By Economist Intelligence Unit | Published October 24, 2011
New foreign exchange bonds are largely dependent on patriotic sentiment rather than sound economic reasoning
The Ethiopian government has launched new diaspora bonds in an attempt to increase the sources of finance for a huge hydroelectric dam on the river Nile. It remains to be seen, however, whether patriotic sentiment will outweigh concerns about potential risks.
The move follows accusations that Egypt—which relies on the Nile for almost all of its water needs and strongly opposes the dam—has been seeking to pressure creditors not to finance construction work. Addis Ababa announced ambitious plans to build the Renaissance Dam (formerly known as the Millennium Dam), on the Blue Nile near the Sudanese border, in April. The proposed dam would be capable of producing 5,200 megawatts initially— climbing to 10,000 mw by 2017—and the government announced its intention fully to finance the US$4.8bn construction costs itself. Addis Ababa has since called on all Ethiopians to help fund the project in any way they can, stoking nationalist sentiment. Pledges by state and private companies’ employees were converted into bonds, and had reached almost birr3bn (US$174m) by August. The government continues to sell birr-denominated Grand Ethiopian Renaissance Dam Bonds domestically through the Commercial Bank of Ethiopia (CBE) and the Development Bank of Ethiopia, as well as abroad through consulates and embassies.
However, while the birr-denominated bonds have attracted interest, the government will require significant amounts of foreign exchange in order to build the dam. As a result, and in order to tap a potentially lucrative market, it has begun to sell bonds denominated in three foreign currencies (US dollars, pounds sterling and euros) to Ethiopian nationals living abroad. The bonds will replace previous bonds issued for the diaspora by the Ethiopian Electric Power Corporation to finance the dam project. The new bonds, also called Grand Ethiopian Renaissance Dam Bonds, will be sold by the CBE through Ethiopian embassies, consulates and missions abroad, as well as via direct electronic purchase from the CBE itself. The new bond promises to pay LIBOR plus 1.25% on five year bonds; LIBOR plus 1.5% on bonds between 6-7 years; and LIBOR plus 2% on bonds between 8-10 years.
As well as increasing access to foreign exchange, the attempt to tap into the wealth of the diaspora avoids the problem of negative real interest rates which the government faces with local bonds. The birr-denominated bonds pay 5.5% for five years and 6% on bonds over six years, and with very high year-on-year inflation of 40.6% in August, the real interest rate is negative, making the bonds more of a donation than an investment. In contrast, the real exchange rate on the foreign-currency-denominated bonds will probably be positive.
Moreover, according to the National Bank of Ethiopia (the central bank), remittances reached US$1.5bn in 2009/10 (year ending July 7th), highlighting the vast potential of the diaspora. However, although the foreign exchange bonds offer reasonable returns to investors, they are largely dependent on patriotic sentiment rather than sound economic reasoning. Although the bonds will carry a government guarantee, Ethiopian debt remains a risky investment at present, given the country's soaring inflation, large current and fiscal deficits, and growing external debt.