Fitch Ratings has revised Tunisia's Outlook to Negative from Stable and affirmed the Long-Term Foreign-Currency Issuer Default Rating (IDR) at 'B'.
A full list of rating actions is at the end of this rating action commentary.
KEY RATING DRIVERS
The Negative Outlook reflects a worsening of fiscal liquidity risks from a sharp deterioration in public finances and the broad macroeconomic environment caused by the coronavirus pandemic shock. A fragmented political landscape and entrenched social tensions raise material downside risks to progress on crucial fiscal reforms and could complicate efforts to secure fresh IMF and commercial funding, although the authorities remain committed to fiscal consolidation policies and benefit from strong official creditor support.
We project the central government (CG) deficit to widen to 10.5% of GDP in 2020 from 3.3% in 2019, broadly in line with the supplementary draft budget target, and higher than the forecast 'B' category median of 7.8%. This reflects a rise in payroll expenditure due to salary increases granted under a 2019 agreement with unions as well higher spending to combat the pandemic, alongside a hit to budget receipts from an unprecedented economic downturn.
The widening of the CG deficit also reflects increased spending to clear government arrears to private suppliers and state-owned entreprises (SOEs). The previously undisclosed accumulation of government arrears points to a significant share of off-budget spending through SOEs, highlighting a deterioration in public finance management, and possibly tight fiscal liquidity. These arrears amount to TND 8 billion (7.2% of 2020 GDP) according to a June statement by the former prime minister, although some uncertainty regarding their total stock persists. We project the budget gap to narrow to 7.1% of GDP in 2021 (forecast 'B' median: 7%), slightly higher than the 2021 draft budget target of 6.6%, reflecting a phasing-out of pandemic-related spending and a slow recovery in fiscal revenue.
Funding needs from high fiscal deficits are large relative to identified resources, while principal repayments coming due on sovereign external commercial debt are poised to rise. Limits to the absorption capacity of the domestic financial market will complicate the authorities' plan to raise a record 8% of GDP in net domestic financing in 2020. This compares with a total domestic debt stock of 21% of GDP at-end 2019, half of which was held by the banking sector.
Meanwhile, an agreement on a successor IMF arrangement to the programme that expired earlier this year remains key to support Tunisia's external financing flexibility. The collapse of the previous coalition government in July contributed to delaying negotiations with the Fund and we understand a resumption of discussions is now pending an Article IV mission in November and an agreement on reforms between the government and labor unions.
Part of the other official loans are directly or indirectly tied to an IMF arrangement and further delays in reaching an agreement with the Fund could undermine the government's 2021 funding plan, which relies on a record 8% of GDP in net external borrowing, of which USD3.5 billion (8% of GDP) is in Eurobond issuances. Tunisia faces maturities on two US-guaranteed USD500 million bonds in 2021 and the willingness of official creditors to rollover such guarantees is uncertain.
Government plans to resort to monetary financing for the first time, if implemented without institutional safeguards, could jeopardise the progress achieved since 2018 on restoring macroeconomic stability, although it would support the sovereign's financing flexibility in the short term, in line with similar policies implemented across emerging markets. The central bank remains committed to preserving price and financial stability and has conditioned its support to the government on explicit parliamentary approval and adequate safeguard mechanisms.
We expect Tunisia to cover its funding needs over 2020-2022 mostly through official creditors support and domestic market issuance and, in 2020, central bank financing. The recovery in international reserves to USD8.4 billion at end-October from USD5.4 billion in mid-2019 underpins the government's external debt servicing capacity. However, the ability to accommodate any significant deviation from the current fiscal path is limited given the increasingly binding constraints on financing.
