Colombo : Fitch Ratings has downgraded Sri Lanka’s Long-Term Foreign-Currency Issuer Default Rating (IDR) to ‘B’ from ‘B+’, with a stable outlook.
Fitch Ratings said the downgrade reflects heightened external refinancing risks, an uncertain policy outlook, and the risk of a slowdown in fiscal consolidation as a result of an ongoing political crisis.
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The downgrade reflects heightened external refinancing risks, an uncertain policy outlook, and the risk of a slowdown in fiscal consolidation as a result of an ongoing political crisis following the President’s sudden replacement of the Prime Minister on 26 October 2018.
Fitch believes the ongoing political upheaval, which has disrupted the normal functioning of parliament, exacerbates the country’s external financing risks, already challenged by the tightening of global monetary conditions amid a heavy external debt repayment schedule between 2019 and 2022. Investor confidence has been undermined, as evident from large outflows from the local bond market and a depreciating exchange rate. The sovereign’s foreign currency-denominated debt repayments (principal and interest), as of end-September 2018 are about USD20.9 billion between 2019 and 2022, while its foreign-exchange reserves are currently about USD7.5 billion.
The authorities plan to raise funds through a combination of bilateral and commercial borrowing and the exercise of foreign-currency swaps, but there are risks to this strategy that could arise from a prolonged period of political uncertainty accompanied by an adverse shift in investor sentiment. In addition, the benefits from the government obtaining parliamentary approval for an Active Liability Management Bill in October – which raises its borrowing limit and could help smooth upcoming debt maturities – are unlikely to materialise if the political standoff continues.
Fitch expects fiscal slippages as the current political climate is likely to lead to delays in setting policy priorities and to disrupt progress on future reforms. The 2019 budget has already been pushed back, while the IMF programme has been put on hold. The agency now expects the budget deficit for 2019 and 2020 to be closer to 5% of GDP, up from 4.0% of GDP in 2019 – forecast at the time of our previous review. The political strife has also exacerbated a depreciation of the Sri Lankan rupee, which had weakened in 2018 by around 17% against the US dollar up until end-November, contributing to a deterioration in the debt profile – with about half the debt denominated in foreign currency. Fitch has therefore revised up our general government debt-GDP forecast to over 80% by end-2018, from 77.2%. We believe a speedy resolution of the political situation and a return to credible macroeconomic policies could eventually lower fiscal risks.