Ghana’s economy Faces a Tricky Test in 2016 with Fiscal Adjustments to Contain External and Election related Headwinds
LOOKING BACK ON 2015: A TALE OF TWO HALVES
Ghana commenced 2015 with optimism that “nightmarish” experience in 2014 had been consigned to the archives of history as investors anticipated an early take-off of the 3-year IMF program, the negotiations of which was a protracted one.
Fair to state that investor optimism was anchored on relief from the past with hope for the future as the 3-year IMF program is expected to correct Ghana’s fiscal and external imbalances as well as restore investor confidence and macroeconomic stability.
Investor optimism however cooled-off as the delay in commencement of the IMF program (which eventually took-off in Apr-2015) resulted in growing apprehension, exacerbated by the declining price of key export commodities which worsened Ghana’s external position.
Consequently, the seasonal depreciation pressures associated with the first half of the year were compounded by speculative activities which resulted in a sharper-than-expected pace of Cedi depreciation (26.2% against the USD as at HY-2015).
The resultant pass-through effect to inflation also pushed Ghana’s consumer price inflation to a 6-year high (17.9% in July 2015) prompting a monetary tightening cycle by the Bank of Ghana with a 500bps cumulative hike in the monetary policy rate to 26% by end of 2015.
The continued tightening of the monetary regime coupled with the government’s aggressive borrowing on the shorter end of the market exerted sustained upward pressure on short term yields.
The worsening external sector (resulting from the declining commodity prices and weaknesses in the Eurozone and China’s economy) and the erratic electricity supply also constrained economic activity and undermined business confidence during 2015.
As a result, the real GDP growth rate slowed down from 4.3% in Q1-2015 to 3.9% in Q2-2015 with manufacturing as well as mining & quarrying subsectors estimated to contract by 2% and 3.8% respectively for 2015.
Investor sentiments however improved (but remained fragile) during the 2HY2015 following the IMF’s two (2) positive reviews of Ghana’s performance (thus far under the 3-year program) and the renewed interventions by the Bank of Ghana which virtually quashed speculations.
The return of some stability to Ghana’s FX market during the 2HY-2015 was mainly influenced by the substantial FX inflows from USD-denominated debt transactions ($1 billion Eurobond and $1.8 billion COCOBOD facility in Oct-2015), the continued support from donor partners (~$500 million), extension of the auction of Ghana’s 2-Year Treasury note to foreign investors (in order to sustain FX inflows) and the continued tightening of both fiscal and monetary regimes.
Ghana’s main stock market (the GSE) also experienced the pinch of the macroeconomic challenges in 2015 as the equities market shed some weight to close the year in negative territory (about -12% return in 2015).
The market’s underwhelming performance was mainly due to the challenging operating environment for listed companies as well as the attractive alternative offered by yields on the fixed income market which also fueled capital flight from equities to fixed-income investments.
Despite the short term losses on the GSE in 2015, Ghana’s alternative market for SMEs (the GAX) recorded active investor participation as Databank Brokerage Limited (Ghana’s Gold award-winning Broker-Dealer Company) was pivotal in providing advisory services, resulting in the listing of viable SMEs on the market.
Some of the viable SMEs that successfully raised capital and listed on the GAX (despite the challenging macroeconomic environment) included: IZWE Loans Ghana Limited (first ever bond listing on the GAX), Edendale Properties (bond listing), Mega Africa Capital (equity listing) and Intravenous Infusions Limited (equity listing).
Given the developing nature of Ghana’s financial market, the establishment of the Ghana Alternative Exchange (GAX) would provide an alternative to traditional bank financing for SMEs who constitute a significant portion of Ghana’s economy.
LOOKING AHEAD TO 2016: HOW THE RISKS ARE PROJECTED TO PLAY OUT
Investors ended 2015 with clear indications of what to expect from the government in 2016 as regards the fiscal and monetary regime, government’s financing strategy, power supply, and general economic activity.
OUTLOOK FOR FISCAL POLICY
Ghana’s 2016 budget signals the government’s commitment to the ongoing fiscal adjustments under the IMF program despite perceived spending risks related to the upcoming elections in Dec-2016.
The improving efficiency observed in fiscal operations during 2015 is expected to continue in 2016 as the government targets a 5.3% budget deficit (Databank projection: 6.3% ± 50bps) supported by strong tax revenue collection and administration.
We expect some tax measures in Q1-2016 that would mainly seek to expand the tax coverage to achieve the government’s revenue projections for the year 2016.
Some of the tax measures expected include: a reduction in tax exemptions granted to businesses and investors, a review of the sliding scale excise duty for brewery companies, a reimposition of excise duty on Cider beer and the implementation of the revenue administration act expected in Q1-2016 which would contain the strict enforcement of Tax Identification Numbers (TIN).
Although the continued improvement in domestic revenue mobilization would help reduce the fiscal deficit in 2016, the risk of election-related spending cannot be completely discounted despite the government’s assurances about their commitment to the IMF program.
We believe the government would face some difficulties in containing expenditure as it seeks to maximize votes in the peak of election campaigns.
Government plans to partly finance the 2016 budget deficit by borrowing up to GH¢5.5 billion (~$1.45 billion) from the domestic debt market.
Based on the successful launch of the book-building approach in Nov2015 (which raised GH¢516.35 million in the 5-year bond at 24% coupon rate), we expect the bulk of government’s domestic financing mix to tilt towards the longer-dated debts.
Our expectation of a longer-term borrowing strategy for 2016 is based on debt management strategies currently underway, which are aimed at extending the maturity profile of public debts, reducing government’s debt-service obligations and restoring debt sustainability in the medium term.
OUTLOOK FOR EXCHANGE RATE AND INFLATION:
Ghana’s historical record of high depreciation pressures during the first half of the year coupled with the lower prices for key export commodities (particularly gold and crude oil) point to a possible recurrence of depreciation pressures in Q1- 2016.
We, however, believe that the fiscal and monetary reforms under the ongoing IMF program coupled with the robust FX reserves at the end of 2015 (3 months of import cover) would help minimize the seasonal depreciation pressures in Q1-2016.
Investor perceptions of the government’s commitment to expenditure control (amidst the election pressures) would also be critical for maintaining confidence in the GHS and avoiding safe-haven demand for foreign currencies.
As a direct consequence of the exchange rate behavior in Q1-2016, we expect a sluggish pace of decline in Ghana’s inflation rate during the 1HY-2016, reflecting the possibility that the government could miss its FY-2016 inflation target of 10.1% (Databank projection: 14% ± 100bps).
We expect a significant hike in utility tariffs to be implemented in Q1-2016 as a means of supporting improved power supply, a decision that would heighten inflationary pressures and slow down the pace of decline in the inflation rate in 2016.
In order to minimize the pass-through effect of depreciation and the second-round effect of the higher utility tariffs, we expect the Bank of Ghana to maintain a tight monetary stance for the greater part of 2016.
We, therefore, anticipate the Monetary Policy Committee’s (MPC) first meeting in 2016 (from 22 – 25 Jan-2016) to conclude with a decision to keep the policy rate at 26%.
OUTLOOK FOR POWER SUPPLY:
We acknowledge various ongoing projects aimed at stabilizing Ghana’s electricity supply in order to support economic activity and sustain investor confidence in 2016.
Some of these measures as outlined in Ghana’s 2016 budget include TICO Expansion (110MW), Kpone Thermal Power Plant (220MW), Sunon Asogli (180MW), VRA expansion: 38MW, Amery power plants (250MW) and the first Karpower barge (225MW).
We expect the second barge (currently under construction in Turkey) to arrive in Ghana by Q2- 2016 (despite government’s projection of Q1-2016) to add an extra generation capacity in the latter part of 2016.
In light of the highlighted projects, we anticipate an increase in Ghana’s installed capacity with thermal sources as the dominant component of Ghana’s electricity generation mix.
The increasing reliance on thermal sources of a power generation means that the cost of electricity production (per KWh) is expected to increase since thermal electricity is more expensive due to raw material costs than hydro.
Consequently, we anticipate a substantial increase in the end-user tariff for electricity supply in Q1-2016 in order to support the power supply from the various capacity expansion projects that are ongoing.
Although the fuel supply required for the Karpower barge (which consumes Heavy Fuel Oil – HFO) is expected to be managed by Karadeniz Holding (owners of the Karpower ship), pricing for the power supplied would be adjusted to fully reflect production cost.
The main concerns, however, relate to the persistent fluctuation in the volume of gas supply from Nigeria Gas through the West Africa Gas Pipeline to support the thermal plants located in the Tema enclave. The fluctuations could adversely impact electricity supply despite the capacity expansion projects.
OUTLOOK FOR GDP GROWTH:
Following a challenging macroeconomic environment in 2015 (worsened by the persistent erratic power supply), Ghana’s GDP growth is expected to reverse the downward trend observed since 2012.
Supported by a rebound in agriculture (3.5%) and industrial growth (7%), the government expects real GDP growth to recover in 2016 to 5.4% (Databank projection: 5.0% ± 50bps).
We anticipate a recovery in the crops subsector and an improvement in the power supply situation to provide the major growth catalyst in early 2016 while additional oil & gas production from the TEN oil fields should also support growth in late 2016.
Overall, a return to macroeconomic stability and economic growth in 2016 is a concrete possibility but one that would be significantly tested by election uncertainty and the weak external sector.
We, however, reckon that the government should face little difficulty in the attempt to consolidate fiscal adjustments in 2016 under the 3-year IMF program if budget proposals are adhered to despite spending risks from election pressures.