El Salvador: Debt Rating Confirmed

Fitch Ratings has kept the debt rating in foreign currency at "B-", arguing that political tension has been reduced following the pension reform approved in October last year and the budget passed in January of this year.

Thursday, June 14, 2018

Fitch Ratings-New York-13 June 2018: Fitch Ratings has affirmed El Salvador's long-term, foreign-currency Issuer Default Rating (IDR) at 'B-' with a Stable Outlook. 

From a statement issued by from Fitch Ratings:

KEY RATING DRIVERS 
El Salvador's 'B-' rating reflects its recent history of local currency defaults and heightened political tensions that made reaching agreements on government financing difficult (a two-thirds majority in the legislature is needed for external debt authorization).

Political agreements between the FMLN-led executive branch and the main opposition party, ARENA, over pension reform in October 2017 and the 2018 budget passed in January (with current-year financing authorizing) signaled a reduction in political tensions.

Nevertheless, the 2019 presidential election cycle could make further agreements difficult to achieve toward the end of 2018 when the campaigns begin for the February 2019 presidential election. In congressional elections in March 2018, the ARENA party increased its share of seats in the National Assembly, although it will have to pass legislation with minority GANA, PCN or PDC party support. Public disaffection with corruption allegations and political gridlock contributed to the loss of votes in absolute terms for both of the major parties. This could increase the odds of a win by an outsider presidential candidate, such as Nayib Bukele, the former mayor of San Salvador. However, he would need to form his own political party or receive the backing of a qualified political party to be eligible to stand. Governability challenges could re-emerge post-election if the branches of government remain divided. 

The government faces a significant jump in financing needs in 2019 with a USD800 million external bond amortization in December. The government is seeking congressional authorization to issue up to USD2.46 billion to re-profile maturities due in 2019 through 2024. A successful debt authorization agreement, especially for the 2019 maturity would reduce rollover risk heading into the presidential election cycle.

Economic growth remained steady at 2.3% in 2017, driven in large part by consumption propelled by a sharp increase in remittances. Fitch expects growth to remain relatively steady at 2.4% in 2018 with consumption slowing marginally while investment -- both public and private -- rises. Private credit demand and construction have picked up with confidence in 2018. However, El Salvador's potential growth remains weak, near 2.5%, due to a number of factors including political polarization, high crime rates, poor infrastructure and net outward migration. Inflation and inflation expectations remain low compared with the 'B' median due to official dollarization.

In March 2018, the central bank released the revised national income accounts with a 2005 base year from 1990. The new series showed that nominal GDP was 11.5% lower than the previous series for 2016. As a result, a number of key sovereign indicators are now lower than the previous series such as per capita GDP, the fiscal deficit to GDP and general government debt to GDP.

The fiscal deficit has improved markedly (notwithstanding the deteriorating effect of the GDP series revision) over the last four years falling to 2.5% of GDP in 2017 from 4.5% of GDP in 2013. Improved tax collection was a key element of the improvement due to increased taxes on profits from large firms and on telecommunications services. Subsidies were trimmed as well. Fitch expects the fiscal deficit to remain relatively steady over the forecast horizon due to a higher interest burden and spending pressures that could largely offset the expected savings from the 2017 pension reform. 

The national assembly passed the pension reform in October 2017, which provides the government fiscal savings estimated at 0.8% of GDP per annum and reduces the financing needs over the near term as well. Key elements of the reform included an increase in the contribution rate to 15% from 13%, extending the maturity of the outstanding non-negotiable pension fund certificates (CIPs) held by private pension funds to 30 years from 25 years with new certificates that have yet to be issued having a maturity up to 50 years, and introducing a 3-5 year grace period on the existing bonds. 

Fitch expects the primary fiscal balance to stabilize El Salvador's government debt burden at nearly 70% of GDP over 2018-2019. However, El Salvador's debt and interest burdens remain above the 'B' median. Fitch expects that further fiscal adjustment and/or stronger economic performance would be necessary to place the government debt/GDP ratio firmly on a downward trajectory.

El Salvador's current account deficit improved to 2% of GDP in 2017 down from 5.4% of GDP in 2014 as a result of strong growth in remittances and the fall in the oil price that has reduced imports. The current account deficit is expected to widen in 2018 and 2019 to 2.6% and 2.8% of GDP, respectively, due to the reversal of these positive trends with remittance growth slowing and imports rising on the back of higher oil prices. 

External balance sheet weaknesses reflect the sovereign debt. El Salvador's external debt service, 26% of CXR in 2017, is more than double the 'B' median of 12%. El Salvador's sovereign net foreign liability position, 22.6% of GDP in 2017, is in line with the 'B' median as well as its international reserve buffer at 3.4 months current external payments in 2017. El Salvador's commodity export dependence is also well below most 'B' peers.

SOVEREIGN RATING MODEL (SRM) and QUALITATIVE OVERLAY (QO)
Fitch's proprietary SRM assigns El Salvador a score equivalent to a rating of 'B-' on the long-term, foreign-currency (LT FC) IDR scale. 

Fitch's sovereign rating committee did not adjust the output from the SRM to arrive at the final LT FC IDR.

Fitch's SRM is the agency's proprietary multiple regression rating model that employs 18 variables based on three-year centered averages, including one year of forecasts, to produce a score equivalent to a LT FC IDR. Fitch's QO is a forward-looking qualitative framework designed to allow for adjustment to the SRM output to assign the final rating, reflecting factors within its criteria that are not fully quantifiable and/or not fully reflected in the SRM.

RATING SENSITIVITIES
Future developments that could, individually or collectively, result in a positive rating action include:
--Political agreements that increase the government's capacity to access external financing and that reduce the rollover risk for the global 2019 bond amortizations; 
--Further fiscal adjustments that lead to a steady improvement in the government's debt and interest burdens.

Future developments that could, individually or collectively, result in a negative rating action include:
--Failure to obtain the external financing necessary to make upcoming amortization payments;
--Fiscal deterioration and re-emergence of financing constraints.

KEY ASSUMPTIONS
Fitch assumes that U.S. growth continues to support El Salvador's economy and balance of payments prospects and that international oil prices evolve in line with the forecasts published in the Global Economic Outlook. Furthermore, Fitch assumes that monetary policy normalization in the U.S. proceeds in a gradual and orderly manner and does not seriously jeopardize market access for emerging markets. 

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More on this topic

El Salvador: Risk Rating Confirmed

June 2019

"The 'B-' rating reflects the recent history of local currency defaults, as well as the political uncertainties influencing congressional approval of key economic reform measures."

This is the second consecutive year that the agency decided not to change the country's rating, as Fitch Ratings reported a year ago that it had decided to maintain the rating of foreign currency debt at "B-", and on that occasion argued that political tensions made it difficult to reach agreements on government financing.

El Salvador's "Restricted Default" Status Removed

May 2017

Fitch Ratings has raised the Salvadoran debt rating to CCC, but warned that political polarization could continue to affect the approval of new long-term loans.

The decision to raise the IDR risk rating in local currency was taken by Fitch Ratings after the government paid interest on Pension Funds Certificates (CIPs) to private pension funds on April 28. 

El Salvador's Debt Rating Downgraded Again

February 2017

In line with recent warnings issued by other credit rating agencies regarding the country's bleak fiscal outlook, Fitch has reduced the debt rating from B + to B, and changed the outlook to negative.

From a press release issued by Fitch Ratings:

Fitch Ratings-New York-01 February 2017: Fitch Ratings has downgraded El Salvador's Long-Term Foreign and Local Currency Issuer Default Ratings (IDRs) to 'B' from 'B+'.

Fitch Lowers Rating Outlook for El Salvador

July 2012

Fitch Ratings has downgraded the economic perspective of the rating, making it negative outlook BB.

From the press release by Fitch Ratings:

Fitch Ratings - New York - July 24, 2012: Fitch Ratings affirms its ratings for El Salvador as follows:
- Long-Term Ratings (IDR) in foreign currency and local currency 'BB';

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