Fitch Affirms Bahrain at 'BB+'; Outlook Stable
2017-02-17 - 4:00 p
Bahrain Mirror- Reuters: Fitch Ratings has affirmed Bahrain's Long-Term Foreign and Local Currency Issuer Default Ratings (IDRs) at 'BB+' with a Stable Outlook. The Country Ceiling has been affirmed at 'BBB+' and the Short-Term Foreign and Local Currency IDRs at 'B'.
The issue ratings on Bahrain's senior unsecured foreign and local currency long-term bonds have been affirmed at 'BB+'. The ratings on the sukuk trust certificates issued by CBB International Sukuk Company 5 have also been affirmed at 'BB+'. The issue ratings on Bahrain's senior unsecured local currency short-term bonds have been affirmed at 'B'.
Bahrain's ratings are supported by high GDP per capita and human development indicators (relative to the BB median), a developed financial sector and the boost to external financing flexibility from strong GCC support. The strengths are balanced by double-digit fiscal deficits, high and rising debt, a highly oil-dependent government budget and domestic political tensions that hamper fiscal adjustment.
Fitch expects the fiscal deficit to fall only moderately to 12.3% of GDP in 2017 (assuming Brent averages USD45/bbl), from an estimated 13.6% of GDP in 2016 and 15.4% of GDP in 2015. The estimated fiscal breakeven Brent oil price of USD 84/bbl for 2017 is well above expected oil prices in the medium term. Continued deficits will push debt to 84% of GDP in 2018 from 75% of GDP in 2016 (well in excess of the BB median of 51% of GDP).
Fitch's deficit numbers include estimated extra-budgetary spending of 2.6% of GDP, and the 2016 fiscal outturns are still preliminary. Subsidy reform, spending restraint and growing non-oil revenue underpin the adjustment effort. Gradual increases in domestic gas and fuel prices partly offset the negative effect of oil price weakness on hydrocarbon revenue, which Fitch expects to rise 13.4% in 2017 after a fall of only 10% in 2016. Fitch expects spending to grow at a rate below non-oil GDP growth, after a broad-based cut of 8.2% in 2016.
The biggest spending cuts were to subsidies and transfers (24%, reflecting the start of utility price reforms), and capital spending (31%). Notably, the nominal wage bill also fell (by 3.1%), for the first time in recent history. The government is increasing non-hydrocarbon revenue by adjusting various fees. Our forecast has it rising by 14.4% in 2017 after 5.8% in 2016. These measures will continue in 2018, supplemented by the introduction of VAT. Bahrain will finance its deficits through a mixture of foreign and local debt.
In our forecast, the government's foreign borrowing reaches roughly USD3.2bn in 2017 and USD2.2bn in 2018, after USD2.9bn in 2016. Fitch assumes domestic borrowing will be less than a third of these amounts, in line with 2016. A debt management strategy is still in the early stages of development, but the government wishes to limit domestic borrowing. The government would have recourse to other means of financing in a stress scenario. Its deposits in domestic banks (around 14.2% of GDP in 2016) mostly reflect the assets of the Social Insurance Organisation, which could increase its holdings of government debt.
Government-owned Mumtalakat Holding Company has an illiquid portfolio of mostly domestic assets with a balance sheet value of around 30% of GDP. Fitch expects GDP growth of 2.4% in 2017-2018. This reflects constant hydrocarbon volumes (after a fall in 2016) and a moderation of non-hydrocarbon growth to 3% from an estimated 3.4% in 2016. Spending on projects financed by the USD7.5bn GCC development fund provides crucial support to growth amid government retrenchment. USD3.9bn of projects had been awarded to contractors as at end-2016 up from USD1.1bn at end-2015.
Growth is also supported by state-owned enterprise projects (in oil, gas, and aluminium). Banks are well placed to extend more credit to the economy and the government, enjoying profitability, high levels of capitalisation and liquidity, and low nonperforming loan levels. Higher policy rates and yields on government bonds have not yet translated into significantly higher private sector borrowing costs.
Fitch expects credit to the private sector to expand by 4%-5% per year in 2017-18, from an estimated 3.5% in 2016. The GCC development fund reflects the broader support that Bahrain enjoys from some GCC countries, particularly Saudi Arabia and Kuwait. Bahrain gets most of its oil from the Abu Sa'afa field shared with Saudi Arabia (it is entitled to 50% of production, but has sometimes received significantly more as a form of support).
In Fitch's view, further material support from the GCC would be forthcoming in case of extreme political, financial, or fiscal instability, given Bahrain's small size and strategic importance. The expectation of such support has supported Bahrain's market access and US dollar peg despite a low level of foreign exchange reserves, which had fallen to an estimated 1.2 months of current external payments at the end of 2016.
Tensions continue between the Sunni-led government and the predominantly Shia opposition. Sporadic violence appears to have intensified in 2H16 after Al Wefaq, the main opposition group, was dissolved on charges of harbouring terrorism. In Fitch's view, social pressures and the lack of a sustainable political solution hamper implementation of the fiscal reforms necessary to tackle the worsening debt trajectory.
SOVEREIGN RATING MODEL (SRM) and QUALITATIVE OVERLAY (QO)
Fitch's proprietary SRM assigns Bahrain a score equivalent to a rating of 'BB+' on the Long-Term FC IDR scale. Fitch's sovereign rating committee adjusted the output from the SRM to arrive at the final LT FC IDR by applying its QO, relative to rated peers, as follows: - External Finances: +1 notch, to reflect the boost to external financing flexibility from strong GCC support. - Public Finances: -1 notch, to reflect a rising debt trajectory and the rigidity of government revenue and expenditure. Fitch's SRM is the agency's proprietary multiple regression rating model that employs 18 variables based on three year centred 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.
The main factors that could lead to negative rating action are: - Failure to reduce the fiscal deficit leading to a sharper than expected rise in the debt-to-GDP ratio. - Severe deterioration of the domestic security situation. The main factors that could lead to positive rating action are:
- A reduction in the budget deficit consistent with a decline of the government debt-to-GDP ratio in the medium term.
- A broadly accepted political solution to domestic political tensions. KEY ASSUMPTIONS Fitch assumes that Brent crude will average USD45/bbl in 2017 and USD55/bbl in 2018. Fitch assumes no change to the rule of the royal family.
Fitch assumes that regional conflicts will not directly impact Bahrain or its ability to trade. Fitch assumes no change to the peg of the Bahraini dinar to the US dollar.
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