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RESUPD

Research Update: Honduras 'BB-/B' Ratings Affirmed; Outlook Remains Stable


Research Update: Honduras 'BB-/B' Ratings Affirmed; Outlook Remains Stable

Overview

  • The impact of the COVID-19 pandemic and the global downturn will result in economic contraction this year and higher fiscal deficits in Honduras.
  • However, we do not expect these shocks to create a structurally weaker external profile for the sovereign as the economy recovers next year.
  • We are affirming our 'BB-/B' sovereign credit ratings on Honduras.
  • The stable outlook reflects our view that economic recovery, the government's commitment to fiscal moderation, and its continued access to ample sources of funding will contain the potential deterioration of public finances and external liquidity.

Rating Action

On May 6, 2020, S&P Global Ratings affirmed its 'BB-/B' long- and short-term sovereign credit ratings on Honduras. The outlook remains stable. We also affirmed our 'BB' transfer and convertibility (T&C) assessment.

Outlook

The stable outlook reflects our view that the government's commitment to fiscal moderation, its ample access to funding sources, and economic recovery in 2021 will contain the potential deterioration of public finances and external liquidity stemming from the COVID-19 pandemic and global recession. We assume that fiscal deficits will remain contained after the one-off expansion in 2020. We also expect that a combination of economic recovery starting next year and cautious economic policies will help reverse the near-term deterioration in the sovereign's fiscal and debt profiles.

Downside scenario

We could lower the ratings over the next 12 months if the impact of the economic downturn is more severe than our base case, or if the recovery is less robust, weighing on trend GDP growth and keeping high fiscal deficits for longer. Additionally, a consistent deterioration in the current account that could weaken the country's external liquidity position could lead to a downgrade.

Upside scenario

In contrast, we would raise the ratings over the next two years if the economy recovers faster than we expect from the severe external shock, and if the faster-than-expected growth translates into stronger fiscal results. Additionally, we could raise the rating if monetary policy flexibility improves, or if there is more effective policymaking and strengthening of public institutions of governance, thereby reducing the long-term risk of instability and policy uncertainty.

Rationale

The ratings on Honduras reflect the country's low per capita GDP, shortcomings in governance and public institutions (including in public enterprises), and exchange-rate rigidities that constrain monetary policy effectiveness. The ratings also incorporate a track record of improved fiscal indicators and moderate external vulnerabilities.

Honduras' economic, fiscal, and debt trajectories will deteriorate because of the global economic downturn and the impact of the COVID-19 pandemic. However, we expect the government will take steps to stabilize the economy while addressing immediate health and social costs associated with the pandemic. The country's ample access to official sources of funding should sustain external liquidity and financial market stability.

Institutional and economic profile: Developing, but still weak, governing public institutions limit the sovereign's ability to promote economic growth
  • The government has made little progress in establishing clear rules for reelection and continues working to reduce crime and corruption.
  • We expect per capita income to remain low, at about $2,600, and maintaining sustainable economic growth is a policy priority.
  • The impact of COVID-19 will make it even more difficult to accelerate economic growth over the next three years.

S&P Global Ratings acknowledges a high degree of uncertainty about the rate of spread and peak of the coronavirus outbreak. Some government authorities estimate the pandemic will peak about midyear. (For more information, see "The Escalating Coronavirus Shock Is Pushing 2020 Global Growth Toward Zero," March 30, 2020, and "COVID-19 Deals A Larger, Longer Hit To Global GDP," April 16, 2020.)

The COVID-19 pandemic and the global recession will have a severe impact on Honduras' economy in 2020. The government has declared a national state of emergency and adopted containment measures, including a nationwide curfew and closing of national borders. The authorities have taken fiscal and monetary and macrofinancial measures to respond to the health care and humanitarian crisis, protect employment, and mitigate the impact on economic activity. Congress approved a special economic rescue law deferring to the second half of 2020 payments of income taxes and social contributions, favoring small and midsize enterprises (SMEs). Value-added tax payments were also deferred for SMEs in nonessential sectors not operating during the curfew.

The decree also introduced a one-off income tax credit (10% of salary expenses) for companies maintaining precrisis employment levels, as well as basic unemployment benefits for workers in the formal sector during the national curfew, to be financed jointly by employers, the government, and the social security system. The decree also included authorization of expedited purchasing procedures for emergency expenditures related to the crisis, as well as authorization for additional borrowing by the government of $2.5 billion in 2020-2021.

We project Honduras' economy will contract by 2.5% in 2020, down from 2.7% growth in 2019. The impact of containment measures, lower investor confidence, and financial market volatility will constrain consumption and investment. In addition, a drop in remittances, which account for 22% of GDP in 2019, will hit private consumption. Exports will also fall, as about 40% are typically destined to the U.S. We expect GDP growth to accelerate to 3.8% in 2021, in line with a global recovery, and then hover around 3.5% in the next couple of years. On a per capita basis, the forecast implies GDP contraction of 4% in 2020 and average growth of 2% over 2021-2023.

Over the midterm (about three to five years), Honduras' economic growth rate is constrained by limited, albeit expanding, physical infrastructure, the large size of the informal sector, and its vulnerability to external shocks. Honduras' reliance on the U.S. economy is a long-term challenge. Looking beyond the pandemic, raising potential growth will require steps to foster competitiveness and investment.

President Juan Orlando Hernández began his second four-year term in January 2018 with a more difficult political environment and high social tensions. Nevertheless, we expect continuity in key economic policies to support favorable growth prospects in the midterm. Although, we believe there could problems in the longer term if the government fails to address institutional weaknesses in key public institutions and establish clear rules for reelection. Honduras continues to face high crime, and despite continued progress in reducing homicides, the rate remains high. We believe a continued commitment to fighting corruption is key to strengthening the Honduran justice system.

The Honduran government entered into a 24-month program with the International Monetary Fund (IMF) in July 2019 to help stabilize its finances and undertake reforms, especially in the energy sector. The government-owned electricity company Empresa Nacional de Energía Eléctrica (ENEE) poses a major fiscal weakness, typically running losses of around 1% of GDP annually. Under the original plan, the government had committed to gradually reduce the losses to 0.8% of GDP by 2020, a target that will not be met due to the disruptions caused by recession.

Despite the recession, we expect the government to remain committed to the reform program, albeit with delays and modifications. Among the planned policies are a new tariff scheme; unbundling the ENEE in subsidiaries for generation, transmission, and distribution; and reducing financing costs and electricity losses. In our opinion, ongoing energy reform will lower production costs and create a more efficient electricity system, improving the economy's overall competitiveness.

Flexibility and performance profile: Government debt will rise in 2020 because of emergency fiscal measures and the economic downturn but will likely stabilize at moderate levels
  • We estimate the general government fiscal deficit to widen to 4.4% of GDP in 2020 from an estimated 0.7% surplus last year, pushing net general government debt to 40.4% of GDP, from 34.5% of GDP in 2019.
  • Energy-sector reforms continue to face challenges to ensure ENEE's sustainability, which are being addressed by the two-year blended standby arrangement (SBA) and standby credit facility (SCF) signed with the IMF.
  • We expect Honduras' external indicators to remain solid despite tough global conditions.

Honduras' general government posted an estimated surplus of 0.7% of GDP in 2019. Excluding surpluses in public-sector pension funds (which we include in our general government balance), the fiscal balance was likely a deficit of 2.5% of GDP. We assume that economic contraction will boost the fiscal deficit toward 4.4% of GDP (or around 5.8% excluding pension fund surpluses), reflecting a loss of revenues and higher expenditures due to the COVID-19 pandemic. Subsequently, we expect the general government deficit to gradually decrease toward 1.8% of GDP.

Despite fiscal worsening in 2020, we expect continued cautious fiscal policy should lead to a stable general government debt burden during 2021-2023. Following expected general government deficits, the net general government debt could increase toward 40.4% of GDP in 2020 from 34.5% in 2019. (We deduct intergovernmental debt holdings from our calculation of general government debt, and we further deduct liquid government assets to calculate net general government debt.)

To finance the larger deficit spending, we expect increased debt issuance in the global and local capital markets. In addition, the government has solid relationships with multilateral institutions and access to credit lines.

The composition of Honduras' debt remains favorable, with most of its external debt owed to multilateral institutions and with gradual improvement in its domestic debt profile. More than 70% of the total debt is in foreign currency. Moreover, interest payments on the debt are projected to remain around 13% of general government revenues.

The government has continued to take steps to bolster its economic and fiscal resilience. An SBA and an SCF with total access of US309.2 million were approved on July 15, 2019. The program aims at maintaining macroeconomic stability and supporting growth through reforms to foster revenue mobilization, secure sustainability in the electricity sector, and improve governance and the business climate. Recently, the government accessed US$143 million available under the SBA/SCF agreement to mitigate COVID-19 shocks.

Honduras' shortfalls in basic services and infrastructure, which will require long-term expenditures, constrain its fiscal flexibility. We estimate that contingent liabilities from the financial sector and the nonfinancial public sector are limited.

We expect Honduras' external profile to remain stable despite global volatility. We expect the drop in exports and reduced inflows of remittances, given weaker global demand and U.S recession, respectively, to be offset by a decline in imports--due to subdued domestic demand--and the fall in oil prices. As a result, we expect the current account deficit (CAD) to narrow to 4.4% of GDP in 2020, from an estimated 5.6% in 2019. Although we expect a drop in foreign direct investment inflows, they will likely continue to largely cover the CADs. Such inflows were around 4% of GDP on average in the past three years.

Accordingly, we forecast Honduras' narrow net external debt to increase to 25% of current account receipts this year and hover around 29% during 2021-2023. The country's gross external financing needs will likely average 93% of current account receipts and usable reserves over the same period.

Honduras has a crawling peg exchange rate regime and a small domestic capital market, which limit the effectiveness of monetary policy. Honduras has heavily managed its exchange rate within a narrow band since 2011, though it has taken steps to loosen foreign exchange restrictions in the transition toward inflation targeting. The central bank has loosened requirements to surrender U.S. dollars, allowing banks to sell 60% of their foreign exchange inflows in the interbank market.

We expect inflation to stay within the central bank's target of 4% (plus or minus 1%) in 2020-2023. Dollar-denominated assets and liabilities in the banking system account for about one-third of commercial bank claims and deposit liabilities, creating a vulnerability to sharp movements in the exchange rate.

Key Statistics

Table 1

Honduras--Selected Indicators
2014 2015 2016 2017 2018 2019e 2020e 2021f 2022f 2023f
Economic indicators (%)
Nominal GDP (bil. LC) 414.63 460.41 495.92 542.57 572.95 615.05 625.40 675.60 722.40 776.88
Nominal GDP (bil. $) 19.62 20.83 21.57 22.94 23.80 24.92 24.54 25.67 26.58 27.67
GDP per capita ($000s) 2.3 2.4 2.5 2.6 2.6 2.7 2.6 2.7 2.8 2.8
Real GDP growth 3.1 3.8 3.9 4.8 3.7 2.7 (2.5) 3.8 3.5 3.6
Real GDP per capita growth 1.5 2.1 2.2 3.1 2.1 1.0 (4.0) 2.2 1.9 2.0
Real investment growth 0.6 12.3 (7.4) 9.2 5.4 (3.9) (2.5) 3.8 3.5 3.6
Investment/GDP 22.2 25.1 23.4 24.2 25.5 22.3 23.0 23.6 24.4 25.2
Savings/GDP 15.2 20.4 20.7 23.4 20.2 16.7 18.5 19.2 19.2 19.6
Exports/GDP 47.6 45.2 42.7 43.4 41.8 40.2 36.4 37.9 38.2 38.1
Real exports growth 3.4 2.9 0.9 5.2 1.4 2.4 (2.5) 3.8 3.5 3.6
Unemployment rate 5.3 7.3 7.4 6.7 6.1 6.6 7.6 6.9 6.8 6.8
External indicators (%)
Current account balance/GDP (7.0) (4.7) (2.6) (0.8) (5.4) (5.6) (4.4) (4.4) (5.2) (5.6)
Current account balance/CARs (10.5) (7.3) (4.3) (1.2) (8.3) (8.9) (7.7) (7.3) (8.6) (9.1)
CARs/GDP 66.3 64.0 61.8 64.7 64.5 63.1 57.5 59.6 60.7 61.0
Trade balance/GDP (15.1) (14.2) (12.1) (12.0) (15.4) (16.0) (12.8) (13.4) (15.0) (15.9)
Net FDI/GDP 6.7 4.6 4.2 4.5 3.8 3.6 2.8 3.1 3.2 3.3
Net portfolio equity inflow/GDP 0.1 (0.0) (0.1) 3.7 (0.1) (0.0) (0.0) (0.0) (0.0) (0.0)
Gross external financing needs/CARs plus usable reserves 98.2 93.7 92.0 89.8 90.8 93.2 86.1 89.3 92.8 96.5
Narrow net external debt/CARs 19.7 20.4 18.6 17.5 19.7 16.0 24.5 26.7 30.4 30.7
Narrow net external debt/CAPs 17.8 19.0 17.9 17.2 18.2 14.7 22.8 24.8 28.0 28.1
Net external liabilities/CARs 75.4 80.1 83.7 77.2 79.9 79.3 99.4 100.5 105.3 102.4
Net external liabilities/CAPs 68.2 74.6 80.3 76.3 73.8 72.8 92.3 93.6 97.0 93.9
Short-term external debt by remaining maturity/CARs 5.2 5.6 8.7 6.9 5.0 7.2 7.9 7.8 7.9 7.9
Usable reserves/CAPs (months) 1.9 2.3 2.6 2.4 2.7 2.7 3.8 3.2 2.8 2.3
Usable reserves (mil. $) 2,746 3,031 3,017 3,807 3,873 4,825 4,414 4,100 3,606 3,549
Fiscal indicators (general government; %)
Balance/GDP (2.7) (0.8) (0.4) (0.4) 0.2 0.7 (4.4) (3.1) (2.4) (1.8)
Change in net debt/GDP 3.8 3.7 2.6 4.6 0.8 3.3 6.5 3.5 2.9 3.5
Primary balance/GDP (0.2) 1.9 2.2 2.3 3.2 4.0 (0.9) 0.3 1.2 1.5
Revenue/GDP 24.9 25.2 27.0 26.5 26.5 26.4 24.5 24.5 24.9 25.3
Expenditures/GDP 27.6 26.0 27.4 26.9 26.3 25.8 28.8 27.6 27.3 27.0
Interest/revenues 9.9 10.4 9.7 10.3 11.3 12.8 14.0 13.9 14.1 13.0
Debt/GDP 43.2 43.8 42.7 45.1 44.9 45.6 51.7 51.6 51.5 51.5
Debt/revenues 173.2 173.6 158.1 170.1 169.6 172.6 211.3 211.2 206.6 203.7
Net debt/GDP 32.0 32.5 32.7 34.5 33.5 34.5 40.4 40.9 41.2 41.7
Liquid assets/GDP 11.2 11.3 9.9 10.5 11.4 11.1 11.3 10.7 10.3 9.7
Monetary indicators (%)
CPI growth 5.8 2.4 3.3 4.7 4.2 4.0 4.5 4.5 4.5 4.5
GDP deflator growth 6.8 7.0 3.7 4.4 1.8 4.6 4.3 4.1 3.3 3.8
Exchange rate, year-end (LC/$) 21.63 22.45 23.62 23.72 24.50 24.82 25.63 26.47 27.34 28.23
Banks' claims on resident non-gov't sector growth 11.7 10.2 12.0 8.1 15.0 8.8 2.9 9.4 9.1 1.2
Banks' claims on resident non-gov't sector/GDP 56.8 56.4 58.6 57.9 63.0 63.9 64.6 65.5 66.8 62.8
Foreign currency share of claims by banks on residents 20.8 20.0 18.9 24.1 25.0 25.3 26.6 25.7 25.0 26.2
Foreign currency share of residents' bank deposits 31.6 29.1 28.5 28.1 27.5 27.8 27.8 27.8 27.8 27.8
Real effective exchange rate growth 2.1 0.4 (1.6) (0.6) 0.9 (0.6) N/A N/A N/A N/A
Sources: Central Bank of Honduras (Economic Indicators); Central Bank of Honduras (External Indicators); Ministry of Finance and Central Bank of Honduras (Fiscal Indicators); International Monetary Fund (Monetary Indicators); and S&P Global Ratings calculations.
Adjustments: N/A.
Definitions: Savings is defined as investment plus the current account surplus (deficit). Investment is defined as expenditure on capital goods, including plant, equipment, and housing, plus the change in inventories. Banks are other depository corporations other than the central bank, whose liabilities are included in the national definition of broad money. Gross external financing needs are defined as current account payments plus short-term external debt at the end of the prior year plus nonresident deposits at the end of the prior year plus long-term external debt maturing within the year. Narrow net external debt is defined as the stock of foreign and local currency public- and private- sector borrowings from nonresidents minus official reserves minus public-sector liquid assets held by nonresidents minus financial-sector loans to, deposits with, or investments in nonresident entities. A negative number indicates net external lending. N/A--Not applicable. LC--Local currency. CARs--Current account receipts. FDI--Foreign direct investment. CAPs--Current account payments. e--Estimate. f--Forecast. The data and ratios above result from S&P Global Ratings' own calculations, drawing on national as well as international sources, reflecting S&P Global Ratings' independent view on the timeliness, coverage, accuracy, credibility, and usability of available information.

Ratings Score Snapshot

Table 2

Honduras--Ratings Score Snapshot
Key rating factor Score Explanation
Institutional assessment 5 Honduras has still-weak public institutions, ineffective checks and balances, corruption, and inadequate public services. High risk of challenges to political institutions because of demands for more economic and political participation.
Economic assessment 5 Based on GDP per capita (US$) and growth trends as per Selected Indicators in table 1.
External assessment 2 Based on narrow net external debt and gross external financing needs/(CAR + usable reserves) as per Selected Indicators in table 1.
Fiscal assessment: flexibility and performance 5 Based on the change in net general government debt (% of GDP) as per Selected Indicators in table 1.
The sovereign faces shortfalls in basic services and infrastructure, as reflected, for instance, in the "medium" level of human development as classified by the UNDP in 2019.
Fiscal assessment: debt burden 4 Based on net general government debt (% of GDP) and general government interest expenditures (% of general government revenues) as per Selected Indicators in table 1.
Over 40% of gross government debt is denominated in foreign currency.
Monetary assessment 4 The Honduran lempira has a exchange rate within a crawling band since 2011. The central bank has maintained the exchange rate band of +/- 1% with respect to an established reference exchange rate for the daily foreign currency auctions.
The combination of a crawling peg exchange rate, a high level of dollarization, and a small, open economy limits the effectiveness of the monetary policy, despite an above 50% of GDP local financial market.
Indicative rating bb-
Notches of supplemental adjustments and flexibility 0
Final rating
Foreign currency BB-
Notches of uplift 0
Local currency BB- Default risks do not apply differently to foreign- and local-currency debt.
S&P Global Ratings' analysis of sovereign creditworthiness rests on its assessment and scoring of five key rating factors: (i) institutional assessment; (ii) economic assessment; (iii) external assessment; (iv) the average of fiscal flexibility and performance, and debt burden; and (v) monetary assessment. Each of the factors is assessed on a continuum spanning from 1 (strongest) to 6 (weakest). S&P Global Ratings' "Sovereign Rating Methodology," published on Dec. 18, 2017, details how we derive and combine the scores and then derive the sovereign foreign currency rating. In accordance with S&P Global Ratings' sovereign ratings methodology, a change in score does not in all cases lead to a change in the rating, nor is a change in the rating necessarily predicated on changes in one or more of the scores. In determining the final rating the committee can make use of the flexibility afforded by §15 and §§126-128 of the rating methodology.

Related Criteria

  • Criteria | Governments | Sovereigns: Sovereign Rating Methodology, Dec. 18, 2017
  • General Criteria: Methodology For Linking Long-Term And Short-Term Ratings, April 7, 2017
  • General Criteria: Use Of CreditWatch And Outlooks, Sept. 14, 2009
  • General Criteria: Methodology: Criteria For Determining Transfer And Convertibility Assessments, May 18, 2009

In accordance with our relevant policies and procedures, the Rating Committee was composed of analysts that are qualified to vote in the committee, with sufficient experience to convey the appropriate level of knowledge and understanding of the methodology applicable (see 'Related Criteria And Research'). At the onset of the committee, the chair confirmed that the information provided to the Rating Committee by the primary analyst had been distributed in a timely manner and was sufficient for Committee members to make an informed decision.

After the primary analyst gave opening remarks and explained the recommendation, the Committee discussed key rating factors and critical issues in accordance with the relevant criteria. Qualitative and quantitative risk factors were considered and discussed, looking at track-record and forecasts.

The committee's assessment of the key rating factors is reflected in the Ratings Score Snapshot above.

The chair ensured every voting member was given the opportunity to articulate his/her opinion. The chair or designee reviewed the draft report to ensure consistency with the Committee decision. The views and the decision of the rating committee are summarized in the above rationale and outlook. The weighting of all rating factors is described in the methodology used in this rating action (see 'Related Criteria And Research').

Ratings List

Ratings Affirmed

Honduras

Sovereign Credit Rating BB-/Stable/B
Transfer & Convertibility Assessment BB
Senior Unsecured BB-

Certain terms used in this report, particularly certain adjectives used to express our view on rating relevant factors, have specific meanings ascribed to them in our criteria, and should therefore be read in conjunction with such criteria. Please see Ratings Criteria at www.standardandpoors.com for further information. Complete ratings information is available to subscribers of RatingsDirect at www.capitaliq.com. All ratings affected by this rating action can be found on S&P Global Ratings' public website at www.standardandpoors.com. Use the Ratings search box located in the left column.

Primary Credit Analyst:Omar A De la Torre Ponce De Leon, Mexico City (52) 55-5081-2870;
omar.delatorre@spglobal.com
Secondary Contact:Livia Honsel, Mexico City + 52 55 5081 2876;
livia.honsel@spglobal.com

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