In a webinar discussing the bond market as an avenue to support economic recovery and transformation this week, the Deputy Governor of the Bank of Botswana (BoB), Dr Kealeboga Masalila, shared what he termed a less comfortable but critical aspect with market players.
Giving a keynote address to the webinar, Masalila did not mince his word as he rebuked the market for the high yields being demanded for bond notes. In the recent past, he said, the local bond market has seen bid yields for medium to long-term government bonds that are exceptionally high and clearly out of line with the monetary policy posture and medium-term inflation prospects.
Masalila, who described this as “unfortunate,” said it does not reflect the sovereign credit rating for Botswana. Accordingly, he said BoB is part of what the credit rating agencies Moody’s and S & P meant when they said Botswana’s “investment grade ratings are underpinned and supported by the country’s strong, stable and predictable institutional framework … and positive impact of monetary policy framework, all of which support enduring macroeconomic stability”.
Masalila noted that the institutional arrangements of which BoB is a part of, anchor the sovereign credit ratings of Botswana and that this is an important feature of the market that notionally informs participation and pricing of domestic bonds. “Let us reflect on this as market participants and work together to address any challenges or frictions that drive such behaviour,” he urged.
Since government increased its bond issuance programme from P15 billion to P30 billion, it has performed poorly, particularly for long-term notes. As Masalila explained, one of the challenges of the bond market relates to the size and range of issuance of security where the relatively small volume and narrow range inhibit market liquidity, secondary trading and pricing. While the increase in the Government Bond Issuance Programme from P15 billion to P30 billion has partly addressed this, Dr Masalila observed that this on its own continues to be inadequate to generate the requisite liquidity.
On a number of occasions, the government has not been able to raise the amount it required on the bond market. In April, the government raised only P1.1 billion of the P1.3 billion needed. P1.3 billion of the P1.8 needed was also raised in May. The poor uptake has been attributed to a number of reasons, including liquidity.
However, a key impediment that came to light is that investors have been demanding higher interest rates which the government had been disapproving because doing that could weigh heavily on how the government spends its money. Investors demanded yields as high as 12 percent.
The trouble is that the market wants local currency assets but higher yields. According to Masalila, although BoB would prefer issuing a hard currency bond where yields are cheaper, there is a risk of getting stuck in a debt trap if the fiscus does not recover as expected. The government is seeking to use domestic borrowing (bonds) to fund expenditure and fund deficits. But Masalila said the market is “failing to provide cost-effective funding” for the government. Even so, it appears the government has bent over backwards. Perhaps Masalila’s statements this week suggest that the government should compromise to boost uptake. BoB has been in talks about increasing rates which market players see as an opportunity.
The Financial Market department said BoB had advised government to look at raising the yields they were willing to accept. Investors have said inflation and the credit downgrade must be priced in as well as the competing securities in South Africa.
Still on the issue of the market challenges, the Deputy Governor of BoB turned his attention to the continuing paucity of instruments, including derivative instruments that can facilitate and improve secondary market trading and thus improve participation and market liquidity. Dr Masalila said this is innovation around where to invest and the potential to meaningfully impact the nation’s transformation agenda. He suggested increasing consideration of the growth area of ICT (knowledge economy), which has become pervasive as a driver of economic activity.
He also proposed a closer look at opportunities in infrastructure development and reticulation of utilities, as well as extended provision of education and health services, especially in the designated cluster development and special economic zones where there should be prospects for long-term returns with a positive impact on the economic transformation agenda.
“The bond market could add its voice and advocacy for privatisation through marketing of ideas and project proposals in the interest of effective provision of infrastructure, utilities and services and promoting domestic investment opportunities,” he said, adding that the bond market also needs to embrace financial inclusion by marketing and being visible with respect to its potential to help and support small and medium scale enterprises and retail investors.
Going forward, Masalila said it should be possible that commercial state-owned enterprises with enhanced leeway to determine their tariffs and prices and appropriate governance structures can access the market and be appraised on their balance sheet strength and therefore contribute to increase in the range and size of bonds in the domestic market. This should be accompanied by strengthening their funding structure and ability to provide the mandated services.
Overall, Dr Masalila said it is clear that there is a big role for the bond market in the economic transformation and policy reform agenda for the country. He noted that there are opportunities for appropriately directed and appraised funding to help close the productivity and output gap for the economy.