The Finance for Development Lab (FDL), a new Paris-based economic think-tank dedicated to building a fairer and more effective architecture for international finance, was officially launched earlier this week, in presence of WTO Director-General Ngozi Okonjo-Iweala and 2019 Nobel Prize in Economics winner Esther Duflo.
Central to its launch was the presentation of the African Liquidity and Stability Mechanism (ALSM), a new regional financial arrangement for Africa and the first policy recommendation crafted by the Finance for Development Lab, in collaboration with Egypt’s Economic Research Forum (ERF).
The proposal aims to tackle the need for African countries to address short-term liquidity and long-term solvency challenges in the face of declining financial flows, lower economic growth and the rising cost of sustainable development.
Daniel Cohen, Chair of the Finance for Development Lab, said: “The purpose of the ALSM is to shield African sovereigns from external shocks by fostering deeper and more stable local financial markets, protecting against commodity price shocks and providing technical and financial assistance to help governments manage external debt burdens.”
Ibrahim Elbadawi, Managing Director of the Economic Research Forum said: “While fiscal problems in African countries can be attributed in part to policy-made development failures, the ALSM can complete the continent’s financial architecture by providing a layer of regional financial safety net.”
The Covid-19 pandemic and the war in Ukraine have put African countries under severe financial pressure while tightening global monetary conditions and waning risk appetite from international investors are raising the risk of debt defaults.
Ensuring macro-financial stability and reasonable funding costs is of the utmost importance for the African continent given on one hand, the heavily constrained policy space of African national authorities, and on the other, the urgent challenge of investing in the energy and sustainable transitions.
Financing costs tend to be higher for the region, at least in part because bonds are less liquid and markets perceive them as riskier than other emerging markets, even when fundamentals are equivalent.
Existing financing arrangements have proven inadequate to respond to emergencies and crucially lack scale to achieve global development and climate objectives. Other developing regions have set up their own Regional Financing Arrangements (RFAs) in the aftermath of crises, but the African continent lacked its own.
To achieve this, FDL and its partners advocate for the creation of four facilities which will alleviate countries’ short-term liquidity constraints by enhancing credit and increasing liquidity on debt markets and by tackling the liquidity costs of commodity price volatility. Grouped together, they will form the so-called ALSM fund.
(1) UNECA’s Liquidity and Sustainability Facility, which will improve liquidity and reduce government borrowing costs by providing repo (short-term loans) in exchange for sovereign debt collateral.
(2) A Commodity Hedging Facility, which will protect against the fluctuations in global commodity prices by guaranteeing margin calls which are triggered when prices rise.
(3) A Credit Enhancement Facility which will stabilize the existing debt stock by offering rolling interest payment guarantees.
(4) A Debt Restructuring Facilitation Facility which would facilitate debt restructuring negotiations by providing cash ‘sweeteners’ of a fixed price to marginal creditors in the event of debt restructuring. This liquidity line would reduce the length and the costs of restructuring negotiations