Egypt, South Africa, Ghana and Kenya are the four emerging markets that could suffer the most from higher sovereign debt refinancing rates, S&P Global Research said yesterday. The ratings agency ran stress scenarios to gauge the effect that rapidly rising borrowing costs for sovereigns would have on budget deficits, looking at scenarios where refinancing rates rose by 100 bps, 200 bps, and 300 bps.

In a “rate shock” scenario where refinancing rates rose 300 bps, Egypt’s interest expenditure as a ratio of GDP would rise 1.2 percentage points (ppt) in the first year. This is slightly lower than the 1.3 ppt increase S&P sees South Africa facing in this scenario, and higher than the 0.9 ppt increase Ghana and Kenya would face. According to the ratings agency, Egypt, India, and Nigeria’s debt service payments already exceed 30% of state revenues in calendar year 2021 — without any changes in current refinancing costs. In the draft state budget for the upcoming fiscal year, Egypt’s Finance Ministry said it expects debt service costs to account for nearly a third of overall government spending.

Part of the problem is the fact that Egypt has a “relatively sizable” portion of its sovereign debt in FX, which complicates its ability to control financing costs, S&P says. Colombia, Ghana, Kenya, Turkey, and Ukraine are also in the same boat as Egypt. On the opposite end of the spectrum, Brazil, China, India, South Korea, the Philippines, and South Africa have greater control over their financing costs because they “finance themselves almost exclusively in local currency.”

The shock isn’t a certainty, however, and depends largely on why rates end up rising: “If rates rise quickly to reflect rapid employment gains and buoyant GDP growth, against the backdrop of steady increases in productivity, the higher cost of debt servicing will almost certainly be offset by improving state revenue and more rapid consolidation of the primary (non-interest) government accounts,” S&P says. The risk scenario is if rates jump because of a “delayed” response from central banks tightening their monetary policy to face inflation as a result of stagnant post-covid productivity. In this scenario, interest rate shocks might be even more severe, resulting in a scenario where “growth would falter, exchange rates weaken, and credit fundamentals suffer.”