of 30 per cent during the projection horizon. These low debt indicators reflect the concessionality of external debt despite the assumption of commercial borrowing. 5.3 External Debt Sustainability Results under Historical and Stress Tests Scenario Both the historical and stress tests (shock) scenarios indicate that the debt burden indicators would increase over the projection period compared to the baseline scenario going forward (Table 2.3). For example, the historical scenario indicates that both the solvency and liquidity debt ratios would increase compared to the baseline scenario (See Annexes ). Table 4: External Debt Sustainability Results under Historical and Stress Tests Scenario Historical Scenario Indicator Threshold 2016/ / / / / / / /37 PV of debt to GDP ratio PV of debt to Exports ratio PV of debt to Revenue ratio Debt service to exports ratio Debt service to revenue ratio Indicator Threshold Shocks Scenario PV of debt to GDP ratio PV of debt to Exports ratio PV of debt to Revenue ratio Debt service to exports ratio Debt service to revenue ratio The historical scenario is driven mainly by the high current account deficit which average 8.6% of GDP is the period compared to 6.6% of GDP that is projected over the medium to 26

27 long term. This implies that a return to high historical levels of current account deficit and lower than projected real GDP growth then debt would be vulnerable. Table 5: Historical average against projected current account Deficit in per cent of GDP Macro-Variable Historical average Projection 2006/ / / / / / / /22 Non-interest current account deficit Net FDI (negative = inflow) Endogenous debt dynamics Stress tests also show all debt stock and debt service to GDP ratio are above the ratios projected in the baseline implying vulnerabilities arising from shocks to variables that affect the measures of debt and measures of debt repayment capacity. Tanzania s external debt ratios are generally projected to increase compared to the baseline due to shocks to exports, terms of trade and a onetime depreciation shock of 30 per cent. 5.4 Results of Total Public Debt Sustainability Analysis (PDSA) The path of total public debt, which includes external debt and domestic debt, also appears to be sustainable throughout the projection period. The PV of public debt to GDP is the only indicator debt that has internationally agreed threshold in the LIC DSF for total public debt. Based on the revised CPIA for Tanzania, the threshold for the PV of debt-to-gdp is 56 per cent. The PV of public debt-to-gdp ratio decreases from 32.5 per cent in 2016/17 to 30.8 per cent by 2029/30 and decreases further to 23.3 in 2035/36 which is well below the indicative threshold of 56 per cent of GDP (chart 14). The inclusion of domestic debt in the analysis indicates that Tanzania s public debt levels will remain broadly manageable over the projection period under the baseline scenario and low growth scenarios. 27

28 Chart 13: Total Public DSA Results Similarly, the PV of debt-to-revenue ratio is expected to decline from per cent in 2016/17 to per cent in 2020/21 and further to 108 per cent in 2035/36. These trends in the solvency ratios suggest that the country s total public debt is expected to be manageable for the next 20 years if key macroeconomic indicators behave as projected. Chart 14: Projection of present value of Total Public debt-to- Revenue ratio 250 PV of Debt-to-Revenue Ratio 2/ The debt service-to-revenue ratio is projected to increase from 21.1 per cent in 2016/17 to 23.4 per cent in 2017/18 and thereafter to decrease to 16.9 per cent in 2020/21 and 16.1 per 28

29 cent in the end of the projection period (Chart 5.4). This trend reflects the significance of domestic debt and the associated pressure domestic debt interest payments are expected to exert on the budget in the medium term. Chart 15: Projection of Public debts Service-to- Revenue ratio Debt Service-to-Revenue Ratio CHAPTER 6: CONCLUSION AND POLICY RECOMMENDATIONS The debt sustainability analysis results suggest that Tanzania s risk of external debt distress has remained low under both the baseline and alternative macroeconomic scenarios. This, however, does not necessarily imply increased ability to pay as the revenue to GDP ratio has remained relatively low compared to regional averages. The low revenue to GDP ratios suggest that the country has room to improve its revenue collection, which can also go a long way in increasing the capacity to service future debt obligations. The interest rate sensitivity analysis results suggest that the country is highly prone to shocks. The results reveal that debt burden indicators would significantly breach the threshold in the event of borrowing extremely high interest loans. This suggests that to maintain sustainability, the country should minimise contracting extremely high interest loans and at the same time attain relatively high growth rates compared to historical averages. Similarly to the previous DSA 2015, the results suggest that the public debt portfolio continue to be highly prone to rollover 29

30 risks of maturing domestic debt. In this regard, Government should consider retiring a certain proportion of maturing domestic debt obligations, instead of continuously rolling over the same at maturity. The projected pace of debt accumulation is also an issue of concern and underscores the need for Government to maintain sound macroeconomic policies and ensure effective implementation of projects earmarked for financing from the proceeds of new loan disbursements, particularly, the commercial loans. The DSA also suggests on the needs to exercise caution when borrowing externally to avoid bunching of maturities that may result in sizeable peaks in debt service payments. `Overall, the DSA results suggest that Tanzania continues to face a low risk of external and domestic debt distress. However, continued prudent policies and enhancing debt management capacity and public investment management is required to preserve debt sustainability. Government also needs to put in place a contingency plan to prepare for servicing of newly contracted debt, particularly the international bond, when they fall due to avoid costly policy adjustment or refinancing at unrealistically high costs. In addition, Government needs to attach great prominence to achieving sustaining a high CPIA score. The ability and commitment by authorities to continue servicing the debt and clearing outstanding arrears to bilateral creditors will also enhance credibility and creditworthiness of the Government which in turn enables it to access subsequent loans at lower costs. 30

31 ANNEXES Fig u re XXX. Ta n za n ia : In d ica to rs o f P u b lic a n d P u b licly Gu a ra n te e d E x te rn a l D e b t u n d e r A lte rn a tiv e s Sce n a rio s, / 3 a. Debt A c c um ulation b.p V of debt-to G DP ratio R ate o f D eb t A cc um ulatio n G rant-equivalent f inancing (% of G DP) G ran t elem ent o f ne w b o rr ow ing (% rig h t scale) c.p V of debt-to-ex ports ratio d.p V of debt-to-reve nu e ratio e.debt s ervic e-to-ex ports ratio 25 f.debt s ervic e-to-re ve nu e ratio B a selin e H isto rica l sce n a rio M o st e xtre m e sh o ck 1/ Th re sh o ld So urce s : Co untry a utho ritie s ; a nd s ta ff e s tim a te s a nd p ro je ctio ns. 1/ Th e m o st e xtre m e stre ss te st is th e te st th a t yie ld s th e h ig h e st ra tio o n o r b e f o re In f ig u re b. it co rre sp o n d s to a O n e -tim e d e p re cia tio n sh o ck ; in c. to a E xp o rts sh o ck ; in d. to a O n e -tim e d e p re cia tio n sh o ck ; in e. to a E xp o rts sh o ck a n d in f ig u re f. to a O n e -tim e d e p re cia tio n sh o ck 31

32 Figure XX.Tanzania: Indicators of Public Debt Under Alternative Scenarios, / Most e Baseline Fix Primary Balance Most extreme shock 1/ 60 Historical scenario Public debt benchmark 50 PV of Debt-to-GDP Ratio PV of Debt-to-Revenue Ratio 2/ Debt Service-to-Revenue Ratio Sources: Country authorities; and staff estimates and projections. 1/ The most extreme stress test is the test that yields the highest ratio on or before / Revenues are defined inclusive of grants. 32

33 Table xx. Tanzania: Public Sector Debt Sustainability Framework, Baseline Scenario, (In percent of GDP, unless otherwise indicated) Actual Average 5/ Standard 5/ Deviation Estimate Projections Average Public sector debt 1/ of which: foreign-currency denominated Change in public sector debt Identified debt-creating flows Primary deficit Revenue and grants of which: grants Primary (noninterest) expenditure Automatic debt dynamics Contribution from interest rate/growth differential of which: contribution from average real interest rate of which: contribution from real GDP growth Contribution from real exchange rate depreciation Other identified debt-creating flows Privatization receipts (negative) Recognition of implicit or contingent liabilities Debt relief (HIPC and other) Other (specify, e.g. bank recapitalization) Residual, including asset changes Other Sustainability Indicators PV of public sector debt of which: foreign-currency denominated of which: external PV of contingent liabilities (not included in public sector debt) Gross financing need 2/ PV of public sector debt-to-revenue and grants ratio (in percent) PV of public sector debt-to-revenue ratio (in percent) of which: external 3/ Debt service-to-revenue and grants ratio (in percent) 4/ Debt service-to-revenue ratio (in percent) 4/ Primary deficit that stabilizes the debt-to-gdp ratio Key macroeconomic and fiscal assumptions Real GDP growth (in percent) Average nominal interest rate on forex debt (in percent) Average real interest rate on domestic debt (in percent) Real exchange rate depreciation (in percent, + indicates depreciation Inflation rate (GDP deflator, in percent) Growth of real primary spending (deflated by GDP deflator, in percen Grant element of new external borrowing (in percent) Sources: Country authorities; and staff estimates and projections. 1/ [Indicate coverage of public sector, e.g., general government or nonfinancial public sector. Also whether net or gross debt is used.] 2/ Gross financing need is defined as the primary deficit plus debt service plus the stock of short-term debt at the end of the last period. 3/ Revenues excluding grants. 4/ Debt service is defined as the sum of interest and amortization of medium and long-term debt. 5/ Historical averages and standard deviations are generally derived over the past 10 years, subject to data availability. 33