Risk Rating: Negative Outlook for El Salvador

Moody's maintained the Salvadoran government's long-term and senior unsecured issuer rating at B3, but decided to change the outlook to negative, a downgrade that reflects persistent concerns about public debt sustainability.

Monday, February 8, 2021

The negative outlook reflects the credit risks associated with the implementation risks of its upcoming fiscal adjustment efforts, high liquidity risks driven by large gross financing needs in 2021-23, and persistent concerns about debt sustainability despite an expected fiscal adjustment, the rating agency explained.

Learn more about the "Central American countries market and economic situation monitoring system", prepared by CentralAmericaData.

From Moody's report:

New York, February 05, 2021 - Moody's Investors Service, ("Moody's") has today confirmed the Government of El Salvador's long-term issuer and senior unsecured ratings at B3. Moody's also changed the outlook to negative. This concludes the review for downgrade that was initiated on 16 November 2020.

While financing conditions will remain very tight in both the domestic and external markets this year and next, Moody's expects the government to begin consolidating its finances in the second half of this year, which would catalyze access to multilateral debt financing to cover most of its funding needs this year, lowering the likelihood of a credit event in the next two years.

The negative outlook captures the credit risks associated with implementation risks of their forthcoming fiscal adjustment efforts, high liquidity risks driven by large gross financing needs in 2021-23 and persistent debt sustainability concerns despite an expected fiscal adjustment. Even though Moody's believes the government will begin consolidating its finances this year and through 2022, debt is unlikely to stabilize, surpassing 90% of GDP, and market access will be needed in 2022 as an $800 million bond matures in January 2023.

The foreign-currency (FC) country ceiling remains unchanged at B1, maintaining the existing gap between the sovereign rating and the FC ceiling. The two-notch gap reflects the deteriorating predictability of institutions and government actions, weak policy effectiveness and the relatively large share of the country's external debt being government debt.

Moody's does not assign local currency (LC) country ceilings for El Salvador because the country is fully dollarized. However, Moody's uses the considerations for the LC ceiling to assign the FC ceiling.

Based on the current administration's track record in fiscal management and the size of the adjustment required, Moody's believes it will be unlikely for the government to implement the kind of revenue and expenditure measures needed to stabilize the debt metrics by 2023. However, Moody's considers the government will begin fiscal consolidation efforts this year, narrowing the fiscal deficit over a two-year period to at least 6.5% of GDP in 2022 from 9.6% of GDP in 2020.

The government's stated commitment to begin consolidating its finances would catalyze multilateral financing in amounts sufficient to cover El Salvador's funding needs this year and contribute to reduce debt sustainability concerns. Moody's thinks a combined fiscal adjustment of at least 3 percentage points of GDP would also facilitate access to global markets in 2022, which would be crucial as an $800 million global bond is due on 24 January 2023.

On 24 December, El Salvador's legislative assembly approved the 2021 budget, lowering the budget for several ministries but also incorporating important spending increases in education, health and defense, amounting to 2.9% of GDP. While the approved budget initially entailed an 8.8% of GDP deficit, Moody's forecasts the deficit will decline to 7.5% of GDP in 2021, above the government' expectation for the year, which is 6.5% of GDP. Still, a fiscal deficit between 6.5% and 7.5% of GDP in 2021 will remain high and more than double the size of the deficit El Salvador posted between 2015-19 (3% of GDP).

To cover financing needs in 2021, which Moody's estimates at 16.6% of GDP, the government has indicated its intention to rollover most of the short-term domestic debt and contract multilateral debt. The government has identified $1.68 billion (6.4% of GDP) in potential additional multilateral financing which, in addition to $498 million (1.9% of GDP) that the government has already contracted for the year, would leave the government's funding gap at $140 million (0.5% of GDP) for this year, according to Moody's estimates, a relatively modest amount that the rating agency considers the government should be able to fund.

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