Angola’s high debt weighs down rating

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Angola’s Long-Term Foreign-Currency Issuer Default Ratings has been affirmed at B by Fitch, with the outlook changed from stable to negative, based on the country’s deteriorating debt metrics.

The revision of the outlook to negative reflects worsening debt metrics, the continued fall in external reserves and the delayed and slower than expected economic recovery.

Angola’s general government debt (GGD) has continued to rise, touching 80.2% of gross domestic product (GDP) in 2018 and Fitch expects a further increase to 83.8% in 2019, well above the rating agency’s current ‘B’ median of 59.1%.   With the inclusion of the debt of the state-owned oil company, Sonangol, total public sector debt will climb to 88.8% of GDP in 2019.

The country’s upside risks, particularly from further exchange rate depreciation, remain high. Some of the deterioration in debt metrics is the result of its currency, the kwanza’s, depreciation. The country’s corresponding foreign-currency liquidity risks are somewhat mitigated by the fact that the government earns much of its revenue in dollars. The presence of $19.9 billion, 21%, of 2019 GDP in oil-collateralised public external debt constitutes a downside risk for other government creditors.

On a commitment basis, the fiscal balance turned to a surplus of 3% of GDP in 2018 from a deficit of 6% in 2017. Incorporating the clearance of domestic arrears, the 2018 fiscal balance on a cash basis stood at a deficit of 1.7% of GDP. The deficit reduction accomplished in 2018 was supported by higher oil prices, but the non-oil primary deficit also narrowed to 6.5% of GDP, from 12.4% in 2017, reflecting genuine consolidation measures.

Despite the Angolan government’s approved supplementary budget for 2019 that targets a balanced budget in commitment terms. Given the planned clearance of additional domestic arrears and bank recapitalisations, Fitch projects a cash deficit of 1.8% of GDP. The forecast is based on an oil price of $65 per barrel and production of 1.4 million barrels per day (mbpd).

Lower oil prices or a fall in production could take the fiscal balance into a larger deficit. A further delay in the introduction of value-added tax, which was recently postponed from July to October 2019, could also take the fiscal balance into a larger deficit.

The rating agency has also highlighted that the continued decline of foreign exchange reserves has raised external risks particularly in the face of elevated external financing requirements. This is amid continued pressures on the kwanza, despite the international monetary fund (IMF) providing support through the external financing facility.

Gross foreign-currency reserves fell from $15.4 billion at end-2018 to $15 billion by end of May 2019, their lowest level in nine years. In 2018, reserves fell by $2 billion (11.7%) as the central bank sold dollars to smooth the depreciation of the kwanza and to support foreign currency liquidity.

In recent months, the National Bank of Angola (BNA) has begun to scale down its foreign exchange (FX) sales. Along with a small, albeit, deteriorating current account surplus, this should help reserves stabilise in 2019. The rating agency forecasts reserves by end 2019 to be at $16.3 billion or 5.4 months of current external payments.

However, the spread between the market FX rate and the parallel rate continues to expand, standing at 35% at end-June 2019, up from 26% in third quarter of 2018. While partly the result of increased compliance requirements is continued expectations of further devaluation and further downward pressures on the currency.

The rating agency forecasts overall GDP growth of just 0.4% in 2019. Declining oil exports, the resulting tight dollar liquidity and the erosion of purchasing power have depressed overall domestic demand and caused GDP to contract for three consecutive years.  Crude oil production averaged 1.49 mbpd in 2018, down from the average of 1.73 mbpd in 2008 to 2017. Production fell further to 1.26 mbpd in the first quarter of 2019.

However, Fitch expects that new production at Kaombo Sul will bring full-year 2019 production to approximately 1.44 mbpd. The rating agency also projects that if new oil production is enough to offset declines in existing wells, Angola’s medium-term GDP would only grow at around 3% per year.

Angola’s B rating is nevertheless bolstered by the government’s ability to make significant macro-fiscal adjustments and the country’s large natural resource endowments. This has been balanced against a high dependence on and structural declines in oil production, high inflation and structural weaknesses.

This was evidenced following the completion of the first review of the IMF extended fund facility In June 2019, which enabled the disbursement of $248 million. In addition to the FX regime adjustment and fiscal tightening, the government has begun a reform of the oil sector that stripped Sonangol of its role as the sector’s regulator. The government has approved a plan to privatise Sonangol’s non-core businesses to allow the company to focus on exploration and production.

Angola is also on track to receive $1.25 billion in additional financing in 2019 if it remains on track with the IMF programme. The country will also receive budget support from the World Bank and African Development Bank, plus an additional amount of Eurobond issuance expected in the second half of 2019. The additional external financing will help Angola meet its $12.3 billion, or 33.5% of current external receipts in public and private external debt service in 2019.

On the negative side, the combination of foreign currency shortages and earlier kwanza devaluation led to very high inflation despite the Angolan economy remaining in recession. The country’s year-on-year consumer price index (CPI) growth peaked at 42% in December 2016 but remained above 20% through the first quarter of 2018. Inflation slowed to 17.4% as of May 2019, but the current depreciation of the exchange rate and ongoing fiscal adjustments will keep average annual inflation at 17% in 2019. This is well above the current ‘B’ median of 3.8%.

Despite BNA lowering the main policy rates four times by a total of 250 basis points (bp), since July 2018, to help support the domestic economy, the slowing disinflation and pressures on the kwanza will limit the central bank’s ability to pursue more accommodative monetary policy in the near term.

The country’s rating is however negatively impacted by its banking sector and a contingent liability to Angola, according to Fitch. Asset quality remains poor, with the ratio of non-performing loans to total loans having increased to 28.0% as of March 2019, up from 22.8% a year earlier.

Angola is finalising a restructuring plan for Banco de Poupança e Crédito, which Fitch expects will require recapitalisation by the government.

The BNA has also begun an asset quality review of 12 Angolan banks, accounting for 93% of the banking sector’s assets. The review is likely to highlight weak capitalisation across the sector. Angola will prepare a plan for improving stability across all public banks, which have been plagued by weak balance sheets resulting from poor governance and risk management.

Angola’s rating is also discoloured by structural weaknesses, most notably poor performance on governance and human development indicators and the highest level of commodity dependence among Fitch-rated sovereigns. GDP per capita has fallen below the ‘B’ median owing to kwanza depreciation.

According to the rating agency, a further deterioration of external international reserves and or increased pressures on external liquidity could worsen the country’s rating.

Failure to stabilise public sector debt to GDP ratio and to implement a reform agenda that supports non-oil GDP growth could also lead to a downgrade in Angola’s rating.

On the upside, a steady rise in oil revenue supporting an improved sovereign balance sheet and the rebuilding of external reserves would upgrade the rating, according to Fitch.

The rating agency also projects that a firm decline in general government debt over time would also upgrade the country’s rating.

Fitch also forecasts that improvement in the business environment as well as income per capita, and rising governance standards would lead to improvement in Angola’s rating.