DBRS Upgrades Argentina to ‘B’

DBRS, Inc. (DBRS) has upgraded Argentina’s long-term foreign currency issuer rating from SD to B, and the short-term foreign currency issuer rating from D to R-4. The long-term local currency issuer rating has been upgraded from B (low) to B (high), and the short-term local currency issuer rating has been upgraded from R-5 to R-4. The trend on all ratings is stable. Following the long-awaited settlement affecting most of Argentina’s untendered bonds from the 2001 default, DBRS has also withdrawn its ‘D’ rating on the long-term foreign currency securities (not restructured), covering securities issued prior to 2002.

Argentina’s resumption of payments on its foreign law exchange bonds combined with the significant improvement in Argentina’s macroeconomic fundamentals since DBRS’s last review provide the rationale for the two notch upgrade of the local currency rating and the restoration of the foreign currency rating from SD to B. On May 5, Argentina successfully cleared the interest arrears on its exchange bonds, which had gone into default following the June 2014 ruling of the U.S. Court of Appeals. The Macri administration, elected in December 2015, made a speedy resolution to the default of these bonds a high priority in recognition of Argentina’s need for non-inflationary sources of financing. The resolution of the default itself serves as strong evidence of Argentina’s increased willingness to meet its debt obligations. In addition, the Macri administration has made extensive changes to Argentina’s macroeconomic policy framework, easing convertibility restrictions and moving to a more flexible exchange rate, while tightening domestic policies to gradually reduce inflation and the fiscal deficit. The administration has also moved to reduce taxes and other barriers to trade and investment. Argentina’s challenges remain significant, as reflected in a ‘B’ rating, but net debt remains manageable and the administration appears strongly committed to disinflationary policies.

Considerable progress in reducing the fiscal deficit and durably lowering inflation may lead to further upgrades. Similarly, further measures to improve the investment climate and strengthen Argentine institutions could put upward pressure on the ratings. Conversely, a deterioration in political support that prevents the government from reducing imbalances could result in downgrades. Political challenges could intensify in the event of a deeper than expected downturn and material rise in unemployment.

Argentina benefits from a diverse economy, an educated population, a highly productive agricultural sector, economic ties with other emerging markets, and abundant natural resources. Real growth has averaged 3.4% over the past twenty years, in spite of the deep, multi-year recession between 1999 and 2002 and the more recent period of stagflation. Argentina exhibits relatively high levels of productivity compared to other emerging economies in the region, with per capita output measured in PPP terms estimated at over 22k (current international dollars). Preferential access to the regional Mercosur market has also been an important strength, though largely self-imposed restrictions have limited the benefits from trade and Brazil’s current economic situation lends little support to an Argentine recovery. The change in administration nonetheless puts Argentina in position to expand its ties within the region and capitalize on its strengths.

A prolonged period of negative real interest rates has significantly reduced indebtedness, both for the public and the private sector. Several years of primary fiscal surpluses and high levels of participation in the 2005 and 2010 debt exchanges also contributed to the rapid decline in public debt. The central government’s deficit has widened in recent years, but financing has come from other public entities, such as the social security administration and the central bank, and net debt remains low. Although limited financial intermediation in the economy acts as a constraint on investment, the low degree of leverage has insulated the Argentine economy from the potentially adverse impact of global financial shocks.

In spite of these strengths, fiscal performance has deteriorated significantly over the past half-decade. Utility tariffs have been held stable amid high inflation and public sector employment has increased significantly. Although part of the increase in social spending has likely been helpful in reducing poverty and increasing social mobility, populist spending proposals have jeopardized the government’s medium-term solvency and generated a high rate of inflation given the lack of non-inflationary sources of financing.

Although the new government and central bank president have already demonstrated a strong commitment to tighter monetary and fiscal policies, the devaluation of the peso and need to increase administrative prices have caused inflation to accelerate. The political cost of achieving durably lower inflation may be significant, particularly if unemployment and labor unrest increase. Continued high inflation is likely to put downward pressure on the peso, with negative consequences for external debt sustainability.

The government’s ability to reduce its reliance on central bank financing is in turn predicated on increasing its access to private capital. The government has won an important victory in resolving the holdout problem and enabling a return to international capital markets nearly 15 years after Argentina’s default. Expected gross financing needs are nonetheless high for the next several years, and authorities will need to deliver sustained progress in reducing Argentina’s fiscal deficit.

Notwithstanding positive signals from the incoming administration, Argentina suffers from a weak investment climate. Unpredictable tax and regulatory policies have generated significant distortions within the economy. The President has traditionally exercised substantial influence over important domestic institutions, including the central bank and judiciary. The country has generally stable political institutions, which have allowed for a peaceful transition of power, but trust in government officials and in the integrity of core institutions is low. Ongoing investigations into alleged corruption on the part of current and former officials may increase polarization and limit progress on reforms.

Notes:

All figures are in USD unless otherwise noted.

The principal applicable methodology is Rating Sovereign Governments, which can be found on the DBRS website under Methodologies. The principal applicable rating policies are Commercial Paper and Short-Term Debt, and Short-Term and Long-Term Rating Relationships, which can be found on our website under Rating Scales.

The sources of information used for this rating include Ministry of Economy and Finance, BCRA, ANSES, INDEC, Universidad Torcuato Di Tella, IMF, World Bank, UN, Argentine Congress, City of Buenos Aires, Province of San Luis. DBRS considers the information available to it for the purposes of providing this rating was of satisfactory quality.

For further information on DBRS’ historic default rates published by the European Securities and Markets Administration (“ESMA”) in a central repository see http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml.

Generally, the conditions that lead to the assignment of a Negative or Positive Trend are resolved within a twelve month period while reviews are generally resolved within 90 days. DBRS’s trends and ratings are under constant surveillance.

DBRS does not typically accept editorial changes other than to correct for factual, accuracy and/or to remove confidential, material non-public, or sensitive information that might otherwise be inadvertently disclosed.

Lead Analyst: Thomas R. Torgerson
Rating Committee Chair: Roger Lister
Initial Rating Date: 6 September 2007
Most Recent Rating Update: 17 March 2015