(Full statement as posted on Barbados Nation website)
In our view, the economic fundamentals of Barbados continue to weaken, reflecting not only the external environment but also more pronounced competitiveness and other structural shortcomings; we believe that the fiscal stance remains weak, as seen in the rising debt burden, off-budget spending, and outstanding contingent liabilities.
As a result, we have lowered our sovereign credit ratings on Barbados to ‘BB+/B’ from ‘BBB-/A-3’.
We have also assigned a recovery rating of ‘3’ to Barbados’ foreign-currency debt, which reflects our assessment of meaningful recovery (50 per cent -70 per cent) in the event of a sovereign default.
The stable outlook reflects our view that at this lower rating, the sovereign has some room to absorb possible mild fiscal deterioration and weak economic growth in the near term without affecting its creditworthiness.
Rating Action
On July 17, 2012, Standard & Poor’s Ratings Services lowered its long-term foreign- and local-currency sovereign credit ratings on Barbados to ‘BB+’ from ‘BBB-‘. At the same time, Standard & Poor’s lowered the short-term ratings to ‘B’ from ‘A-3’. The outlook is stable.
Standard & Poor’s has also assigned to Barbados’s foreign-currency debt a recovery rating of ‘3’, and it has revised the transfer and convertibility assessment to ‘BBB-‘ from ‘BBB’.
Rationale
The downgrade reflects our opinion that Barbados’s economic fundamentals continue to weaken. We believe this weakening stems, in part, from rising competitive challenges and other structural factors that the government can address only in the long term. In the short to medium terms, the difficult external environment will hamper the economic and investment outlooks. The resulting lower economic growth will hurt Barbados’s fiscal and external accounts and will likely lead to further debt accumulation. Moreover, in our opinion, despite the government’s focused efforts to bring down fiscal deficits, the fiscal stance remains qualitatively weak, as rising debt, off-budget spending, and contingent liabilities (in particular, CLICO) demonstrate.
Barbados is slowly recovering from the severe impact that the global downturn had on the country’s narrow and open economy. Results for the first half of 2012 attest to some mild pick-up in economic activity, and Standard & Poor’s projects real GDP per capita growth of 0.3% for 2012, up marginally from 2011 but substantially below the growth rates before the 2009 downturn.
We expect slightly higher per capita growth of 0.6% in 2013, supported by tourism and construction (driven by the private and public sectors), subsequently moving to about 2%.
With slow recovery, unemployment will likely remain high, peaking at 11.8% in 2012. The main pillars of the Barbadian economy (the tourism and financial sectors) are affected by the persistently difficult external environment. In tourism, we see continued softness in Barbados’s main markets: the U.S. and the U.K. Nevertheless, some foreign investment in the sector continues, and new sites are being developed. Although the recent approval of IADB financing for the Four Seasons project fulfills one of the conditions for the restart of this important investment, the support of other investors and the timeliness of the project are still uncertain.
In international business and financial services, competition is rising, especially from jurisdictions that recently secured tax agreements with Canada. Despite new tax incentives passed in Barbados’s 2012 budget, the recent trend in this sector is of concern, especially given that tax revenues from this sector account for roughly half of corporate tax collection.
In light of a weak economic performance and outlook, the government is focusing on more effective fiscal management. Its efforts are most pronounced on the revenue side. The measures included raising the value-added tax, eliminating tax-free allowances for travel and entertainment, increasing the gasoline excise tax, and hiking other fees. On the spending side, wage growth in nominal terms has been minimal (and negative in real terms), and capital spending has been cut. However, efforts in reducing high transfers and subsidies (especially to statutory bodies) have been less successful, and this financing was shifted (in 2011) to the National Insurance Scheme (NIS).
Including NIS surpluses (estimated at 2.6% of GDP in 2011), the general government deficit narrowed to 4% of GDP last calendar year from 5% in 2010. The change in net general government debt (which includes off-budget spending by NIS) implies a higher deficit of about 7.5% of GDP last year (a deterioration from 5.8% in 2010), and it is forecasted to come down to 4% of GDP this year and 2.9% in 2013.
Barbados’s fiscal deficit was officially reported at 4.6% of GDP as of March 31, 2012, down from 9.1% a year earlier. Although the government’s achieved results are ahead of its 5.6% medium-term fiscal strategy target, we believe the fiscal stance remains weak, with ongoing risks to continued fiscal consolidation. They include a sluggish outlook in the main economic sectors of Barbados, continuously weak private-sector activity, high unemployment, potential spending pressures (stemming from the political cycle, three consecutive years of real decline in wages, and significant cuts in capital spending), and costs related to resolution of CLICO. In addition, transfers to public enterprises began to rise again in the first half of fiscal 2012.
Net general government debt (excluding NIS holding of government paper, NIS liquid assets, and government liquid assets) is forecasted to rise to 62% of GDP in 2012, up from 60% in 2011 and 55% in 2010. Assuming a gradual lowering of fiscal deficits, net general government debt is projected to come down to 58% of GDP by 2015. This trajectory is prone to many downside risks.
However, debt management continues to benefit from various factors: 70% of central government outstanding debt is in local currency, and about 30% of external debt is due to multilaterals.
Several factors continue to support the ratings on Barbados. These include the strength of the social contract among the government, trade unions, and the private sector; political stability; strong institutions; and the government’s ongoing commitment to reduce fiscal deficits and closely monitor the fiscal and external risks.
The recovery rating on Barbados’s foreign-currency debt is ‘3’, indicating our view that post-default recovery would likely be approximately 50%-70%. The recovery analysis assumes a default stemming from rising difficulties in accessing fiscal and external funding at a reasonable cost, possibly including a sharp adjustment in the country’s exchange rate.
Outlook
The stable outlook hinges on our expectations that gradual fiscal adjustment will continue, stabilizing the government debt burden, and that foreign direct investment will fund at least 60% of the current account deficit. Erosion of the external or government balance sheet could lead to pressure on the currency peg. If this were to occur, we would consider lowering our ratings on Barbados again. Conversely, we would likely raise the ratings if the country’s economic prospects strengthen in a sustainable manner or if fiscal accounts show structural improvement.
