Emerging-market economies are grappling with a new dilemma as they begin the slow journey to recovery: how to rescue state-owned businesses without also triggering a debt crisis.
Cash-strapped governments in Indonesia, India, South Africa and elsewhere are being pressured to bail out national airlines, energy utilities and other state businesses brought to their knees by virus-related travel restrictions, collapsing demand and plunging oil prices. The debt risk is putting credit rating companies on watch and prompting nervous investors to sell off assets before the situation gets any worse.
In emerging markets, state-owned enterprises, or SOEs, are key job creators, woven tightly into the economic fabric and even the national identity. They are responsible for 55% of infrastructure investment in those countries, according to the International Monetary Fund, and account for about 60% of non-financial corporate debt, the Institute of International Finance estimates.
“Governments tend to provide significant support to these pseudo-private entities to pursue policy goals,” said Emre Tiftik, a director at the IIF in Washington. “During stress episodes, they are key to generate employment, though this happens at the cost of low productivity.”
Against this backdrop, there’s likely to be a further build-up in SOE debt going forward, said Tiftik. “The implications of this rise will be long-lasting and will weigh on potential growth in the medium-to-long-term,” he said.
Fiscal deficits are already soaring as governments boost spending to prop up growth, but those figures often don’t capture the true liabilities that authorities face if they need to step in to support or rescue state-owned enterprises.
In Indonesia, a 3% deficit ceiling imposed in the aftermath of the Asian financial crisis more than two decades ago was recently abandoned, and a target of 6.3% of gross domestic product set for this year. India’s deficit is set for a blowout to more than 7% of GDP, and the IMF predicts South Africa’s shortfall could be double the 6.8% the government projected before the virus outbreak.
India now is teetering on the edge of junk status by all three major credit ratings agencies, while Indonesia is in only a slightly more secure positioning. The likes of South Africa and Turkey already are in speculative grade by Moody’s Investor Service, Fitch Ratings Ltd., and S&P Global Ratings.
For many countries, rising SOE debt was a problem well before the coronavirus began spreading. In some cases, governments were already bailing out struggling businesses, as in the case of South Africa’s power utility Eskom Holdings SOC Ltd. and its national airline, South African Airways. In Indonesia, two state insurers defaulted on payments to policyholders earlier this year and Krakatau Steel, the nation’s largest steelmaker, teetered on the brink of bankruptcy.
The pandemic has only amplified those risks.
In India, state-run banks pose a huge headache for authorities. The banking industry has one of the world’s worst stressed-asset ratios at 9.3%. The government has already pumped in 2.6 trillion rupees ($34 billion) into its public-sector banks in the three years to March 2020, and may be forced to do more.
Ashish Gupta, a banking sector analyst at Credit Suisse Group AG in Mumbai, estimates Indian banks will need to raise about $20 billion this year to keep capital buffers fresh, with public-sector units needing about $13 billion in recapitalization from the government.
In Indonesia, which has more than 100 state-owned firms, the government has set aside $10 billion in financial support for several SOEs, including for its national carrier PT Garuda Indonesia. Deputy Finance Minister Suahasil Nazara told investors on a conference call recently that PT Hutama Karya, which is building highways in the country, may need aid, but that any direct financial assistance would be “fairly limited” and “not every single problem will be handled with a capital injection.”
For South Africa, the government is already deep into propping up Eskom, one of its most critical state-owned firms generating about 95% of the nation’s electricity. Eskom was relying on bailouts even before the pandemic to make interest payments on its 450 billion rand ($27 billion) of debt. About 350 billion rand of that pile is guaranteed by the government.
With authorities planning to limit future support, Eskom’s borrowing costs have soared. The yield on the company’s 2028 dollar bonds has climbed 186 basis points since the beginning of January to 9.07%.
In Latin America, airlines are looking to governments for bailouts as more of them face collapse. Latam Airlines Group SA, the largest carrier in the region, this week followed Colombia-based Avianca Holdings SA into Chapter 11 bankruptcy court in New York.
One saving grace for governments is that global interest rates are low for now, said Taimur Baig and Ma Tieying, economists at DBS Group Holdings Ltd. in Singapore.
“But that also means GDP and revenue growth will be low,” they wrote in a report. “The ongoing debt binge, much of it inevitable this year, pose plenty of risks for the future.”