Moody’s downgrades Zambia’s credit rating

MOODY’s Investors Service on Friday downgraded Zambia’s long-term issuer ratings to Caa1 from B3.
The downgrade, according to Zambia Business Times, follows a Fitch rating of a reaffirmation of a B rating with negative outlook barely 24 hours prior.
Zambia is currently grappling with accumulated debt and the Ministry of Finance has so far announced austerity measures to help curb subsequent accumulation as it simultaneously negotiates for a bailout package with the International Monetary Fund (IMF) amounting to US $1.3 billion.
On its website, Moody’s stated that the downgrade reflected ongoing fiscal consolidation challenges, pointing to an increasing government debt burden.
“These developments are contrary to Moody’s previous expectations that the debt burden would stabilise. Relatedly, and despite higher copper prices until recently, liquidity and external vulnerability risks are rising, reflecting larger gross funding needs than Moody’s previously estimated, higher public external debt and lower foreign exchange reserve buffers, trends which Moody’s does not expect to reverse,” Moody’s reported.
The bond credit rating agency stated also that Zambia’s outlook was stable, reflecting balanced risks at the Caa1 rating level.
“The outlook captures downside risks related to persistent fiscal and liquidity challenges, a high and rising debt burden, low foreign exchange reserves buffers and moderate domestic political risk. These challenges are balanced by strong growth potential derived from ample natural resources and a young population which point to potential upside risks in the medium term,” it stated.
“Concurrently, Moody’s has lowered Zambia’s long-term foreign-currency bond ceiling to B2 from B1, its long-term foreign-currency deposit ceiling to Caa2 from Caa1, and its long-term local-currency bond and deposit ceilings to B1 from Ba2.”
The ratings rationale, according to Moody’s, was linked to the country enduring fiscal consolidation challenges and increasing debt burden.
“While the government made gradual progress with fiscal consolidation in 2017 and cleared a portion of its arrears, challenges to fiscal consolidation are rising again. Moody’s expects these challenges to persist. As a result, according to Moody’s, Zambia’s government debt burden is likely to rise towards 70 per cent of GDP at the turn of the decade, from around 60 per cent currently. This contradicts Moody’s prior expectations that the debt burden would stabilise,” Moody’s stated.
“Moody’s estimates that the fiscal deficit amounted to 7.6 per cent of GDP in 2017 on a cash basis, which was higher than the budget target of seven per cent, although in line with Moody’s previous projections. Based on Moody’s estimates on budget implementation so far this year, the fiscal deficit for 2018 is expected to be around 7.8 per cent of GDP, well above the government’s 6.1 per cent target.”
It further noted that spending pressures have risen, “in particular from capital expenditure and interest payments, indicating increasing challenges for the government in meeting its fiscal consolidation objective.”
“With interest payments absorbing almost a quarter of revenue, and debt costs unlikely to decline, Moody’s now expects much slower fiscal consolidation in the next few years. The budget deficit is not projected to narrow below seven per cent of GDP until the next decade,” Moody’s stated.
It added that there were multiple signs that pointed to a rising government debt burden.
“These include a wider budget deficit over the next few years, official revisions to the level of external debt as of end 2017 and evidence of a further recent increase in external debt this year (from US$8.7 billion at end December 2017 to US$9.3 billion at end-March 2018), as well as potential downward pressure on the currency. Moody’s expects the debt burden to approach 70 per cent of GDP in 2020 from about 60 per cent in 2017, despite sustained nominal GDP growth,” it stated.
“In efforts to re-open discussions with the IMF on a potential programme, the authorities concluded a debt sustainability analysis exercise in June and announced a number of measures aimed at containing the pace of debt accumulation. These measures include the intention to postpone all non-concessional borrowings planned but not yet contracted, to cancel some of the current contracted debt that is not yet disbursed, and to renegotiate some bilateral loans. However, these measures lack implementation details. At this stage, the extent to which they will prove effective in bringing the debt to GDP ratio on a falling trajectory and preventing an increase in liquidity pressures, in particular when the Eurobond repayments start from 2022, remains unclear.”
The report further highlighted that despite higher copper prices until recently, government liquidity and external vulnerability risks were rising, as a result of higher financing needs and falling foreign exchange reserves.
“Consistent with the fiscal outlook presented above, and in the context of tightening financing conditions globally, Moody’s does not expect Zambia’s liquidity and external pressure to abate,” Moody’s stated.
“Fiscal slippage in 2018 will intensify the government’s liquidity challenges in financing persistently wider deficits, particularly given the high share of short-term domestic debt. Moody’s expects gross financing needs to exceed 17 per cent of GDP in 2018-19, and to rise further in the early part of the next decade as large Eurobond maturities fall due.”
It also reported that refinancing risk was exacerbated by the country’s narrow domestic capital market and exposure to changes in risk appetite by international investors.
“…as of 2017, about 60 per cent of Zambia’s government debt was contracted externally. Moreover, the significant proportion of debt denominated in foreign currency (also estimated at about 60 per cent of the total) heightens Zambia’s exposure to a depreciation of the exchange rate, which would raise the debt burden significantly and rapidly as seen in the recent past,” stated Moody’s.
“While the currency has been stable so far this year, downward pressure may intensify given Zambia’s fragile external position. The country’s foreign exchange reserves have fallen, contrary to Moody’s previous expectations, and despite a large increase in copper prices until recently and a narrower current account deficit to 3.9 per cent of GDP in 2017 from 4.6 per cent of GDP in 2016. Foreign exchange reserves reached US $1.8 billion as of April, 2018, equivalent to about two months of imports, down from about three months at end 2017, commonly considered a minimum level of reserves adequacy.”

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