Market Financing

In Station 7 you will be introduced to an additional tool to assess the risks posed by shifts in market sentiments: the Market Financing Tool. It is important to assess shifts in market financing conditions because, when significant, risks associated with these shifts can affect both the external and overall risk of public debt distress.

The evolving financing landscape and the challenges emerging from a weaker environment have reshaped the nature of risks facing LICs. One source of financing that has increased in importance, particularly for “frontier” LICs that attract foreign portfolio investors, is borrowing from international bond markets. As a result, LICs are increasingly exposed to a wider set of vulnerabilities, including market volatility.

Signals from the Market Financing Tool

This tool is applicable to countries with market access, which is defined by the same eligibility criteria used for the market financing stress test discussed in Station 5.2. A country is defined as having market access when it has outstanding Eurobonds and/or the capacity to access international financial markets on a durable and substantial basis.

The Market Financing tool produces an additional signal regarding the extent of market-financing pressures, on top of the market financing tailored stress test, to fully capture the extent of liquidity risks faced by countries with market access under the baseline scenario.

The market financing pressures signal does not directly inform the mechanical risk rating but informs judgement. This will be discussed in Station 8.

This new tool will assess whether estimated gross public financing needs (as a share of GDP) and prevailing Emerging Market Bond Index (EMBI) spreads point to risks of experiencing debt distress.

Market-financing vulnerabilities would be deemed significant if there were consistent early warning signals across the two indicators.

A breach of both benchmarks (GFNs above14 percent of GDP and EMBI spreads higher than 570 bps) would signal heightened liquidity needs at times of adverse external market conditions, thereby increasing rollover risks and the likely need to seek exceptional financing.

If bond spreads are not available, a breach in the GFN threshold may be treated as an early warning sign for potential market financing pressures.

The "Output 5-2 Market module" sheet displays the results of the market financing tool, also shown in Station 6 as it is a key output for any country that has substantial access to market financing.

Panel charts with the external debt burden indicators from the market-financing tailored stress and baseline scenarios complement the analysis.

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