Moody’s Ratings: Is Egypt in Better Position Than Nigeria?
For foreign currency attraction, Ballon d’Or will apparently go to Egypt (with a GDP size of $404.15 billion in 2021) rather than Nigeria (with a GDP size of $441 billion), based on Moody’s latest assessment of the two countries.
If asked: where should the money go? Moody’s responses to foreign investors would probably be coloured by its recent ratings on Nigeria and Egypt and its expectations for the future. The ratings mean that Egypt will easily access the Euro market at cheaper rates than Nigeria – if the ratings become the sole yardstick for securities pricing.
The headline inflation rate in Egypt hits 31.2% in January 2023, while Nigeria’s consumer price index printed at 21.34% in December 2022- Both African countries are batting with depreciating local currencies.
Recall that Nigeria’s ratings was downgraded to Caa1 while the government of Egypt’s long-term foreign- and local-currency issuer ratings dropped to B3 from B2. The ratings firm changed the outlook to stable from negative.
It is noteworthy to say that sovereign ratings are used to price borrowings from the international debt capital markets and perhaps entry assessment into a market.
Thus, foreign investors will rely heavily on Moody’s, Fitch or S&P Ratings on sovereign entities– all of which are currently in no favour of the Nigerian market.
The key downside to foreign inflows has been an inability to correctly price the Nigerian naira against the primary currency, the United States dollar. Plus, apex bank capital control measures – investors go to ‘war’ trying to get the dollar out of Nigeria.
How is it different from what’s going on in Egypt? A quick recap: Egyptian recently got inflow from the International Monetary Fund (IMF) to raise its external buffer amidst changing dynamics in money pricing in the international debt capital markets.
The condition for Egypt is to adopt market clearing rates for its foreign exchange transaction, which according to IMF would spur foreign investment inflows. The same was offered to Nigeria but a devaluation of the naira will trigger a retrogression in economic position, critics have said.
“Devaluation of Nigerian naira would affect poor people more than it affects the rich who are naturally undertaken large tickets projects rather than battling with daily survival”, MarketForces Africa gathered.
The ratings firm downgraded the Government of Nigeria’s long-term foreign-currency and local-currency issuer ratings as well as its foreign currency senior unsecured debt ratings to Caa1 from B3 and changed the outlook to stable.
For Egypt, it said the downgrade to B3 reflects the nation’s reduced external buffers and shock absorption capacity while the economy undergoes a structural change toward a more export- and private sector-led growth model under a flexible exchange rate regime.
It was noted that Egypt’s liquid foreign exchange (FX) reserves have declined since the negative outlook assignment in May 2022 and FX liquidity buffers in the monetary system have dwindled, increasing external vulnerability at a time of fragile global conditions.
The ratings noted that build-up of large net foreign liability positions at the central bank and commercial banks has impacted the nation’s external buffers.
“While the government’s announced state-owned asset sale strategy starting this month as part of the new International Monetary Fund program will support this structural adjustment and help generate sustained non-debt creating capital inflows to meet increased external debt service payments over the next two years, these measures will ultimately take time to tangibly reduce Egypt’s external vulnerability risks”.
Moreover, notwithstanding the clear commitment to a fully flexible exchange rate, the government’s capacity to manage the implications for inflation and social stability is yet to be established.
For Nigeria, Moody’s believes that the government’s fiscal and debt position will continue to deteriorate – the main driver behind the rating downgrade.
It said, “The government faces wide-ranging fiscal pressure while the capacity to respond remains constrained by Nigeria’s long-standing institutional weaknesses and social challenges.
“Ultimately, the risk that a negative feedback loop sets in over the next couple of years between higher government borrowing needs and rising interest rates have intensified, exacerbating the policy trade-off between servicing debt and financing other key spending items.
“The 2023 budget plans on an even larger fiscal deficit than in 2022, while the government’s funding options remain narrow and reliant on central bank financing. In addition, the government’s lack of access to external funding sources will add to the external pressure from depressed oil production and capital outflows, thereby eroding further Nigeria’s external profile over time.
“At this stage, immediate default risk is low, assuming no sudden, unexpected events such as another shock or shift in policy direction that would raise the default risk”.
It noted that Egypt’s stable outlook balances up, albeit with downside risks. Downside risks relate to liquidity risks reflected in tight international capital market conditions, as well as higher domestic borrowing costs and social spending pressures in an inflationary environment.
“These risks are mitigated by the government’s dedicated domestic funding base and the government’s track record of consistently generating primary surpluses which Moody’s expects will help reduce the debt burden after a temporary setback”.
Meanwhile, upside risks relating to the implementation of stated competitiveness reforms may enhance the economy’s export base and support foreign direct investment inflows which, in turn, would enhance the economy’s external debt-carrying capacity and sustainably reduce the economy’s external vulnerability risks.
It said Nigeria’s outlook is stable.
“While a new administration could reinvigorate the reform impetus in Nigeria after the general elections planned for 25 February 2023 and thereby support fiscal consolidation, implementation will likely remain lengthy amid marked social and institutional constraints.
“Indeed, the government has long-held the aim of raising non-oil revenue and phasing out the costly oil subsidy, but these objectives necessitate reforms that are institutionally, socially and politically challenging to carry through. Meanwhile, funding conditions are likely to remain tight”.
EGYPT: RATIONALE FOR THE DOWNGRADE TO B3 FROM B2
The drawdown of foreign currency liquidity buffers in the monetary system in response to sharp capital flow reversals and external market disruptions in the past year has reduced the government’s external shock absorption capacity.
While the situation may stabilize, Moody’s does not expect Egypt’s liquidity and external positions to rebound quickly.
Liquid FX reserves have declined to $26.7 billion at the end of December 2022 from $29.3 billion at the end of April 2022, while the net foreign liability position in the monetary system has increased to $20 billion at the end of December from $13 billion in April.
The drawdown of FX liquidity has significantly reduced coverage of upcoming medium- and long-term external debt service (principal + interest) payments amounting to $20.4 billion in fiscal 2024 (ending June) and $23.2 billion in fiscal 2025, in addition to $26 billion in short-term debt, amid tight external funding conditions.
The rating takes into account a gradually narrowing current account deficit to a projected 3% in fiscal 2024 from 3.5% in fiscal 2022 and the financial support measures outlined in the $3-billion, 46-month Extended Fund Facility (EFF) program approved by the IMF on 16 December 2022 to cover the estimated cumulative $17 billion funding gap over the duration of the program, conditional on the implementation of continued competitiveness reforms under a durably flexible exchange rate regime as announced by the Central Bank of Egypt on 27 October 2022.
The financing sources include almost $9 billion in state-owned asset sales including to regional partners in the Gulf Cooperating Council (GCC) starting this fiscal year, in addition to about $5 billion from official lenders in addition to the $3 billion provided by the IMF.
NIGERIA: RATIONALE FOR THE DOWNGRADE TO Caa1
The review for downgrade focused on Nigeria’s fiscal and external position and the capacity of the government to address the ongoing deterioration – other than by alleviating the burden of its debt through any form of default, including debt exchanges or buy-backs.
DETERIORATION IN FISCAL AND DEBT POSITION LIKELY TO CONTINUE
Fiscal pressure from falling oil production, the increasingly costly oil subsidy as well as rising interest rates will likely persist over the next couple of years, while a policy response post-election is likely to take some time to put Nigeria’s fiscal position on a more sustainable path.
As a result, Moody’s expects that the scope to finance core spending to support the country’s social and economic development will remain constrained, with the service of debt increasingly coming at odds with other spending priorities.
Under its baseline scenario, the rating agency projects that interest payments will consume about half of general government revenue over the medium term, up from an estimated share of 35% in 2022 and that general government debt-to-GDP will continue rising to about 45%, up from 34% in 2022 and 19% in 2019.
The oil production outlook as well as the securitization of past advances from the Central Bank of Nigeria (CBN) both remain uncertain. In particular, securitization would bring a degree of fiscal relief but its lawfulness is being contested in Parliament and its passage uncertain.
As a result, fiscal consolidation primarily hinges on raising the level of non-oil revenue, which at the general government level has so far bounced back to levels last witnessed in 2014 after successive shocks.
However, boosting non-oil receipts beyond this recovery level will likely be incremental. Moody’s baseline scenario is that the government will phase out the oil subsidy only very gradually, and replace it by a more targeted and less costly social transfer. Nigeria’s institutional capacity to design and implement a fiscal consolidation strategy remains very weak.
While the general election scheduled for 25 February 2023 may result in a new political leadership with renewed willingness and sufficient political capital to tackle fiscal issues, weak institutional capacity and vested interests suggest that implementation will be lengthy.
Moreover, Nigeria’s social context and complex societal setup add further difficulties to delivering fiscal reforms. It said Nigeria’s indicators measuring governance and social outcomes are particularly weak; data and assessment on key policy issues lacking.
Government funding options are constrained, suggesting that the government will borrow at higher interest rates in 2023 at least and with heavy reliance on domestic debt, including continuing borrowing from the CBN.
The financial sector remains underdeveloped relative to many of Moody’s rated sovereigns globally, with the banking sector representing the main segment (36% of GDP in assets) and carrying already large on-balance sheet exposure to the government and the CBN (42% based on Moody’s-rated banks).
Moody’s said Egypt adhering to a fully flexible exchange rate will be credit positive in the medium term. At this stage, the shift to a durably flexible exchange rate regime is complicated by already high inflation and domestic borrowing costs which are being exacerbated by the sharp unwinding of previous real effective exchange rate misalignments.
In Moody’s view, this complexity raises questions about the central bank’s and government’s capacity to manage the full consequences of the transition.
Since announcing the shift in exchange rate policy in late October 2022, the Egyptian pound has depreciated by almost 35% against the US dollar, bringing the cumulative depreciation since the start of the Russian invasion of Ukraine in February 2022 to almost 50%.
By this, it largely replicates the impact of the initial flotation of the currency in November 2016 and among the largest depreciations witnessed globally.
“While a truly flexible currency regime will foster increased price competitiveness to grow Egypt’s export base and help rebalance external accounts by reducing excessive imports and demand for foreign exchange, the pass-through from higher exchange rate volatility in the future carries the risk of potentially prolonging inflationary pressures, resulting in higher than currently assumed interest rates and borrowing costs for the government, in addition to social risks in light of the population’s deteriorating purchasing power”.
With headline inflation running at 21.4% year-on-year in December and core inflation at 24.5% and additional inflationary pressures resulting from the renewed devaluation in January, Moody’s expects demand on social spending support measures to increase, reducing the government’s spending flexibility.
Egypt: RATIONALE FOR CHANGING THE OUTLOOK TO STABLE FROM NEGATIVE
Egypt has very high annual gross financing needs at over 30% of GDP in comparison with other similarly rated peers, at a time when domestic and international liquidity conditions remain constrained.
The short average maturity of the debt stock at 3.4 years generates large rollover needs of T-bills accounting for about 20% of GDP in the local currency market where the government benefits from a large and dedicated domestic funding base, albeit at higher yields.
At the end of January, 91-day yields have increased to 20.6%, close to the post-flotation peak of 21.6% reached in July 2017. Inflation pass-through from the most recent depreciation in January points to a further rise in borrowing costs ahead.
However, Moody’s expects Egypt to maintain continued access to local currency markets to meet its financing needs even at the cost of crowding out lending to the private sector where claims to total assets have ranged between 20-25% of total assets over the past five years compared to total public sector exposures at 40% – 50% over the same time period.
In addition, fiscal authorities continue their effort to extend the average maturity of the debt stock including via the issuance of variable rate debt at longer maturities.
On the external side, liquidity risks relate to the increasing commercial bond and note debt servicing schedule with $4.6 billion coming due in fiscal 2024 and $4.3 billion in fiscal 2025 as per IMF estimates, amid tight external market funding conditions and higher average borrowing costs as a result of higher risk-free rates in advanced economies.
In Moody’s assessment, frontloaded official loan disbursements under the IMF program this fiscal year help cover immediate financing needs while the government is exploring market debt issuances backed by third-party guarantees to help support market access in the future in case of persistently tight financing conditions.
Regarding official sector debt maturities, Moody’s said effective rollover needs are eased by the GCC’s commitment to extend long- and short-term deposits during the duration of the IMF program.
Overall GCC exposures account for 26% of the total external debt stock, or about $40 billion, representing the second largest creditor exposure after multilateral at $51 billion, or 33% of the total. #Moody’s Ratings: Is Egypt in Better Position Than Nigeria?