New perspectives: Diaspora bonds: A potential game-changer

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In an effort to attract foreign investment, the government is set to introduce a diaspora bond for Zimbabweans overseas. This was revealed by the Finance and Economic Development minister Mthuli Ncube speaking at a side meeting with investors at the United Nations General Assembly 77th session in New York.

A diaspora bond is a government debt security with investors drawn from the country’s nationals living abroad, their descendants, or those with another connection to the nation. Given the challenges that many African governments are facing in responding to the Covid-19 pandemic and the rising cost of commodities as a result of the Russia-Ukraine conflict, increased engagement with the diaspora could lead to new sources of investment capital, and diaspora bonds could play a useful role if managed well.

Despite the appeal of the diaspora bond as a concept, to date only two countries have had large-scale success with such programmes: Israel and India. The experiences of these two countries show that the diaspora is often called upon when countries are having difficulty in borrowing from other sources.

African governments are looking more to their diaspora — can bonds work?

African countries rely heavily on external funding to finance their development. However, FDI and ODA have declined in recent years. Traditional donor aid is likely to wane in the future as donor countries focus their resources internally. Remittance flows have also been affected by the economic crisis and consequently developing institutions are seeking new sources of resource mobilisation.

In Africa, Ethiopia is the first country to issue a diaspora bond to date, although several countries are considering following suit. Regular bond issuances in African countries have been available on the international market, such as the Morocco issuance (2010), and Senegalese, Namibian, Nigerian and Zambian issuances in 2011 and 2012.

Ethiopia issued its bond to address a critical national electricity crisis. Its 2011 bond issuance was needed to allow the country to single-handedly build a 5 250MW dam on the Nile River at an estimated cost of $4,8 billion. However, due to real and perceived risks, both attempts failed to produce the desired results.

Investors, in particular, lacked faith in the government. According to Transparency International's Anti-Corruption Centre, an estimated average of $1,2 billion to $3,1 billion dollars left Ethiopia as illicit financial flows each year between 2005 and 2014. Furthermore, the government failed to comply with local regulations, such as bond registration with the Securities and Exchange Commission (SEC).

Nigeria is also an intriguing case study of sub-Saharan African diaspora bonds. The country raised nearly $300 million in its first-ever diaspora bond in 2017, demonstrating the size and strength of its diaspora communities. However, according to a recent Südwind Institut report, while the amount raised is impressive on a transactional level, it is far less than the $25 billion in remittances reported in 2018. According to press reports, the Nigerian government is considering issuing a second diaspora bond to offset the country's budget deficit, which is expected to rise as a result of the impact of the Russia-Ukraine conflict on commodity prices.

These figures demonstrate the possibility of tapping the diaspora for additional funding, subject to a variety of factors which I will discuss later on.

Diaspora bond opportunities

While diaspora remittances have traditionally been used to meet the immediate needs of family members, diaspora bonds can have far-reaching positive effects for the country. Diaspora bonds may allow the government and potential project sponsors or corporates to diversify their funding sources while borrowing at below market rates and longer tenors. Diaspora bonds can also be used to fund larger projects, such as infrastructure projects, housing and social safety net programmes, while satisfying diaspora communities' desire to help the country.

The government can benefit from diversifying its investor base while borrowing at below market rates, since bonds are offered at so-called patriotic discounts and often during crises.

The diaspora can benefit from having a well-defined secure financial vehicle that channels members’ altruistic ambitions to help the country.

It is plausible — but not guaranteed—that a diaspora bond can channel funding through a government body for broader development purposes.

What are the challenges?

Despite their potential benefits, diaspora bonds are underutilised and subject to significant constraints. First, while several African countries have attempted to use diaspora bonds (Egypt, Kenya, Ethiopia and Nigeria), only two countries both outside of Africa have established multiple successful rounds of diaspora bonds: India and Israel.

One feature of the India-Israel relationship is that both countries relied on various institutional mechanisms to achieve success. Israel, for example, registered its bond with the Securities and Exchange Commission (SEC), whereas India relied on a global network of Indian and foreign commercial banks that specialised in dealings with Indians in the diaspora to facilitate uptake.

In contrast, most African countries that have tried diaspora bonds have only had one relatively successful round (Kenya, Nigeria), or the funds have failed to attract much interest. Furthermore, the risk of diaspora bond default, volatility in African financial markets as a result of overreliance on commodities (such as oil in Nigeria), and a lack of transparency and confidence in domestic financial markets have reduced diaspora interest in these instruments.

Measures to improve uptake

Tapping into the diaspora for investment is a good initiative. Given the potential for these bonds to support development, the government can actively take several steps to increase investment appetite for bonds initiated by those in the diaspora.

First, there is a need for bond governance, including detailed reporting on how bond proceeds are used. Second, there is a need to clearly demonstrate the link between the bonds and a credible development strategy that promotes sustainable economic growth and a favourable investment climate.

Third, the government should focus on specific projects or enterprises that generate enough economic value to support bond repayment while also meeting the significant needs of the general public, such as infrastructure.

Fourth, the government should collaborate to improve bond credit in accordance with the standards of international development agencies and financial institutions.

Fifth, in order to appropriately market to the target group, there is a need for reliable and updated data on the diaspora in general and remittances in particular.

Detailed feasibility studies on diaspora behaviour in the destination and home countries must be developed and regularly updated.

The government must understand where the diaspora members are, their numbers, their earnings and preferences on how they manage their money. This will allow the government to build relevant strategies accordingly.

Sixth, and most importantly, in order to further enhance the confidence of diaspora investors, the proceeds of diaspora bonds should be earmarked for projects appealing to the diaspora such as infrastructure projects, housing, education and other social amenities.

Issuing a diaspora bond should not necessarily be associated with a simple need for money.

 It should be marketed as a need for well integrated and transformational projects. To the extent possible, funds from diaspora bonds should be formally ring-fenced from the general resources of the government.

Finally, in order to be successful, the diaspora bond must meet the Securities and Exchange Commission’s governance and transparency standards.

Zuze writes in his personal capacity. His interests are in socio-economic policies, domestic resource mobilisation, mineral resource governance, illicit financial flows and public finance management. These weekly New Perspectives column, published in the Zimbabwe Independent, is coordinated by Lovemore Kadenge, an independent consultant, past president of the Zimbabwe Economics Society and past president of the Chartered Governance & Accountancy Institute in Zimbabwe (CGI Zim). — [email protected]  or phone +263 772 382 852.

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