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Rating Action:

Moody's confirms Ethiopia's rating, outlook negative

07 Aug 2020

London, 07 August 2020 -- Moody's Investors Service ("Moody's") has today confirmed the B2 issuer and senior unsecured rating of the Government of Ethiopia, with the outlook changed to negative. This concludes the review for downgrade initiated on 7 May 2020.

The review for downgrade reflected Moody's assessment that the country's participation in the G20 Debt Service Suspension Initiative (DSSI) raised the risk that private sector creditors would incur losses. In the last few weeks, Moody's has considered the evidence of implementation of DSSI for a range of rated sovereigns, and statements by G20 officials. While Moody's continues to believe that the ongoing implementation of DSSI poses risks to private creditors, the decision to conclude the review and confirm the rating reflects Moody's assessment that, at this stage, for Ethiopia, those risks are adequately reflected in the current B2 rating.

It remains unclear what influence is being applied to Ethiopia and to other participating sovereigns to treat private creditors in a comparable manner to official sector creditors. However, a number of elements suggest that the probability of broad-ranging private sector involvement has diminished. These include the apparent absence of progress in discussions about how private sector involvement ('PSI') would be effected in DSSI in general; indications by the G20 that PSI would require the support of the borrowing government; the government of Ethiopia's continued assertion that PSI is not contemplated; and evidence of some debt payments being made to private sector creditors under a DSSI regime.

The risks that remain relate to the possibility that in particular cases DSSI is implemented with private sector creditors also being drawn in to provide debt service relief and incurring losses in doing so. Should the probability of losses to private sector creditors increase as implementation of DSSI for Ethiopia becomes clearer, Moody's would reflect any related changes in risks to private creditors in further rating announcements.

The negative outlook reflects Moody's view that Ethiopia's fiscal and external vulnerabilities that had increased before the coronavirus shock will be exacerbated by the shock, and potentially reach a degree of severity consistent with a lower rating. Delivering on the government's structural reform agenda and reversing the persistent deterioration in revenues to low levels will be challenging in the subdued economic environment that Moody's expects to continue into fiscal 2021. Moreover, Ethiopia remains reliant on recurrent financing from official lenders to meet its large funding gap and preserve macroeconomic stability. Uncertainty about the sovereign's capacity to secure external funding to fully cover the country's needs could sharply increase the pressure on its liquidity and balance of payments.

The long-term local currency bonds and bank deposits ceilings remain unchanged at Ba3. The long-term foreign currency bonds ceiling remains unchanged at B2, and the bank deposits ceiling has remained unchanged at B3.

RATINGS RATIONALE

RATIONALE FOR CONFIRMING THE B2 RATING

Moody's initiated a review for downgrade for Ethiopia's ratings following the country's participation in DSSI to reflect the potential for private sector losses given the call in the G20's 15 April term sheet for private creditors to participate in debt service relief on comparable terms to official creditors. The review for downgrade reflected the tension evident between Ethiopia's stated intention not to seek relief from private sector debt service obligations, and the clearly-stated view of the key sponsors of the DSSI, specifically the IMF and World Bank, that private creditors should participate in the DSSI on comparable terms. Private sector losses incurred as part of the DSSI would likely constitute a default under Moody's definition.

There remains considerable uncertainty regarding the treatment of private sector creditors of the sovereigns which choose to participate in DSSI, including Ethiopia. Recent statements by the Institute of International Finance (IIF) suggest that some DSSI participants have had informal discussions with private sector creditors regarding deferral of interest.

However, the risk of broad-ranging involvement of private sector creditors in many or most DSSI cases appears to have diminished. There has not been any material progress in clarifying where and how private sector creditors would be asked to provide debt service relief. While the most recent communique issued by the G20 Finance Ministers and Central Bank Governors on 18 July reiterated that sponsors "strongly encourage private creditors to participate in the DSSI on comparable terms" the clarifying language "when requested by eligible countries" [1] seems to acknowledge the need for support from the borrower for that to happen. Participating governments, including Ethiopia, have continued to assert that they do not wish to engage with private sector creditors. And a number of DSSI-participating governments have continued to make interest and coupon payments to private creditors as they fall due.

The risks that prompted the initiation of the review for downgrade for Ethiopia have not disappeared and there has been limited additional clarification since the initial DSSI terms were announced. However, the risks have become more specific to each DSSI implementation case and at this stage, Moody's assesses the probability that private sector creditors of Ethiopia incur losses through DSSI to be captured in the B2 rating. Should the probability of losses to private sector creditors increase as implementation of DSSI for Ethiopia becomes clearer, Moody's would reflect any related changes in risks to private creditors in further rating announcements.

RATIONALE FOR THE NEGATIVE OUTLOOK

The negative outlook reflects Moody's view that Ethiopia's fiscal and external vulnerabilities that had increased before the coronavirus shock will be exacerbated by the shock, and potentially reach a degree of severity consistent with a lower rating.

Delivering on the government's structural reform agenda and reversing the persistent deterioration in revenues to low levels will be challenging in the subdued economic environment that Moody's expects to continue into fiscal 2021. From steady real GDP growth rates at high levels in the past decade, Moody's projects GDP growth to slow to 2% in fiscal 2020 and 2021. As a result, and despite the government's actions to enhance revenue collection, Moody's expects government revenue to decline to just 11-11.5% of GDP and the fiscal deficit to widen to 5% of GDP, from 2.5% in fiscal 2019. As a result, Ethiopia's government gross financing needs will rise to around 10% of GDP in fiscal 2021, up from below 7.3% in fiscal 2019. The sovereign's fiscal vulnerabilities are compounded by a large and financially weak state-owned entreprise (SOE) sector, aggravated further by the economic shock.

Moreover, Ethiopia remains reliant on recurrent financing from official lenders to meet its large funding gap and preserve macroeconomic stability. Uncertainty about the sovereign's capacity to secure external funding to fully cover the country's needs could sharply increase the pressure on its liquidity and balance of payments. Moody's expects Ethiopia's external financing requirements to amount to 6.6% of GDP in fiscal 2020 and 7.8% in fiscal 2021, up from 6.6% in fiscal 2019. Aside from pre-coronavirus budgeted financing, the government has so far secured about 1.3% of GDP ($1.3bn) in additional exceptional financing from development finance institutions, excluding potential DSSI savings, of which Moody's expects 0.5% of GDP ($500m) from the World Bank facility to be disbursed in fiscal 2021. While Moody's expects that Ethiopia is likely to be able to meet its external commitments with development partner support and some drawdown from reserves, there is a risk that the full amount cannot be secured in time to avert a sharp increase in balance of payments pressure.

Ethiopia's main exports, especially coffee and gold, are susceptible to commodity price shocks during a period of volatile external conditions. Moody's expects that external debt will rise to above 220% of export receipts in fiscal 2020 and continue to increase in the near to medium term. Since 2017, the IMF has classified Ethiopia as being at "high risk of external debt distress" because of its low level of export receipts relative to the present value of its stock of external debt. External vulnerability risks are exacerbated by low foreign exchange reserves. Moody's projects reserves to hover around $3 billion, covering less than two months of imports, leaving very limited capacity to absorb any further shock that may occur.

ENVIRONMENTAL, SOCIAL AND GOVERNANCE CONSIDERATIONS

Environmental considerations are material to Ethiopia's economic strength and credit profile. Given the prominence of agriculture in the economy and reliance on rainfall for irrigation and hydroelectric plants, recurring droughts can have a significant negative impact on the agriculture and energy sectors.

Social considerations are also material to the rating. High income inequality and high levels of poverty have the potential to fuel social discontent. Moreover, Moody's regards the coronavirus outbreak as a social risk under its ESG framework, given the substantial implications for public health and safety globally. For Ethiopia, the pandemic shock manifests in heightened external vulnerability.

Governance considerations are material to Ethiopia's credit profile. Weak governance in particular amongst some state owned enterprises (SOEs) has contributed to high SOEs debt which, if left unchecked, could result in a further deterioration in the credit profile.

Given the outstanding review for downgrade initiated on 7 May, the publication of this credit rating action concluding the review for downgrade occurs on a date that deviates from the previously scheduled release date in the sovereign release calendar, published on www.moodys.com

GDP per capita (PPP basis, US$): 2,511 (2019 Estimate) (also known as Per Capita Income)

Real GDP growth (% change): 9.0% (2019 Estimate) (also known as GDP Growth)

Inflation Rate (CPI, % change Dec/Dec): 14.5% (2019 Actual)

Gen. Gov. Financial Balance/GDP: -2.6% (2019 Estimate) (also known as Fiscal Balance)

Current Account Balance/GDP: -4.8% (2019 Estimate) (also known as External Balance)

External debt/GDP: 28.1.2% (2019 Estimate)

Economic resiliency: ba3

Default history: At least one default event (on bonds and/or loans) has been recorded since 1983

On 4 August 2020, a rating committee was called to discuss the rating of the Government of Ethiopia. The main points raised during the discussion were: The issuer's economic fundamentals, including its economic strength, have not materially changed. The issuer's fiscal or financial strength, including its debt profile, has not materially weakened. Other views raised included: The issuer's institutional strength/ framework, have not materially changed. The issuer's susceptibility to event risks has not materially changed.

FACTORS THAT COULD LEAD TO AN UPGRADE OR DOWNGRADE OF THE RATINGS

The negative outlook suggests an upgrade is unlikely in the near term. Prospects of a durable stabilisation in Ethiopia's fiscal and external position would likely be consistent with a stable outlook at B2. Over time, Moody's would likely upgrade the rating in the event of a sharp and sustained decline in public debt driven by a decline state-owned enterprises indebtedness, a reduction in fiscal risks posed by contingent liabilities, and an improved business environment, strengthened institutions and competitiveness.

An intensification of fiscal or external pressure with materially higher fiscal deficits, increasing debt, wider current account deficits than Moody's currently expects and/or inability to secure sufficient external financing contributing to further pressure on the exchange rate and foreign exchange reserves would likely lead to a downgrade. Moreover, a rising probability of private sector participation in DSSI would likely point to a lower rating, commensurate with the potential losses to be incurred.

The principal methodology used in these ratings was Sovereign Ratings Methodology published in November 2019 and available at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1158631. Alternatively, please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.

The weighting of all rating factors is described in the methodology used in this credit rating action, if applicable.

REGULATORY DISCLOSURES

For further specification of Moody's key rating assumptions and sensitivity analysis, see the sections Methodology Assumptions and Sensitivity to Assumptions in the disclosure form. Moody's Rating Symbols and Definitions can be found at: https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_79004.

For ratings issued on a program, series, category/class of debt or security this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series, category/class of debt, security or pursuant to a program for which the ratings are derived exclusively from existing ratings in accordance with Moody's rating practices. For ratings issued on a support provider, this announcement provides certain regulatory disclosures in relation to the credit rating action on the support provider and in relation to each particular credit rating action for securities that derive their credit ratings from the support provider's credit rating. For provisional ratings, this announcement provides certain regulatory disclosures in relation to the provisional rating assigned, and in relation to a definitive rating that may be assigned subsequent to the final issuance of the debt, in each case where the transaction structure and terms have not changed prior to the assignment of the definitive rating in a manner that would have affected the rating. For further information please see the ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.

For any affected securities or rated entities receiving direct credit support from the primary entity(ies) of this credit rating action, and whose ratings may change as a result of this credit rating action, the associated regulatory disclosures will be those of the guarantor entity. Exceptions to this approach exist for the following disclosures, if applicable to jurisdiction: Ancillary Services, Disclosure to rated entity, Disclosure from rated entity.

The ratings have been disclosed to the rated entity or its designated agent(s) and issued with no amendment resulting from that disclosure.

These ratings are solicited. Please refer to Moody's Policy for Designating and Assigning Unsolicited Credit Ratings available on its website www.moodys.com.

Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.

Moody's general principles for assessing environmental, social and governance (ESG) risks in our credit analysis can be found at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1133569.

REFERENCES/CITATIONS

[1] G20 communique, 18 July 2020

Please see www.moodys.com for any updates on changes to the lead rating analyst and to the Moody's legal entity that has issued the rating.

Please see the ratings tab on the issuer/entity page on www.moodys.com for additional regulatory disclosures for each credit rating.

Kelvin Dalrymple
VP - Senior Credit Officer
Sovereign Risk Group
Moody's Investors Service Ltd.
One Canada Square
Canary Wharf
London E14 5FA
United Kingdom
JOURNALISTS: 44 20 7772 5456
Client Service: 44 20 7772 5454

Marie Diron
MD - Sovereign Risk
Sovereign Risk Group
JOURNALISTS: 44 20 7772 5456
Client Service: 44 20 7772 5454

Releasing Office:
Moody's Investors Service Ltd.
One Canada Square
Canary Wharf
London E14 5FA
United Kingdom
JOURNALISTS: 44 20 7772 5456
Client Service: 44 20 7772 5454

No Related Data.
© 2021 Moody’s Corporation, Moody’s Investors Service, Inc., Moody’s Analytics, Inc. and/or their licensors and affiliates (collectively, “MOODY’S”). All rights reserved.

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