El Salvador's Debt Rating Downgraded Again

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.

Thursday, February 2, 2017

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+'. The Rating Outlook was revised to Negative from Stable. The issue ratings on El Salvador's senior unsecured Foreign and Local Currency bonds are also downgraded to 'B'. The Country Ceiling is downgraded to 'BB-' from 'BB'. The Short-Term Foreign Currency IDR is affirmed at 'B'.

The downgrade reflects El Salvador's continuing high level of political polarization with a prolonged period of congressional gridlock that has severely limited the government's financing options and hindered meaningful fiscal measures to arrest the deterioration of public finances. The Negative Outlook reflects persisting risks to meeting financing needs for 2017 in the absence of a political agreement that unlocks additional external borrowing. 

Fiscal policy negotiations between the two main political parties broke down in January 2017 over disagreements on the 2017 budget. The political polarization between the government-led FMLN party and the main opposition ARENA party has prevented the government from issuing external debt since September 2014. A 2/3 majority of the Congress is needed to authorize external debt issuance, requiring agreement from the opposition. As a result, the government has relied mostly on the issuance of local short-term debt (Letes), which reached $1.07 billion as of end-December 2016 from $794 at year-end 2015. The legal limit of Letes issuance is $1.34 billion. Furthermore, government arrears have accumulated due to the lack of financing options and the resulting liquidity crunch. 

Fitch estimates El Salvador's 2017 financing needs at $1.3 billion (excluding short-term debt). Fitch's base-case scenario assumes it will be financed through some combination of external debt and local issuance. A further build-up of arrears can occur given the financing constraints the government is confronting. El Salvador has no long-term amortization of external commercial debt until 2019. Tax and pension reform measures require only a simple majority vote of the legislature and can help reduce financing needs, although the election cycle can hurt prospects for getting these measures approved in congress. 

In November 2016, the government and ARENA reached a partial agreement that included a Fiscal Responsibility Law (calling for a 3% of GDP adjustment over three years) and authorization of $550 million in external issuance. However, a final agreement over specific fiscal measures remains elusive. Failure to reach an agreement in a timely fashion, most likely under the auspices of an IMF program, could further constrain financing flexibility and result in a disorderly adjustment with significant damage to public finances and the overall economy.

El Salvador's fiscal deficit fell to 2.5% of GDP in 2016 from 3.3% in 2015 partly as result of fiscal restraint and relatively buoyant tax revenues, which grew by an estimated 6% in 2016, although there was some build-up of government arrears as well. 

El Salvador's GDP growth remains low compared to that of its peers, with five-year average GDP growth at just 2% compared to a 'B ' median of 4.1%. El Salvador's growth is estimated at 2.5% in 2016, similar to the growth rate in 2015. Fitch expects growth of over 2% in 2017-18. However, the continuation of such a modest rate of growth is insufficient to generate employment, reduce poverty or stabilize the general government debt dynamics. Political polarization, security concerns, and high emigration levels undermine the business climate and hinder investment prospects and growth. 

Fiscal deficits and weak growth are leading to a steadily increasing debt burden, to an expected 62.8% of GDP in 2017 up from 61.6% in 2016 and 60% in 2015. Furthermore, the interest burden is expected to continue to rise, growing to nearly 14% of revenues in 2017 from 12.9% in 2016. 
The 'B' ratings are supported by El Salvador's macroeconomic stability underpinned by full dollarization of the economy, adequately capitalized banking system and unblemished sovereign repayment record. The country has a higher income per capita, social development and governance indicators than peers. The banking sector remains sound due to prudent regulation, although the weak economy could affect asset quality and profitability.

More on this topic

El Salvador Still at Risk of Default

August 2017

El Salvador's 'CCC' Long-Term ratings reflect Fitch's assessment that political polarization complicating the sovereign's ability to meet its financing gap for 2017-2018, continues, highlighting the risk for default.

From a statement issued by Fitch Ratings:

Fitch Ratings-New York-28 July 2017: Fitch Ratings has affirmed El Salvador's Long-Term Foreign and Local Currency IDRs at 'CCC'.

El Salvador: Debt Rating Gets Worse

December 2016

Two months after reducing the rating from B + to B, Standard & Poor's has now reduced the note to B-, with a negative outlook.

From a press release by Standard & Poor's:

El Salvador's liquidity has deteriorated significantly because of protracted negotiations between the government and opposition parties on a comprehensive set of fiscal reforms that has weakened debt management.

El Salvador: Moody's Downgrades Rating to B1

August 2016

The government's inability to stop the growth of debt in the context of low economic growth and a high fiscal deficit is the reason for the reduction in the rating.

From a press release by Moodys:

New York, August 11, 2016 -- Moody's Investors Service has today downgraded El Salvador's issuer and debt ratings to B1 from Ba3 and placed the ratings on review for further downgrade.

Fitch downgrades sovereign rating to B+

July 2015

The agency said the growing fiscal deficit, low economic growth, political polarization and weak business confidence, were the triggers for the downgrading of long-term debt.

Fitch Ratings-New York-09 July 2015: Fitch Ratings has downgraded El Salvador's long-term foreign and local currency IDRs to 'B+' from 'BB-'.

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