INTERNATIONAL DEVELOPMENT ASSOCIATION INTERNATIONAL MONETARY FUND CHAD Joint World Bank-IMF Debt Sustainability Analysis July 2019 Prepared jointly by the staffs of the International Development Association (IDA) and the International Monetary Fund (IMF) Approved by Marcello Estevão (IDA) and David Owen, and Yan Sun IMF) Chad: Joint Bank-Fund Debt Sustainability Analysis Risk of External Debt Distress High Overall Risk of Debt Distress High Granularity in the Risk Rating Sustainable Application of Judgment No Chad’s risks of external and overall debt distress are high but have nonetheless declined in the past year.1 All but one external debt sustainability indicators are below their respective thresholds from 2019 onwards. The debt-to-revenue ratio moderately breaches its threshold under the baseline scenario. Overall, total public debt vulnerabilities are elevated although the present value (PV) of the public debt- to-GDP ratio remains on a downward trajectory. The debt sustainability analysis is based on projected continued fiscal prudence and an increase in non-oil revenues. Following the restructuring in 2018, the new Glencore debt contract has helped contain the impact of low oil prices on debt sustainability, as it allows for lower debt service when oil prices are lower. 1 Chad’s debt carrying capacity was rated weak according to the composite indicator (CI) based on the October 2018 WEO and the 2017 CPIA index. PUBLIC DEBT COVERAGE 1. State and local debt has been added to the coverage of public debt. As in the previous DSA, coverage includes the central government, as well as state guaranteed external debt owed by the public oil company “Société des Hydrocarbures du Tchad” (SHT) (Text Table 1). This scope encompasses all public external debt; other public sector entities (including regions and other state-owned enterprises) do not have access to external financing. The Ministry of Finance plans to complete a census of public sector enterprises by the end of the year in order to assess the full amount of their outstanding domestic borrowing. Staff will use the findings to include SOE debt in the DSA. 2. The contingent liability stress test accounts for vulnerabilities associated with non- guaranteed state-owned enterprises (SOEs), unaudited domestic arrears, and financial markets (Text Table 1). Contingent liabilities from financial markets are set at 5 percent of GDP, which represents the average cost to the government of a financial crisis in a low-income country since 1980. The contingent liability stress test is customized to include domestic arrears that could potentially be validated by the ongoing audit. While there is significant uncertainty regarding these arrears, the size of the stress test is set at 8 percent, in addition to the standard amounts for SoEs’ debt (2 percent of GDP) and financial market (5 percent of GDP). Text Table 1. Chad: Coverage of Public-Sector Debt and Design of Contingent Liability Stress Tests Subsectors of the public sector Check box 1 Central government X 2 State and local government X 3 Other elements in the general government 4 o/w: Social security fund 5 o/w: Extra budgetary funds (EBFs) 6 Guarantees (to other entities in the public and private sector, including to SOEs) 7 Central bank (borrowed on behalf of the government) X 8 Non-guaranteed SOE debt 1 The country's coverage of public debt The central, state, and local governments, central bank Default Used for Reasons for deviations from the the analysis default settings Domestic arrears could potentially 2 Other elements of the general government not captured in 1. 0 percent of GDP 8 be validated by an ongoing audit. 3 SoE's debt (guaranteed and not guaranteed by the government) 1/ 2 percent of GDP 2 4 PPP 35 percent of PPP stock 0 5 Financial market (the default value of 5 percent of GDP is the minimum value) 5 percent of GDP 5 Total (2+3+4+5) (in percent of GDP) 15 BACKGROUND Evolution and Composition of Debt 3. Chad’s external public and publicly guaranteed (PPG) debt burden increased considerably over the past decade mainly on account of external commercial borrowings related 2 to oil. Commercial borrowings (oil sale advances) from Glencore in 2013 to cover revenue shortfalls and in 2014 to purchase a share in the Doba Oil Consortium were the main contributors. Falling oil prices over 2014- 16 were the primary reason for reduced revenues available to repay oil sales advances. This debt has since been restructured twice, most recently in early 2018, which has considerably reduced its burden. At end- 2018, outstanding PPG external debt stood at about $2.6 billion (27 percent of GDP). Chad’s CFAF-denominated debt held by the regional central bank (BEAC), the regional development bank (BDEAC), and bilateral creditors in the currency union (Republic of Congo, Equatorial Guinea, and Cameroon) amounts to 9.9 percent of GDP. It is not included in external debt, which is calculated on a currency basis. 4. The composition of external public debt has changed significantly over the past decade. The share of external debt from multilaterals has fallen sharply from about 87 percent in 2008 to 28 percent in 2018, while the share of commercial debt, which was virtually non-existent in 2008, is now trending down from a peak in 2017 of 54 percent, mostly to Glencore. Bilateral debt doubled over the decade but, as a share of total debt, it is still significantly less than commercial debt (Text Table 2). Consistent with the ECF arrangement, external debt is defined on a currency basis. 5. Domestic public debt has begun to decline in recent years (Text Table 3).2 Following a peak in 2015, debt to the BEAC was restructured and Chad stopped borrowing from the BEAC. In addition to the debt owed to BEAC (33.7 percent of total debt), some debt denominated in local currency is held within the CEMAC region, including about 8.9 percent of total debt owed to official bilateral partners and BDEAC, and in the form of securities that could be held by non-resident banks. Since 2017, domestic debt has been declining as the authorities aim to loosen the bank-sovereign nexus and reduce domestic arrears. 2 State and local debt amounts to less than 0.1 percent of GDP. 3 Text Table 2. Chad: External Debt Stock 2015–20191 2015 2016 2017 2018e Total (Millions of $) 2,735 2,622 2,649 2,671 (Billions of CFA francs) 1,649 1,632 1,468 1,540 (Percent of GDP) 25 27 25 25 Billions of CFA francs Multilateral 375 390 385 422 IMF 38 77 96 151 World Bank/IDA 113 110 101 100 African Development Fund/Bank 69 56 56 55 Others 155 147 133 117 Bilateral 366 370 408 436 Paris Club official debt 2 … 25 32 Non-Paris Club official debt 364 370 383 404 of which: China, People's Republic 144 156 132 130 Libya 158 164 150 156 India 27 30 27 21 Commercial2 875 862 705 664 Share of Total (percent) Multilateral 23 24 26 28 Bilateral 23 23 26 27 Commercial2 54 53 48 45 Memo: Millions of $ Multilateral 635 631 695 738 IMF 65 125 173 272 World Bank/IDA 191 178 182 176 African Development Fund/Bank 116 90 100 95 Others 263 238 239 195 Bilateral 620 597 682 734 Paris Club official debt 4 ... 45 46 Non-Paris Club official debt 616 597 637 689 of which: China, People's Republic 244 252 226 226 Libya 268 265 230 272 India 46 49 38 37 Commercial2 1,481 1,394 1,272 1,199 Sources: Chadian authorities, selected creditors, and World Bank and IMF staff estimates. 1Includes only debt denominated in foreign currency. 2Glencore loan accounts for about 98 percent of commercial debt stock in 2017. 4 Text Table 3. Chad: Domestic Debt Stock 2015–2018 2015 2016 2017 2018 Total (Billions of CFA francs) 1191.8 1482.2 1445.6 1424.1 (Percent of GDP) 18.3 24.4 24.6 23.1 Share of Total (in percent) Central Bank financing 38.1 33.3 33.2 33.7 Statutory advances 1 23.5 18.9 … … 1 Exceptional advance 11.7 11.5 … … Consolidated debt 2.9 3.0 … … Commercial banks' loans 6.3 3.3 3.6 7.1 2 2011 Bond 2.3 0.0 0.0 0.0 2013 Bond 2 4.5 3.7 1.2 0.0 3 Treasury Bonds 11.7 21.2 21.8 12.3 Treasury Bills 7.0 11.2 11.7 20.6 BDEAC 1.7 3.2 3.4 3.5 Republic of Congo 2.9 2.4 2.4 2.5 Equatorial Guinea 1.3 1.0 1.0 1.1 Cameroon 0.0 2.0 2.1 1.9 Domestic arrears 16.8 12.8 13.5 11.2 Others 4 7.4 5.9 6.1 6.2 Source: Chadian authorities 1 Includes advances that were consolidated in 2017. 2 Issued through banks' syndication 3 Auctionned in regional securities' market. 4 Legal commitments, standing payment orders, and accounting arrears. 6. External payment arrears accumulated in 2016 and in 2017 but were reduced considerably in 2018. Due to liquidity challenges in 2016 and the first half of 2017, the government accrued external arrears vis-à-vis a number of multilateral, bilateral, and one commercial creditors (Mega bank from Taiwan province of China). At end-2017 about $102 million (about 1 percent of GDP) remained outstanding, mainly to bilateral creditors. The authorities have since reduced this stock to $63 million— particularly to the Rep. of Congo (about $55 million)—by paying the amount owed to the Islamic Development Bank and through a rescheduling agreement with Libya and India. Active discussions are underway to address all outstanding arrears, including with Angola, Equatorial Guinea, the Republic of Congo, the European Investment Bank, and Mega Bank. The authorities have taken concrete steps to prevent the further accumulation of arrears—including measures to improve coordination among relevant agencies and reactivate an escrow account for the payment of external debt at the BEAC. 5 Macroeconomic Forecast 7. The DSA’s baseline scenario reflects policies and financing assumptions underlying the ECF arrangement and medium-term projections that reflect the Glencore debt restructuring. The growth projection has declined compared to the previous DSA (December 2018) from 4.6 and 6.1 percent in 2019 and 2020 respectively to 2.4 and 5.5 percent. The non-oil economic recovery is expected to be slower than originally projected due to the persistent impact of legacies from the crisis. The outlook assumes that the ongoing revenue-led fiscal consolidation will continue over the program horizon at a gradual pace and that spending control would be maintained. Export growth in 2019 is similarly expected to be weaker than previously expected despite sustained oil production because of a lower oil price forecast. Oil production is expected to continue to increase in the medium term, leading to higher oil revenues, higher exports and overall GDP growth (Figure 3).3 The baseline scenario assumes full clearance of external arrears in 2019 and gradual repayment of domestic arrears. Text Table 4. Chad: Macroeconomic Assumptions Comparison Table 8. Financing assumptions have been updated based on most recent information. Externally financed investment has remained unchanged, and the discount rate is kept at 5 percent over the forecast horizon. The grant element of new borrowing is assumed to decline gradually over the forecast horizon. With regards to domestic financing, based on a recent shift towards short term debt, the share of T-bills over the forecast horizon has been revised up. Reflecting this shift, average interest rate on domestic debt has been revised upward slightly. 9. The forecast is broadly realistic. The projected 3-year fiscal adjustment is in line with historical data on LIC adjustment programs. Continued fiscal prudence and efforts to raise non-oil revenues are expected to ensure a sustainable adjustment. The fiscal multiplier tool suggests that growth in 2020 could 3 Note that the historical changes in Figure 3 are driven by the crisis and debt restructuring. 6 be optimistic given the projected consolidation. However, staff expects a catalytic effect on growth from the program outside the immediate fiscal impulse. Private sector confidence is expected to be boosted by the improvement in fiscal health, improvement in budget execution, progress is identifying and clearing domestic arrears, and the authorities’ ongoing efforts to implement the national development plan. This is consistent with expected private sector driven growth, led by private investment in the oil sector, as shown in Figure 4. New oilfield development projects have boosted expected private investment, while public sector investment remains low. The recent privatization of the cotton public enterprise is likely to help strengthen the private sector’s contribution to growth. Country Classification and Determination of Stress Test Scenarios 10. The composite indicator (CI) based on April 2019 World Economic Outlook (WEO) projections and an update of the CPIA index to 2019 levels indicates weak debt carrying capacity for Chad. The CI combines the CPIA score, external conditions as captured by world economic growth and country-specific factors. The April 2019 data indicate weak debt carrying capacity, reflecting mainly a low CPIA, very low remittances, and a low level of foreign reserves (Text Table 5). Text Table 5. Chad: CI Score Components Coefficients (A) 10-year average CI Score components Contribution of values (B) (A*B) = (C) components CPIA 0.385 2.677 1.03 42% Real growth rate (in percent) 2.719 2.745 0.07 3% Import coverage of reserves (in percent) 4.052 32.207 1.31 53% Import coverage of reserves^2 (in percent) -3.990 10.373 -0.41 -17% Remittances (in percent) 2.022 0.000 0.00 0% World economic growth (in percent) 13.520 3.559 0.48 19% CI Score 2.48 100% CI rating Weak Source: IMF staff calculations. The CI cutoff for medium debt carrying capacity is 2.69. 11. The debt sustainability analysis relies on six standard stress tests and a customized oil price shock stress test (Figures 1 and 2 and Tables 3 and 4). The customized oil price shock entails oil prices lower than the baseline by 38 percent between 2020 and 2025 and has been calibrated to account for contingency mechanisms under the Glencore debt contract which limit the negative effect of the shock in the near term (Text Figure 1).4 Debt service under the contract includes a mandatory amortization and interest payment plus a cash sweep component that falls to zero as the Doba oil price hits a certain price. The contract also allows Chad to shift out some of the mandatory payments as prices fall. In 2020 debt service will rise as the grace period on mandatory amortization expires under the contract. The contingencies significantly alleviate the debt service burden over the next few years, but moderately raises it starting in 2023. By 2029, the debt service level returns to the baseline as the Glencore debt is retired. 4The fourth panel of Figure 1 presenting debt service-to-revenue ratios under standard alternative scenarios does not include the Glencore debt contract contingency mechanisms. 7 Text Figure 1. Chad: Debt Service-to-Revenue Ratios Sources: Chadian authorities; IMF staff calculations. DEBT SUSTAINABILITY External Debt Sustainability 12. Public external debt is projected to gradually decline over the forecast horizon under the baseline scenario. Under the baseline scenario the present value of PPG external debt to GDP ratio, the present value of PPG external debt to exports ratio and the debt service to exports ratio are well below their thresholds (Figure 1). The debt service to revenue ratio is expected to drop below its threshold of 14 percent in 2019 and rise moderately above it over the medium term before dropping significantly as the Glencore debt matures. The projected path of this indicator has improved relative to its path in the last DSA. 13. Under stress tests, the thresholds are breached for all indicators. By increasing the future debt servicing burden, the Glencore debt contract raises the present value of PPG external debt, an effect that is most pronounced in the historical scenarios. Under the shock scenarios, the exports shock stress tests produce the most extreme scenario for all indicators except the debt service to revenue ratio, for which the commodity shock stress test is the most extreme. Under the export stress test, the threshold of the present value of PPG external debt-to GDP ratio is breached from 2021 until 2024. The present value of PPG external debt to exports ratio is breached from 2021 until 2026 and debt service to exports is breached from 2021 onwards. 8 Public Debt Sustainability 14. The benchmark for public debt is breached under the baseline. The PV of total public debt- to-GDP ratio projected at end-2019 stands at 41 percent, which is about 6 percentage points above the 35 percent benchmark level associated with heightened public debt vulnerabilities with a weak debt carrying capacity. The indicator achieves a below-threshold level by 2022 under the baseline scenario. Risk Rating and Vulnerabilities 15. Chad’s debt sustainability is less vulnerable to oil price fluctuations than before its debt restructuring. This reflects contingency mechanisms under the new Glencore debt contract, which allow lower external debt service to Glencore when oil prices are lower. As demonstrated by the recent oil price decline, the impact of a commodity price shock on debt sustainability is now limited. In 2019, external debt service to Glencore is now expected to be around 64 percent of what was scheduled before oil prices dipped late last year. Likewise, in a lower oil price scenario that accounts for the contingency mechanisms, the debt service to revenue ratio remains close to the baseline (Text Figure 1). 16. Chad is at high risk of external debt distress and high overall risk of public debt distress. Debt vulnerabilities have, however, declined significantly since the beginning of the program. The rescheduling of the Glencore debt along with the projected recovery in the oil sector and prudent fiscal policy result in debt burden indicators declining significantly over the near and medium terms. The projected path of the debt service to revenue indicator has improved significantly since the restructuring and in fact is better at the baseline oil price than at the higher price of the third review. Nonetheless, it remains moderately higher than the threshold under the new DSA framework. As such, Chad’s external debt is assessed to be at high risk of debt distress. Additionally, the overall risk of debt distress is high based on the breach of an external debt sustainability indicator threshold and total public debt residing above its benchmark level. Mechanically, the CFAF-denominated debt held by the BEAC, BDEAC, and bilateral creditors would weaken the external debt sustainability indicators if the external DSA were done on residency basis. These claims do not face currency risk, and institutional ties with the creditors are relatively strong. Nonetheless, some difficulties may still be faced in restructuring such debt if necessary, and the risks associated with the rollover of securities held by non-resident (the scale of which is unclear) remains even if it is limited. 17. Significant efforts are warranted to ensure debt remains on a downward trajectory. Elevated vulnerabilities reinforce the need to maintain prudent fiscal policy including on external and domestic borrowing. While progress has been made recently to reduce the stock of external and domestic arrears, much more attention is needed going forward to clear the remaining arrears. Finally, continued effective inter-agency coordination to strengthen the capacity to record and monitor public debt is very important to better manage public debt. 18. The authorities remain committed to improving Chad’s debt sustainability and consider that improving the non-oil economy’s growth performance is key in this regard. A major roadblock for the authorities’ well-placed emphasis on developing the non-oil economy is the growing difficulty of attaining concessional borrowing. The authorities are convinced that the economic returns to projects like 9 electrification and transportation are high enough to justify non-concessional terms and would in turn help further improve debt sustainability. However, their commitment to the program and conservative debt management remains the priority. 10 Figure 1. Chad: Indicators of Public and Publicly Guaranteed External Debt under Alternative Scenarios, 2019–2029 11 Figure 2. Chad: Indicators of Public Debt Under Alternative Scenarios, 2019–2029 12 Figure 3. Chad: Drivers of Debt Dynamics—Baseline Scenario 13 Figure 4. Chad: Realism Tools 14 Table 1. Chad: External Debt Sustainability Framework, Baseline Scenario, 2016–2039 (In percent of GDP, unless otherwise indicated) 15 Table 2. Chad: Public Sector Debt Sustainability Framework, Baseline Scenario, 2016–2039 (In percent of GDP, unless otherwise indicated) 16 Table 3. Chad: Sensitivity Analysis for Key Indicators of Public and Publicly Guaranteed External Debt, 2019–2029 (In percent) 17 Table 4. Chad: Sensitivity Analysis for Key Indicators of Public Debt, 2019–2029 18