African Credit Rating Agency

The formal launch of the Africa Credit Rating Agency (AfCRA) has required considerable institutional commitment. It brings to fruition an effort that has been almost a decade in the making. In 2017, the African Union gave the African Peer Review Mechanism a mandate to support member states in the field of credit rating agencies. By 2019, African institutions were examining the feasibility of creating an agency of their own. Feasibility and design work followed, then political endorsement of a private-sector-driven model, the selection of Mauritius as its home, and now the launch itself. There is something worth recognising in that progression. The African Union has spent years examining the role that credit ratings play in its economies. It has committed to building an institution capable of producing creditworthiness assessments itself. The African Peer Review Mechanism frames the new agency not as a challenger to the world’s big three – Moody’s, S&P Global Ratings or Fitch – but as complementary. Its mandate is to produce fair, independent and contextually accurate assessments of African economies. Whether it succeeds in that mandate is a separate question. Whatever the rating agency eventually becomes, reaching the point of launch is already a significant act of African institution-building. As such it warrants examination, given how difficult it is for new bodies to be built, particularly by 55 nation states. In this article I will set out the process that brought the countries on the continent to this point. I will also examine what Africa’s decision to build a credit rating agency tells us about the growing importance of creditworthiness assessment to the financing of development. African institution-building The Africa Credit Rating Agency has not appeared from nowhere. Continental institutions have been created or expanded across several domains. In this time period two have moved from agreement into implementation: the African Peer Review Mechanism. This was established in 2003 as a voluntary process through which African states assess and strengthen governance across participating countries. the African Continental Free Trade Area. The African Union has also secured a stronger formal voice within global economic governance, becoming a permanent member of the G20 in 2023. The rating agency belongs to this same period, but its function differs. It does not lend money, as a development bank does, or facilitate payments and trade rules, as the continental trade architecture does. It is being built to evaluate creditworthiness, which raises the real question posed by its creation. Why has that evaluation become important enough to warrant an institution of its own? The why Governments and businesses across Africa have ambitions for infrastructure, industrial capacity, human capital and resilience against shocks. These ambitions outrun what domestic revenue alone can finance. Meeting them typically requires external financing. African governments and businesses have increasingly turned to international capital markets, alongside other sources of finance. Access to that market, and the price paid for it, depends heavily on how creditworthy a borrower is judged to be. Sovereign credit ratings exist to supply that judgement. A rating is an opinion, issued by one of a small number of specialist agencies, about the likelihood that a borrower will repay its debts fully and on time. The ratings run on a scale from secure investment grade categories down through progressively riskier “speculative”-grade ones. Speculative grade ratings are associated with markedly higher borrowing costs than investment grade ones. The most consequential distinction in this system is the boundary between investment grade and speculative grade. It’s conventionally set at BBB-, or its equivalent Baa3 on Moody’s scale. Economists at the International Monetary Fund – Laura Jaramillo and Catalina Tejada – examined 35 emerging market economies between 1997 and 2010. They found that crossing into investment grade status reduced borrowing spreads (extra interest a borrower has to pay above a benchmark interest rate) by 36 per cent beyond what macroeconomic fundamentals alone would predict. This compared with only 5-10 per cent for upgrades within investment grade, and no measurable effect within speculative grade. The threshold matters because many institutional investors operate under mandates forbidding speculative grade debt entirely or even partially. This means that crossing it can change the pool of buyers willing to lend as well as the price. Sovereign creditworthiness can also influence financing conditions beyond government itself. Banks, state-owned enterprises and private companies can find their own borrowing conditions affected by changes in sovereign risk. This is particularly true when their credit profiles are closely tied to the state or the domestic financial system. Access to capital markets for entities within a country can be shaped by a judgement made about their government. A downgrade, in this sense, does not stay contained within sovereign debt markets. It tends to reach into the financing conditions facing the wider economy, often at the moments when governments and businesses most need room to respond – such as external shocks or a pandemic. Ratings have also become embedded in the rules of finance itself. In the US, financial regulators began formally recognising the ratings of designated agencies in 1975 to help set capital requirements for regulated institutions. That recognition has since multiplied across securities, banking and insurance regulation. Once ratings are written into rules determining what standard of debt regulated institutions may hold, a rating becomes part of the machinery governing market access, not simply an opinion offered to it. Taken together, this evidence places creditworthiness assessment at an important junction in development finance. Ratings interact with the availability, eligibility and price of capital, and those financing conditions in turn shape the resources available to governments and businesses for investment. UN Trade and Development (UNCTAD) finds that developing countries paid, on average, around 200 basis points more than developed countries for internationally sourced capital between the start of 2012 and May 2023. Years of discussion about African development finance, borrowing costs, capital market access, and reform of the international financial architecture have often treated creditworthiness assessment as one input among many, acknowledged and debated but rarely built around directly. The Africa Credit Rating Agency converts that discussion into an institution with a headquarters, a regulatory process and a launch date. The real questions Will it succeed? Will it challenge the big three? What happens if it fails? Is it really needed? They are all valid questions, but having witnessed the development of the new agency over the years, I see the real questions slightly differently at this point in time. I am eager to see what this act of institution-building can contribute to African agency within the global financial architecture. I am excited to see African leaders organise around an issue that directly affects their citizens. I am personally humbled by the commitment of those working behind the scenes to build an institution for which there is no obvious blueprint. The answers to the original questions above will be answered in due time. Reaching the point of launch deserves to be recognised as an important milestone for the credit rating field, and above all for African institution-building. Daniel Cash, Senior Fellow, Centre for Policy Research (UNU-CPR), United Nations University; Aston University This article is republished from The Conversation under a Creative Commons licence. Read the original article.

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