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Rating Action:

Moody's downgrades Barbados' domestic currency rating to Baa3; outlook negative

13 Jun 2011

New York, June 13, 2011 -- Moody's Investors Service has downgraded the Government of Barbados' domestic currency rating to Baa3 from Baa2. The Baa3 foreign currency bond rating has been affirmed. The outlook on both ratings has been revised to negative.

The main triggers for today's action are as follows:

1. Moody's increasing concerns about the capacity of the domestic market to continue to absorb the elevated levels of government debt issuance at the same time that the country's already large current account deficit is expected to increase further due to the recent rise in oil prices;

2. Our view that the government's debt ratios are likely to deteriorate further over the next 12 to 18 months to levels that are no longer consistent with an investment grade rating given the small size and limited diversification of Barbados' economy.

Moody's has also downgraded Barbados long and short-term foreign currency bond ceilings to Baa1 and P-2 respectively, its short term foreign currency deposit ceiling to P-3, and its local currency bond and deposit ceilings to A1.

RATINGS RATIONALE

The downgrade of the domestic currency rating considers Moody's view that the primary credit strength that historically enabled it to achieve a higher rating than the country's foreign currency obligations, namely the existence of a large captive market for domestic currency government paper that is the product of capital controls, has eroded. While capital controls may in some cases help to limit rollover risk of domestic currency debt, Moody's has increasing concerns about the capacity of the domestic market to continue to absorb the elevated levels of government debt issuance at the same time that the country's already large current account deficit is expected to increase further due to the recent rise in oil prices. Furthermore , Barbados has begun to liberalize these controls creating the possibility that the remaining controls could be circumvented should incentives be great enough. To the extent the controls hold, they could actually be as beneficial to the government's ability to repay its foreign debt obligations as its domestic obligations as they would permit the government to marshal foreign currency for the repayment of its foreign debt. In addition, we note that the government's desire to defend the currency in the face of potentially increasing pressure on the fixed exchange rate could reduce its flexibility to try to avoid a default on the domestic currency debt by printing money. The unification of the government's local and foreign currency ratings is consistent with the approach laid out in Moody's "Sovereign Methodology Update: Narrowing the Gap -- a Clarification of Moody's Approach to Local Vs. Foreign Currency Government Bond Ratings."

The downgrade of the local currency ceilings is linked to the downgrade of the government's local currency bond rating. The downgrade of the long-term foreign currency bond ceiling reflects our opinion that the risk of a payment moratorium that would enable the government to preserve foreign currency resources is now slightly higher due to trends in the country's balance of payments and government finances. The revised ratings for the short-term foreign currency bond and deposit ceilings are consistent with the respective long-term ratings.

The negative outlook considers Moody's view that the government's debt ratios are likely to deteriorate further over the next 12 to 18 months to levels that are no longer consistent with an investment grade rating given the small size and limited diversification of Barbados' economy. Furthermore, Barbados' limited growth prospects, a function of its deteriorating competitiveness and declining productivity, make it unlikely that it will be able to grow out of its debt burden in the near-to-medium term. The negative outlook also reflects our expectation that pressure on Barbados' fixed exchange rate is likely to increase as a result of an anticipated increase in the current account deficit coupled with the government's large fiscal deficits.

After a 4.7% drop in GDP in 2009 (which followed a 0.2% drop the previous year), Barbados emerged from recession in 2010, but just barely, posting growth of 0.3%. However, Barbados' central government finances were severely impacted by the recession. Its fiscal deficit climbed to 5.1% in 2008 and reached 9.4% in 2009 due to a drop in tax revenues coupled with a significant rise in countercyclical spending. The deficit began to decrease slowly in 2010, dropping to 8.1% of GDP or 27% of revenues, and this trend is projected to continue this year, but Moody's anticipates that the government's deficits will remain large for the next few years as the government pursues a strategy of gradual fiscal consolidation.

As a result of these deficits, central government direct debt surpassed 100% of GDP and 350% of government revenues (up from 70% and 230% respectively at the end of 2007). These figures are the highest among countries in the Baa-category. Consequently, Moody's has revised Barbados score for government financial strength to low from moderate. This results in a shift in the rating range suggested by our methodology to Ba1-B3 from Baa2-Ba1. While the worst appears to be behind Barbados both in terms of fiscal deficits and economic deterioration, large fiscal deficits are expected to continue over the next several years as a result of which debt levels will continue to rise, albeit at a slowing pace, before they start to improve. Consequently Barbados will have considerably less flexibility to respond to economic shocks in the future than it did in the past, particularly given its fixed exchange rate which not only eliminates the option of pursuing an independent monetary policy but may constrain the government's fiscal flexibility even further to the extent that continued deficits could put start to pressure on Barbados' fixed exchange rate. Adding to this pressure is an anticipated increase in the current account deficit, which rose to nearly 9% of GDP from just over 5% the previous year. Moody's expects it is likely to continue to rise in 2011 due to the recent increase in oil prices.

The principal methodologies used in this rating were "Moody's Sovereign Bond Methodology" published in September 2008, and "Sovereign Methodology Update: Narrowing the Gap -- a Clarification of Moody's Approach to Local Vs. Foreign Currency Government Bond Ratings," published in February 2010.

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Moody's Investors Service considers the quality of information available on the issuer or obligation satisfactory for the purposes of assigning a credit rating.

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Please see ratings tab on the issuer/entity page on Moodys.com for the last rating action and the rating history.

The date on which some Credit Ratings were first released goes back to a time before Moody's Investors Service's Credit Ratings were fully digitized and accurate data may not be available. Consequently, Moody's Investors Service provides a date that it believes is the most reliable and accurate based on the information that is available to it. Please see the ratings disclosure page on our website www.moodys.com for further information.

Please see the Credit Policy page on Moodys.com for the methodologies used in determining ratings, further information on the meaning of each rating category and the definition of default and recovery.

New York
Aaron Freedman
Vice President - Senior Analyst
Financial Institutions Group
Moody's Investors Service
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

New York
Bart Oosterveld
MD - Sovereign Risk
Financial Institutions Group
Moody's Investors Service
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

Moody's Investors Service
250 Greenwich Street
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JOURNALISTS: 212-553-0376
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Moody's downgrades Barbados' domestic currency rating to Baa3; outlook negative
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