Fitch Downgrades Aruba to 'BBB-'; Outlook Revised to Stable

NEW YORK--()--Fitch Ratings has downgraded Aruba's long-term foreign and local currency Issuer Default Ratings (IDRs) to 'BBB-' from 'BBB'. Fitch has also downgraded the issue ratings on Aruba's senior unsecured foreign and local currency bonds to 'BBB-' from 'BBB'. The Rating Outlooks on the long-term IDRs have been revised to Stable from Negative. In addition, Fitch has downgraded Aruba's Country Ceiling to 'BBB' from 'A-' and affirmed the short-term foreign currency IDR at 'F3'.

KEY RATING DRIVERS

Aruba's downgrade and Stable Outlook reflect the following key rating drivers:

Sovereign creditworthiness has deteriorated since 2009 due to the negative impact of recurrent suspensions of operations at the Valero refinery on growth, investment, the current account and foreign reserves. This highlights the island's narrow economic structure and vulnerability to external shocks. The focus of the fiscal stimulus response on selective tax cuts, expanding government payroll and increasing future commitments on public private partnership projects has accentuated budgetary rigidities and increased the challenges to reduce Aruba's large fiscal imbalances and rising public debt burden.

The budget deficit averaged 6.8% of GDP in 2010-2013, resulting in a jump in public debt from 40% of GDP to 60%, well above the 39% median of the 'BBB' category. Interest payments to revenue, a key metric for debt sustainability, is expected to climb to 17% in 2014, double the 'BBB' median of 8%. Material deviations from official targets have reduced confidence in the authorities' commitment to fiscal consolidation. Reduced fiscal credibility and uncertainty over the medium term fiscal consolidation path has meant that the Governor of Aruba has requested the Secretariat of the Council of Financial Supervision of Curacao and Saint Maarten (CFT) to evaluate the fiscal position of Aruba before signing the 2014 budget and approving additional external financing operations.

Aruba's five-year average growth was negative 1.7% in 2009-2013, while the 'BBB' median grew 3.1% during the same period. High dependence on cyclical tourism receipts, demographic challenges, labor market rigidities, lengthy legal disputes and structural impediments to start new businesses hinder domestic investment and economic diversification.

Aruba's current account balance deteriorated sharply to a deficit of 9.9% of GDP in 2013 from a surplus of 4.1% in 2012, following the permanent halt of fuel exports at the Valero refinery. International reserves fell 15% to USD654 million or 3.1 months of current external payments in 2013. Aruba is increasing its dependence on foreign exchange liquidity restrictions and external debt to maintain an adequate reserve position.

Aruba's Country Ceiling is one notch above the long-term foreign currency IDR reflecting the economy's openness to international trade and capital, as shown by the large presence of foreign financial institutions and tourism corporations in the island. Nonetheless, the notch differential between the Country Ceiling and the long-term foreign currency IDR has been reduced to one from two notches due to the intensification of restrictions on the holding of foreign currency and convertibility controls for commercial banks.

The revision of the Outlook to Stable reflects Fitch's expectation that economic growth will gain pace and Dutch oversight should result in adherence to stricter deficit reduction and debt sustainability standards in 2014-2016. A comprehensive package of entitlement reforms has mitigated the risk of unfunded pension liabilities and reduced the burden of the universal healthcare system on public finances.

Fitch forecasts that growth will average 2.6% in 2014-2016, above the country's estimated potential of 1.8% but lower than the expected 'BBB' median of 3%. The recovery in the U.S., source of 57% of tourist visits in 2013, and a pickup in construction related to hotel developments, real estate and infrastructure support the improvement in investment and growth prospects.

The current account deficit could narrow to an average 7.3% of GDP in 2014-2016, reflecting a tighter fiscal stance and a gradual substitution of fuel imports. Oil consumption fell 40% since 2007 and could decline 25% by 2016 due to technological enhancements, greater reliance on wind power and biogas and the construction of waste-to-energy plants.

Aruba's investment grade rating is underpinned by its higher per capita income than peers, track record of consensual structural reforms and membership of the Kingdom of the Netherlands, which has provided access to technical cooperation, development funds and emergency assistance during episodes of financial distress.

RATING SENSITIVITIES

The Stable Outlook reflects Fitch's view that upside and downside risks to the rating are evenly balanced. The main risk factors that, individually or collectively, could trigger a rating action are:

Positive:

--Successful fiscal consolidation that results in decreasing budget deficits and public debt burden;

--Higher infrastructure execution and private investment leading to a sustained faster growth trajectory.

Negative:

--Material fiscal deterioration leading to a further escalation in government indebtedness;

--Material reductions in international reserves and emergence of financing constraints;

--Deterioration in the institutional relationship between Aruba and the Netherlands.

KEY ASSUMPTIONS

The ratings and Outlooks are sensitive to a number of assumptions.

--The growth and external forecasts assume that refining operations and fuel exports by Valero will remain suspended during 2014-2016. However, the company will continue to be a provider of transshipment services during this period.

--Fitch factors in a recovery in the U.S. tourism market but a deceleration in arrivals due to fewer flight frequencies and stricter foreign exchange quotas for Venezuelan tourists. These two countries account for 76% of tourist arrivals to Aruba.

--Fitch assumes that Aruba will continue to benefit from broad support from the Dutch government due to its position as part of the Kingdom of the Netherlands.

Additional information is available on www.fitchratings.com.

Applicable Criteria and Related Research:

--'Sovereign Rating Criteria' (Aug. 13, 2012);

--'Country Ceilings' (Aug. 9, 2013).

Applicable Criteria and Related Research:

Sovereign Rating Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=685737

Country Ceilings

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=715618

Additional Disclosure

Solicitation Status

http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=841101

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Contacts

Fitch Ratings
Primary Analyst
Cesar Arias
Associate Director
+1-212-908-0358
Fitch Ratings, Inc.
33 Whitehall St.
New York, NY 10004
or
Secondary Analyst
Erich Arispe
Director
+1-212-908-9165
or
Committee Chairperson
Richard Fox
Senior Director
+44 20 3530 1444
or
Elizabeth Fogerty, New York, +1 212-908-0526
elizabeth.fogerty@fitchratings.com

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Contacts

Fitch Ratings
Primary Analyst
Cesar Arias
Associate Director
+1-212-908-0358
Fitch Ratings, Inc.
33 Whitehall St.
New York, NY 10004
or
Secondary Analyst
Erich Arispe
Director
+1-212-908-9165
or
Committee Chairperson
Richard Fox
Senior Director
+44 20 3530 1444
or
Elizabeth Fogerty, New York, +1 212-908-0526
elizabeth.fogerty@fitchratings.com