Argentina
Press Release

Fitch Downgrades Argentina to 'CCC-'; Removes From UCO

Bnamericas Published: Wednesday, October 26, 2022

Press Release by Fitch

Fitch Ratings - New York - 26 Oct 2022: Fitch Ratings has Fitch Ratings has downgraded Argentina's Long-Term Foreign-Currency (FC) and Local-Currency (LC) Issuer Default Ratings (IDRs) to 'CCC-' from 'CCC'. Fitch typically does not assign Outlooks to sovereigns with a rating of 'CCC+' or below. Fitch has removed the Long-Term IDRs from Under Criteria Observation (UCO).

Downgrade of IDRs: The downgrade of Argentina's FC IDR to 'CCC-' reflects deep macroeconomic imbalances and a highly constrained external liquidity position, which Fitch expects to increasingly undermine repayment capacity as foreign-currency debt service ramps up in the coming years. An Extended Fund Facility (EFF) with the IMF launched in March has not yet proven to be a strong anchor for policy improvements to build international reserves and improve prospects for recovery of market access and it is unclear if this will be possible to achieve in any outcome of upcoming 2023 elections, increasing risks of an eventual credit event. The downgrade of the LC IDR to 'CCC-' reflects Fitch's view that local-currency repayment capacity is also comprised, as a heavy load of peso maturities due in the coming year could be hard to roll over in the event of pre-election market jitters.

Foreign Reserves Under Pressure: The current account surplus is eroding (Fitch expects it to flip to a deficit of 0.4% of GDP in 2022) and capital controls have contained but not fully staunched outflows, largely reflecting monetary and exchange-rate distortions. Net international reserves (NIR; gross reserves minus liquid FX liabilities such as the China swap) fell to USD1.3 billion in August from USD2.3 billion at end-2021, and much more net of EFF financing, before jumping to USD5.5 billion as of mid-October on the "soy dollar" (a one-month opportunity for soy producers to liquidate FX at a preferential exchange rate). However, NIR will likely come under pressure again due to import payments (many were postponed from mid-year due to a BCRA requirement that importers seek 180-day trade financing) and a poor wheat harvest. The BCRA is tightening FX controls, which could contain reserve declines, but the sustained accumulation targeted in the EFF appears unlikely in the absence of a holistic shift in exchange-rate policy. 

Record-High Inflation: Fitch projects inflation will reach 100% in 2022 from 51% in 2021, its highest level in decades, driven by a monetary overhang, global price pressures and devaluation expectations contaminating price-setting behaviors. The BCRA has lifted its policy rate to 107% (percent annum) from 45%, after years of keeping it stable, though this has not yet delivered the positive real rates envisioned in the EFF. While the BCRA has dialed back financing of the treasury as required in the EFF, it has taken other measures with similar monetary effects (e.g. a massive intervention to stabilize the local bond market mid-year). These have greatly increased sterilization needs at the same time as higher interest rates have lifted the cost of doing so, putting further pressure on the BCRA's already weak balance sheet and constraining its policy flexibility. 

Slow Fiscal Consolidation: The primary budget deficit is declining in 2H22 after slippage in 1H22 on tighter control of spending and erosion of pensions and salaries from surging inflation, and Fitch expects it will reach the 2.8% of GDP EFF target for 2022 (this excludes accounting profits on bond re-taps found to be spurious by the IMF). Achieving the 1.9% target in 2023 will be challenging: the authorities have announced a long-awaited roll-back in energy subsidies could yield savings of around 0.5% of GDP in 2023, but no other major structural measures besides this, and spending pressure will be high given elections and a sharp expected growth slowdown. Consolidation could become increasingly difficult, given that rising inflation is benefitting fiscal accounts now, but will add pressure later on due to backward indexation. 

Financing Risks to Rise: The authorities have met their financing needs mainly in the local peso market as BCRA funding has been scaled back. This has required shorter tenors and higher rates, resulting in a clustering of maturities in mid-2023 that could be difficult to roll over amid possible election jitters. Foreign-currency debt repayment risks could also rise. Even relatively low step-up coupons on restructured bonds (USD2 billion in 2023 and USD3 billion in 2024) could be difficult to pay should reserves remain at critical levels. Capacity to honor large amortization payments that will begin in 2025 will hinge on a substantial FX reserve accumulation and recovery of market access, which Fitch expects could be difficult to achieve even in any election outcome. 

Government Debt Sustainability Risks: Fitch projects central government debt will rise to 84% of GDP in 2022 from 81% in 2021 and remain stable thereafter, although this is not indicative of debt sustainability. A primary deficit, weak trend growth, and the indexation of most peso market securities to inflation weaken debt dynamics. Deeply negative real interest rates offset this, but will be less supportive should the authorities shift away from virtually zero-interest BCRA financing to costlier market financing, and as coupons on restructured bonds step up. Real appreciation of the peso is also helping debt dynamics, but this is not a sustainable trend.

Growth Momentum to Slow: Fitch has revised its projected real GDP growth for 2022 up to 4.6%, given better-than-expected momentum so far this year. High inflation has eroded real incomes, but has also incentivized acceleration of spending, supporting growth for now. Growth is bound to slow, however, in the context of surging inflation, policy adjustments, and FX restrictions that risk depriving the productive sector of needed inputs. Macro uncertainties and the absence of an agenda to address longstanding competitiveness issues undermine the medium-term growth outlook, though this could improve should an agenda to tackle these issues gain traction after elections.

Massa Takes Charge: Political conditions for policy adjustment appear to have improved with the appointment of Sergio Massa (a heavyweight in the ruling Peronist coalition) as finance minister in August, after years in which tensions within Peronism hindered such an agenda. Monetary tightening and energy subsidy cuts are signs of progress. Nevertheless, a comprehensive policy plan needed to boost confidence remains elusive, and this appears unlikely to emerge until after the 2023 elections. The opposition appears well positioned to win, following its strong showing in the 2021 midterms and given the low popularity of the Alberto Fernandez administration. However, a complex social and political environment could complicate adjustments in any election outcome.

Argentina has an ESG Relevance Score (RS) of '5' for both Political Stability and Rights and for the Rule of Law, Institutional and Regulatory Quality and Control of Corruption. These scores reflect the high weight that the World Bank Governance Indicators (WBGI) have in Fitch's proprietary Sovereign Rating Model. Argentina has a medium WBGI ranking at the 46th percentile, balancing moderately high voice and accountability, a moderate level of corruption, and a recent track record of peaceful political transitions with weak institutional capacity and uneven application of the rule of law.

RATING SENSITIVITIES

Factors that could, individually or collectively, lead to negative rating action/downgrade:

-Public Finances: Signs of probable default to private creditors, including intensification of financing strains that increase risks of and incentives for the sovereign to miss, unilaterally reprofile, or renegotiate upcoming bond repayments.

Factors that could, individually or collectively, lead to positive rating action/upgrade: 

--External Finances: A sustained build-up in central bank international reserves supported by credible policy adjustments;

 

--Public Finances: Implementation of a credible fiscal adjustment that puts government debt/GDP on a downward path and materially improves access to market financing;

 

--Macro: Greater confidence in a policy plan that could support economic recovery and improve macroeconomic stability.

 

SOVEREIGN RATING MODEL (SRM) AND QUALITATIVE OVERLAY (QO) 

Fitch's proprietary SRM assigns Argentina a score equivalent to a 'B-' Long-Term Foreign-Currency IDR. However, in accordance with its rating criteria, Fitch's sovereign rating committee has not utilized the SRM and QO to explain the ratings in this instance. Ratings of 'CCC+' and below are instead guided by the rating definitions.

Fitch's SRM is the agency's proprietary multiple regression rating model that employs 18 variables based on three-year centered averages, including one year of forecasts, to produce a score equivalent to a LT FC IDR. Fitch's QO is a forward-looking qualitative framework designed to allow for adjustment to the SRM output to assign the final rating, reflecting factors within our criteria that are not fully quantifiable and/or not fully reflected in the SRM.

BEST/WORST CASE RATING SCENARIO

International scale credit ratings of Sovereigns, Public Finance and Infrastructure issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of three notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from 'AAA' to 'D'. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit https://www.fitchratings.com/site/re/10111579.

REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING

The principal sources of information used in the analysis are described in the Applicable Criteria.

 ESG CONSIDERATIONS 

Argentina has an ESG Relevance Score of '5' for Political Stability and Rights as World Bank Governance Indicators have the highest weight in Fitch's SRM and are therefore highly relevant to the rating and a key rating driver with a high weight. As Argentina has a percentile rank below 50 for the respective Governance Indicator, this has a negative impact on the credit profile. 

Argentina has an ESG Relevance Score of '5' for Rule of Law, Institutional & Regulatory Quality and Control of Corruption as World Bank Governance Indicators have the highest weight in Fitch's SRM and are therefore highly relevant to the rating and are a key rating driver with a high weight. As Argentina has a percentile rank below 50 for the respective Governance Indicators, this has a negative impact on the credit profile. 

Argentina has an ESG Relevance Score of '4[+]' for Human Rights and Political Freedoms as the Voice and Accountability pillar of the World Bank Governance Indicators is relevant to the rating and a rating driver. As Argentina has a percentile rank above 50 for the respective Governance Indicator, this has a positive impact on the credit profile. 

Argentina has an ESG Relevance Score of '4' for Creditor Rights as willingness to service and repay debt is relevant to the rating and is a rating driver for Argentina, as for all sovereigns. As Argentina has a fairly recent restructuring of public debt in 2020, this has a negative impact on the credit profile. 

Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of '3'. This means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. For more information on Fitch's ESG Relevance Scores, visit www.fitchratings.com/esg. 

If you would rather not receive future communications from Fitch Ratings, let us know by clicking here. Fitch Ratings, 33 Whitehall Street 18th Floor, New York, NY 10004 United States

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