Frontier Africa Reports

FX Risk, climate/Sovereign Finance and debt sustainability

The attention on FX risk mitigation in the international development community has never been as high as it is today. Exchange rate depreciations have increasingly been recognized as threats to debt sustainability in low and lower middle-income countries (L(M)ICs), particularly in Africa. Another reason for the increased attention on FX risk is the high volume of expected climate finance flows to these countries in hard currency.

Without action, the unhedged currency exposure of developing economies may triple by 2030 from the current level of USD 2 trillion as climate change, global imbalances and geopolitical tensions are expected to further increase currency volatility.

In 2023, currency risk mitigation was a key topic of discussion at the G20 working groups, COP28, the Summit for a New Global Financing Pact, etc.

Since 2007, TCX has worked with MDBs and DFIs to hedge their hard currency financing to L(M)ICs, essentially converting it to fixed local currency obligations for borrowers. Such hedged financing (known as indexed local currency financing) pays out hard currency but ensures that borrowers are not impacted by fluctuations in the exchange rate. This makes their debt service payments predictable and contributes to their financial resilience.

In the Fall of 2023, TCX prepared a practical proposal, a ‘Roadmap to Financial Resilience’, on how to scale up FX risk hedging for African countries through policy actions, mandates to development lenders.

This side will gather governments and the development ecosystem to delve into the topics of local currency, debt sustainability and FX risk, share views and ideas, and suggest actionable solutions.