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Rating Action:

Moody's downgrades eSwatini's rating to B3, outlook changed to stable

20 Jul 2020

New York, July 20, 2020 -- Moody's Investors Service, ("Moody's") has today downgraded the Government of eSwatini's long-term issuer rating to B3 from B2, and changed the outlook to stable from negative.

The downgrade to B3 reflects Moody's expectation that the deterioration in the government's debt burden and debt affordability will continue, weakening the sovereign's fiscal strength. The government faces shocks such as the coronavirus-related revenue shock, from a weak position having failed to narrow its deficit to a large enough extent and for long enough to stabilize, let alone reverse, a prolonged increase in its debt burden. Government liquidity risk, which remains elevated and evident in the large stock of government arrears, will continue to constrain growth prospects. External vulnerability is ever present due thin foreign exchange reserves coverage of imports.

The stable outlook at B3 is underpinned by the country's relatively high income levels, which are materially above B3-rated peers, and a relatively well integrated and diversified economy despite its small size. eSwatini's membership in the Common Monetary Area, and peg with the South African rand provide a policy anchor and supports low and stable inflation, an additional credit strength.

Concurrently, Moody's has maintained the local-currency bond and deposit ceilings at Ba3 and the foreign-currency bond ceiling at B1, while lowering the foreign-currency deposit ceiling to Caa1 from B3.

RATINGS RATIONALE

RATIONALE FOR DOWNGRADE TO B3

SIGNIFICANT DETERIORATION IN FISCAL STRENGTH UNDERMINES THE SOVEREIGN CREDIT PROFILE

Persistently large fiscal deficits have contributed to a steady rise in eSwatini's debt burden and deterioration in the sovereign's fiscal strength. In the absence of fiscal consolidation in so far a largely conducive environment, eSwatini's debt burden increased to 43.3% of GDP in fiscal 2019 (ending March 31 2020), up from just 14.9% in 2015.

The economic and financial implications of the coronavirus pandemic compound eSwatini's fiscal challenges. Moody's expects the fiscal deficit to widen to 10% of GDP in fiscal 2020 (fiscal year ending March 31 2021) as the economy contracts significantly, resulting in a decline in domestic tax revenue. The widening fiscal deficit is driven primarily by lower revenue, as the government's fiscal stimulus package in response to the coronavirus pandemic mainly seeks to re-prioritize spending rather than increase total spending.

The government has taken steps to limit the rise in spending, including through hiring freezes, limiting travel expenditures, and closing spending accounts, which were a source of spending overruns in previous years. However, the spending structure remains relatively rigid, with a large wage bill and high level of transfers, will slow the pace of expenditure-led fiscal consolidation.

Larger fiscal deficits will contribute a faster and further deterioration in eSwatini's debt burden and debt affordability. Moody's expects the debt-to-GDP ratio will increase to 58% by the end of 2021, with the interest-to-revenue ratio rising to 13% (up from just 4.4% in fiscal 2015). Absent a significant fiscal adjustment, the debt burden will continue to rise in subsequent years, further weakening the sovereign's fiscal strength.

The government faces long-standing challenges related to reliance on Southern African Customs Union (SACU) revenue, which is largely beyond the control of the government and likely to grow at a very slow pace, and institutional weaknesses that limit policy effectiveness related to fiscal consolidation efforts. Higher SACU revenue will have a temporary stabilizing influence in fiscal 2020, but will have the opposite effect in future years as lower SACU revenue weighs on total revenue collection. Moody's expects lower SACU revenue in 2021 and 2022 to slow the pace of fiscal consolidation.

THE CONTINUED ACCUMULATION OF GOVERNMENT ARREARS UNDERSCORES LIMITED FUNDING OPTIONS AND PERSISTENT LIQUIDITY CHALLENGES

Liquidity pressure continues to manifest itself through the accumulation of arrears, which weigh on growth prospects. The government's financing plans for fiscal 2020 include a financing gap of 5% of GDP, which Moody's expects to result in a further accumulation of arrears.

With a series of sizeable fiscal deficits, eSwatini's financial needs have been growing, putting pressure on domestic financial markets. Gross financing needs are large, at around 18% of GDP. They consist mainly of Treasury bills, central bank advances, and the stock of arrears, with very little in external amortizations. The fiscal deficit represents the remainder of the gross borrowing requirements, which Moody's expects will remain around 9-10% of GDP over the next two years.

Compared to other sovereigns at similar income levels, eSwatini benefits from a broad domestic financial sector, which beside commercial banks includes sizeable insurance and pension funds sectors. However, after increasing their exposure to the government over the past two to three years, Moody's sees limited scope for the domestic financial sector to absorb the further increase in government financing needs in 2020 and 2021. Commercial banks, which remain the largest holders of government Treasury bills, have shown limited willingness or capacity to increase holdings of government securities much beyond 10% of total assets. Meanwhile, non-bank financial institutions, mainly pension funds, retirement funds, and insurance companies, have already increased their holdings of government securities, holding 50% of total domestic debt as of December 2019.

The government has put forward a plan to clear a significant portion of previously accumulated arrears, which Moody's estimates at almost 8% of 2019 GDP, which includes securing an external loan. Moody's expects the arrears clearance strategy will have a positive impact on the economy, reducing cashflow issues of goods and service providers to the government. These have weighed on domestic economic activity and contributed to non-performing loans in the banking system. However, based on the government's financing gap in 2020, Moody's expects the government to incur additional arrears in 2020, offsetting the benefit of clearing prior arrears.

STRUCTURAL IMPEDIMENTS CONSTRAIN GROWTH, AGGRAVATED FURTHER BY THE CORONAVIRUS SHOCK; PERSISTENT EXTERNAL VULNERABILITY

eSwatini's economy has experienced several years of low growth, averaging just 1.9% over the past five years. After a significant contraction in 2020 output as a result of the coronavirus shock, Moody's expects eSwatini to return to this trend of relatively low growth over the foreseeable future. Containment measures to stem the spread of the coronavirus weigh on economic activity in 2020, while the economy is also affected by the disruptions to global supply chains, including in industries like textiles, forestry and transport.

Beyond the impact of the coronavirus pandemic, growth remains constrained by a number of structural impediments related to the poor business environment for private investment. Prevailing poverty and income inequality also weigh on the economy's growth potential. Poverty and income inequality are pronounced because of low growth and job creation, with about 60% of the population living below the poverty line, while 38% live in extreme poverty. The high levels of poverty and inequality, as well as high youth unemployment, undermine the shock-absorption capacity of the economy relative to that conveyed by income levels.

eSwatini's external position remains fragile, notwithstanding the stabilizing role of the currency arrangement. Reserves coverage of imports is low, providing around three months of import coverage, and cyclical, exposing eSwatini to sudden shocks to current account receipts.

Despite an increase in SACU receipts in 2020, Moody's expect the current account surplus to narrow, resulting in a decline in international reserves, increasing external vulnerability. However, eSwatini's principal repayments coming due over the next two to three years and short-term external debt are low, meaning reserve coverage of debt payments remains adequate.

RATIONALE FOR THE STABLE OUTLOOK

The stable outlook at B3 is underpinned by the country's relatively high wealth levels, which are materially above B3-rated peers, and a small, but relatively well integrated and diversified economy. eSwatini's membership in the Common Monetary Area, and peg with the South African rand, is an additional credit strength, providing a policy anchor and keeping inflation low and stable.

eSwatini's economy is integrated in regional agreements, with a focus on South Africa (Ba1 negative), the recipient of over 60% of eSwatini's exports. This is thanks to a number of regional trade and customs unions, including the Southern African Development Community, SACU, and the Common Market for Eastern and Southern Africa. Membership in SACU allows for free trade within the region, allowing local companies access to a larger customer base. eSwatini's credit profile benefits from its membership in the SACU, as it is a recipient of transfers under a revenue-sharing arrangement. Albeit volatile in recent years and unlikely to grow to any great extent in coming years, these SACU revenues represent a significant source of fiscal revenue and an important component of the country's balance of payments, providing a degree of support at the B3 rating level.

Institutional limitations related to the government's capacity to implement reforms represent a key rating constraint. Reforms are often stalled by the need to navigate eSwatini's complex political system, including the royal family, its advisers and the cabinet. Limited policy effectiveness is also reflected in the government's track record of limited adjustment to adjust to lower SACU revenue and the accumulation of arrears in response to financing constraints.

ENVIRONMENTAL SOCIAL AND GOVERNANCE CONSIDERATIONS

Environmental risks are relevant to eSwatini's credit profile because of its high dependence on agricultural production. The country has historically had low productivity on Swazi Nation land (most of the land in the country) and has been a recipient of several multilateral grants designed to replenish and develop sustainable agricultural land development. eSwatini has also been a recipient of grants meant for protection of biodiversity found within the country's forests.

Social risks are material to eSwatini's credit profile because of the large income inequality between royal family members and the general population. While there is a pro-democracy opposition group, media is tightly controlled and regulated. Moody's regards the coronavirus outbreak as a social risk under Moody's ESG framework, given the substantial implications for public health and safety. The coronavirus pandemic may also cause social unrest as the government's capacity to provide support for those living outside of large cities is currently stretched.

Governance risks are material to eSwatini's credit profile because of limited transparency in economic and fiscal data. Ineffective and unclear policymaking also pose risks to the country's credit profile.

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

The implementation of a credible fiscal adjustment plan that contains liquidity pressure and stabilizes government debt at lower levels than currently anticipated could prompt an upgrade, particularly if accompanied by stronger medium-term growth prospects.

eSwatini's rating could be downgraded in the event of a deterioration in fiscal performance that leads to a substantially larger than expected increase in debt. Increased liquidity pressure, as reflected in rising borrowing costs and/or a faster accumulation of arrears would weigh on the rating. A protracted fall in international reserves which jeopardizes the 1-1 peg to the South African rand would also put downward pressure on the rating.

GDP per capita (PPP basis, US$): 11,161 (2019 Actual) (also known as Per Capita Income)

Real GDP growth (% change): 1.3% (2019 Actual) (also known as GDP Growth)

Inflation Rate (CPI, % change Dec/Dec): 2% (2019 Actual)

Gen. Gov. Financial Balance/GDP: -8% (2019 Actual) (also known as Fiscal Balance)

Current Account Balance/GDP: 4.2% (2019 Actual) (also known as External Balance)

External debt/GDP: 10.8% of GDP (2018 actual)

Economic resiliency: b2

Default history: No default events (on bonds or loans) have been recorded since 1983.

On 15 July 2020, a rating committee was called to discuss the rating of the eSwatini, Government of. The main points raised during the discussion were: The issuer's economic fundamentals, including its economic strength, have materially decreased. The issuer's fiscal or financial strength, including its debt profile, has materially decreased. The issuer has become increasingly susceptible to event risks.

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.

The Global Scale Credit Rating on this Credit Rating Announcement was issued by one of Moody's affiliates outside the EU and is endorsed by Moody's Deutschland GmbH, An der Welle 5, Frankfurt am Main 60322, Germany, in accordance with Art.4 paragraph 3 of the Regulation (EC) No 1060/2009 on Credit Rating Agencies. Further information on the EU endorsement status and on the Moody's office that issued the credit rating is available on www.moodys.com.

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.

David Rogovic
Vice President - Senior Analyst
Sovereign Risk Group
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653

Marie Diron
MD-Sovereign/Sub Sovereign
Sovereign Risk Group
JOURNALISTS: 852 3758 1350
Client Service: 852 3551 3077

Releasing Office:
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653

No Related Data.
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