Fitch Ratings has downgraded Tunisia's Long-Term Foreign-Currency Issuer Default Rating (IDR) to 'CCC' from 'B-'. Fitch typically does not assign Outlooks or apply modifiers to sovereigns with a rating of 'CCC' or below.
A full list of rating actions is at the end of this rating action commentary.
Key Rating Drivers
Heightened Liquidity Risk: The downgrade to 'CCC' reflects heightened fiscal and external liquidity risks in the context of further delays in agreeing on a new programme with the IMF after the political changes of July 2021, which is necessary for access to most official creditors' budget support. The entrenched social opposition and on-going friction with unions curtail the government's ability to enact strong fiscal consolidation measures, complicating efforts to secure the IMF programme.
Along with higher commodity prices, slow reform implementation could lead to a situation where debt restructuring is required for debt sustainability, even under an IMF programme. However, the government has firmly stated that it is not considering a debt restructuring and Tunisia has never engaged in a Paris Club treatment.
Large Budget Deficits: We forecast the central government deficit to remain high at 8.5% of GDP in 2022, compared with 7.8% in 2021 and the 'B' category median of 4.6%. We project revenues will recover in 2022 as the economy expands and tax forbearance measures lapse, but this will be largely offset by rising fuel, cooking gas and cereal price subsidies and a growing interest burden. Wages and interest will absorb close to 70% of revenues and continue to significantly constraining fiscal flexibility despite a hiring freeze.
Fitch projects the deficit to narrow to 6.9% of GDP in 2023, largely on the back of lower spending on energy and food subsidies as international prices moderate. We forecast debt/GDP to reach 84.0% in 2022 and 84.7% in 2023.
Official Creditors Needed for External Funding: Government funding needs are high due to the large deficit and debt maturities that will stand at 9.2% of GDP in 2022 and 8.9% in 2023, including 3.1% of GDP and 4.2%, respectively, in external amortisation. An agreement on a successor IMF arrangement to the programme that expired in 2020 remains key for external financing, as Tunisia has lost access to international markets. Although the commitment of external official creditors to help Tunisia's democratic transition and contain migration flows across the Mediterranean remains strong, many partners' financial support is linked to an IMF agreement.
IMF Deal Assumed: The 2022 budget assumes that an IMF programme will be in place by mid-year and Tunisia will receive about USD4 billion in external funding, from a USD700 million loan not conditional on an IMF deal, official creditors, a US guaranteed bond issue, covering two-thirds of funding needs. Our base case assumes an agreement on an IMF programme in 2H22, with disbursements conditioned on the adoption of some reforms. This would likely result in additional delays in official creditor fund disbursements compared with the budget schedule and there are also execution risks. We expect Tunisia to continue to compensate low net external funding by borrowing heavily from domestic sources.
Risks to IMF Programme: Despite progress in bridging the difference between the government's and the union's positions on the reform agenda, there is continued strong social opposition to fiscal reforms and possibly contentious upcoming political events, such as the planned constitutional referendum (July 2022) and parliamentary elections (December 2022). This means an agreement may not be reached and the government could struggle implementing agreed reforms required for scheduled IMF disbursements. Tunisia's performance under the previous two arrangements with the IMF has been weak, with reviews during the last programme consistently suffering long delays and an early termination for lack of compliance.
Debt Re-structuring Not Excluded: In 2021, the IMF judged Tunisia's debt "would become unsustainable unless a strong and credible reform program were adopted with broad support". In a no-reform scenario, Tunisia may ultimately be deemed to require a Paris Club treatment before being eligible for additional IMF funding, with implications for private-sector creditors.
External and Monetary Policy Challenges: Tunisia's increasing reliance on domestic funding and high global commodity prices have led to rising inflation, which we expect to average about 8% in 2022, with part of the price increase absorbed by government subsidies. At the same time, we expect pressure to build on external reserves with rising import costs and limited external borrowing. However, the central bank may prove unwilling to raise interest rates to tame inflation and stem external outflows given the modest economic recovery and the negative impact it would have on government funding costs. In the absence of an IMF deal, we would expect a gradual erosion of international reserves (from USD9.9 billion at end2021) and a depreciation of the dinar.
Modest Economic Recovery: Tunisia's GDP grew by 3.1% in 2021 after a contraction of 8.7% in 2020. The lacklustre recovery is underpinned by the lack of recovery of the tourism sector, the high level of political and economic uncertainty, which has hindered private investment, and the weak recovery of private consumption. We project GDP growth to remain below 2.5% in the medium term as tourism only gradually recovers, the government's fiscal stance turns more restrictive and input costs rise.
ESG - Governance: Tunisia has an ESG Relevance Score of '5' for both Political Stability and Rights and for the Rule of Law, Institutional and Regulatory Quality and Control of Corruption, as is the case for all sovereigns. Theses scores reflect the high weight that the World Bank Governance Indicators (WBGI) have in our proprietary Sovereign Rating Model. Tunisia has a WBGI ranking at 46th percentile, reflecting low political stability, established but weakening rule of law and rights for participation in the political process and moderate institutional capacity and level of perceived corruption.
RATING SENSITIVITIES
Factors that could, individually or collectively, lead to negative rating action/downgrade:
- Increased signs that a default is probable, for example because of further delays to the agreement of a new IMF programme or delays in reform implementation.
Factors that could, individually or collectively, lead to positive rating action/upgrade:
- Public Finances: Increased confidence in Tunisia's ability to obtain a consistent inflow of sufficient bilateral and multilateral creditor support, likely stemming from reforms that support the reduction of the fiscal deficit.
