Are Credit Rating Agencies the bane of development in the Global South?

The African Union is the first continental body to condemn the "big three" international rating agencies Moody's, Fitch and S&P Global Ratings after several complaints by African leaders following a mass downgrade during the COVID-19 pandemic.

A United Nations Development Programme (UNDP) study in April also projected a US$ 74.5 billion savings for African countries if credit ratings were based on “less subjective assessments”.

At an explosive side meeting in Washington DC on the margins of the 2023 World Bank/IMF Spring Meetings, the UNDP opened a can of worms on the impact of credit ratings on the cost of development finance in Africa. African finance and economy ministers unequivocally backed the call for a review of international financing systems.

“If we want to bring about change, we need to change the game,” said Oulimata Sarr, Senegal’s economy minister. “It is time for Africa to have its own credit rating agency. However, major challenges, such as systemic bias and limited data are still a hindrance,” said Ken Ofori-Atta, Ghana’s finance minister present at the event. 

The UN Assistant Secretary General and UNDP Regional Director for Africa, Ahunna Eziakonwa, further painted a picture of the financial poverty Africa is facing against the injustice served by the rating agencies. “We are at the heart of polycrisis and African governments are struggling with a drought in development financing… We urgently need more fairness and justice in the way we conceptualize multilateral agencies. We need to foster agency for African people to meet development aspirations and a system where risk can be fairly priced.”

Meanwhile, the capacity of the “big three” rating agencies to determine the sovereign credit ratings for African countries where data is often missing or of poor quality was questioned at this meeting organised by the UNDP, the Africa Growth Initiative at the Brookings Institution and AfriCatalyst.

The Director of the Africa Growth Initiative at the Brookings Institution, Aloysius Uche Ordu, explained that despite the difficulty in quantifying future uncertainties by the rating agencies, “they employ inexperienced staff who are good in mathematics but lack an appreciation of the complexity of the real world, especially the complex operating environment in Africa.”

Coincidentally,  S&P Global Ratings and Moody's are based in the U.S., while Fitch is dual-headquartered in New York City and London, and is controlled by Hearst.

Ghana has been the most vocal against the “big three” after all the international rating agencies downgraded the country’s creditworthiness to junk status at the height of its economic crisis. The country has struggled to access the capital market following the rating. 

“The tag of Africa as investment risk is little more than, in substance, a self-fulfilling prophecy created by the prejudice of the international money market, which denies us access to cheaper borrowing, pushing us deeper into debts,” said Ghana’s president Nana Akufo-Addo in his speech at the UN’s 77th General Assembly in 2022.

“It has become clear if ever there was any doubt, that the international financial structure is skewed significantly against developing and emerging economies like Ghana. The avenues that are opened to powerful nations to enable them to take measures that would ease pressures on their economies are closed to small nations,” he added.

Criticism Outside Africa

While Africa battles with its rating woes, the Arab states have also called for an Arab credit rating agency to “operate with utmost impartiality, transparency, and reliability, free from the influence of personal biases and international interests observed in certain renowned global rating agencies.”

This call was championed by Adnan Yousif, Chairman of the Bahrain Association of Banks (BAB) at the Annual Investment Forum held in Abu Dhabi, UAE, in May 2023 with the same complaints as the African region. 

India also made an appeal to the “big three” this year for an upgrade while questioning the rating agencies about their parameters in deciding a country's rating. Moody's, like S&P and Fitch which rated India with 'BBB-', had rated India at the lowest investment grade of "Baa3" with a "stable" outlook.

All three ratings agencies have denied any bias and say their ratings follow the same formula everywhere in the world.

Alternative Agencies

Like China which has its own Dagong Global Credit Rating Company Ltd. that issues credit ratings for all bond issuers in China, the African Union has advanced discussions to create an African credit rating agency.

According to the lead expert for country support on rating agencies with the African Union, Misheck Mutize, the agency would craft its own assessment of the risks in lending to African countries and would be based on the continent.

"Our goal has not been to replace the big three...we need them to support access to international capital. Our view has been to widen diversity of opinions. We know the big three follow the opinion of other smaller ratings agencies. They've acknowledged that other smaller ratings agencies have got an edge in understanding domestic dynamics," he was quoted by Reuters.

In an article published by Misheck Mutize outlining the implementation of the African credit rating agency, he stated categorically that despite the adopted declaration and developed proposal for the legal, financial and structural aspects of the rating agency, “what’s not yet agreed is how the sustainability, credibility and independence of the agency will be achieved”.

However, he outlined how it could be achieved stating that it could either be an organ of the union, funded by its member states’ contributions or a self-funded autonomous specialised agency of the union, with the latter being the better option.

“Because the credit rating business requires credibility and independence, the best option is the specialised agency. Examples already in operation are the African Export-Import Bank and the Africa Risk Capacity Agency.

“As an independent specialised agency of the AU, the agency would have diverse classes of shareholders. African governments could own it either directly or through their designated public institutions. Shareholding could include other smaller African-owned rating agencies, multilateral finance institutions and African national financial institutions.

“As a financing structure, the agency would adopt the “issuer-pay” business model. The issuers of debt will pay the agency for rating its entity and products.

“It would be fully funded by its shareholders and through loans from pan-African financial institutions. Multilateral development banks would either encourage or make it mandatory for their clients to have a rating from the African rating agency. Once this is done it should be able to sustain itself through revenue generated from its services,” Misheck Mutize explained in an article published by The Conversation.

The African rating agency could be established through an agreement signed by at least 10 member states targeting a 2024 launch, Mutize added. 

So far, only  32 African countries have received a sovereign rating from at least one of the “big three” agencies since 1994 when South Africa became the first African country to receive a sovereign rating.