El Salvador has been warned of credit rating downgrades in the past by the International Monetary Fund (IMF) for spending their national wealth on acquiring riskier crypto assets like Bitcoin (BTC). Today, Fitch Ratings, a New York-based, reputed credit rating agency, has downgraded El Salvador's Long-Term Foreign-Currency Issuer Default Rating (IDR) to CCC from B-.
Despite several serious concerns the international financial community raised, El Salvador will still go ahead with its planned $1 billion Bitcoin bond sale. Finance Minister Alejandro Zelaya said that the Bitcoin bonds would carry an interest rate of 6.5 per cent, and Blockstream, a Canadian blockchain infrastructure company, will handle the technological backend process. "These Bonds will comply with all financial market regulations," said Zelaya, as quoted by reported by Coindesk.
"Weakening of institutions and concentration of power in the presidency has increased policy unpredictability, and the adoption of bitcoin as legal tender has added uncertainty about the potential for an IMF program that would unlock financing for 2022-2023," said Fitch.
As estimated by Fitch, El Salvador needs a total of $4.85 billion or 16 per cent of the GDP to fulfil all its economic plans for 2022. The financial need for the country is expected to grow to $5.4 billion, 18 per cent of GDP in 2023.
The report further says that financing options in the local financial market of El Salvador are limited since the government has almost reached its legal borrowing limit in short-term Letes debt of $1.6 billion. Also, the under subscription in the Letes January 2022 auction clearly shows that the primary subscribers of such government bonds like the local pension funds and banks have refrained from buying them this year.
While El Salvador may face $305 million in external debt amortizations in 2022, this figure is expected to rise to $1.2 billion in 2023, with approximately $800 million Eurobond maturing in January 2023 alone. So without sufficient bond payments servicing measures, El Salvador is looking at an estimated $1.2 billion fiscal deficit in 2022 as the government is expected to spend $1 billion in multilateral disbursements and pension-related debt issuance.
Fitch estimates that the proposed deficit figure may rise to $2.5 billion in 2023, as the countries rely highly upon short-term debt to finance their economic policies. An estimated amount of $2.6 billion was raised as of January 2022, and this figure was $896 million in 2019. So the government's debt rose by $1.704 billion over two years.
The El Salvador government has been trying to reach an agreement with the IMF for a possible $1.3 billion 3 year loan for quite some time, but due to a lack of mutual understanding and clarity, the deal is not going through. "A deal would help cover the government's financing gap and likely unlock other multilateral loans. It would also help provide more clarity on the government's medium-term fiscal strategy," Fitch said in their report.
Fitch expects the fiscal deficit for the current year to contract marginally by 0.2 per cent at 5.5 per cent of GDP. Fitch also expects that El Salvador's sovereign rating might be sufficient for covering its short-term debt servicing obligations, but due to the high concentration of such short-term debt holdings, El Salvador's economy might be in constraints in the long term. Within three months, (August-October 2022), an approximate $1.3 billion short-term debt will be maturing. Fitch also commented, "There is a high degree of uncertainty surrounding other sources of external financings, such as additional multilateral funding, given doubts surrounding an IMF program, as well as the capacity to issue bitcoin-backed bonds through new distribution channels."
