Fitch Affirms Guatemala at 'BB'; Outlook Stable

NEW YORK--()--Fitch Ratings has affirmed Guatemala's long-term foreign- and local-currency Issuer Default Ratings (IDRs) at 'BB' with a Stable Outlook. The issue ratings on Guatemala's senior unsecured foreign- and local-currency bonds are also affirmed at 'BB'. The country ceiling is affirmed at 'BB+' and the short-term foreign currency IDR at 'B'.

KEY RATING DRIVERS

Guatemala's ratings affirmation and Stable Outlook reflect the following drivers:

Guatemala's economic growth is expected to pick up on a mix of cyclical and structural factors. Growth reached 4.2% in 2014 and could average 4% in 2015-2017, up from an average of 3.4% in 2010-2013. Real wage gains, strong worker remittances from the U.S. and the fall in oil prices will support private consumption. Investment in mining, agroindustry and electricity generation has increased productivity and export diversification. However, weakened confidence stemming from on-going political uncertainties poses downside risks to the near-term growth outlook. Guatemala's per-capita income growth remains low, reflecting persisting structural constraints from low savings rates, crime and human capital deficiencies.

Inflation expectations remain within the target (4%+/-1pp), and headline and core inflation measures have fallen below the 3% lower bound. Subdued inflation dynamics have enabled the central bank (Banguat) to lower its policy rate by 175 basis points since mid-2013 in compliance with its inflation-targeting regime, although transmission mechanisms remain weakened by underdeveloped capital markets and financial dollarization. Strong current and capital account inflows led the quetzal to appreciate in 2014 and Banguat to intervene in the foreign exchange market through its rules-based mechanism. The banking sector maintains adequate capitalization, asset quality, and liquidity. Credit growth has been robust, and more rapid growth in foreign-currency lending has mostly been funded through external issuance and granted to corporates with earnings linked to or denominated in dollars, which mitigates currency mismatch and credit risks.

Fitch expects the current account deficit to narrow to 1.9% of GDP in 2015-2017 from 2.4% in 2014, driven by growth in export volumes, strong remittances and lower prices for oil imports. External financing needs are well-covered by broad-based foreign direct investment and sovereign borrowing from multilaterals. Guatemala's external liquidity ratio remains among the highest in the 'BB' category due to moderate amortisations and short-term external debt, low non-resident participation in the local financial markets, and adequate foreign reserves.

Public finances demonstrate structural weaknesses, in spite of a sustained reduction in the deficit and compliance with budget targets in recent years. The revenue base is the lowest in the 'BB' category at 11.5% of GDP in 2014, reflecting a weak tax effort resulting from exemptions, adverse court rulings and fraud. Recent corruption investigations have revealed institutional shortcomings in customs and the tax agency. Public spending is low and rigid, and congressional delays in approving budgets and financing have led to drastic spending cuts. These issues constrain the authorities' ability to address social and infrastructure needs and undertake counter-cyclical policies.

Fitch expects the fiscal deficit to widen to 2.1% of GDP in 2015-2017 from 1.9% in 2014, but remain well below the 'BB' median of 4%. A fiscal gap is emerging in 2015 due to the judicial suspension of a new telecom tax, budgeted mining royalties that won't materialise until 2016, and weak compliance. The authorities might address this gap primarily through spending cuts, as well as additional domestic borrowing and temporary accumulation of supplier arrears. The under-budgeting of debt service for 2015 will also be covered, given a legal mandate prioritizing the allocation of fiscal revenues to service debt obligations.

Fitch forecasts these deficits will gradually lift general government debt from 22% of GDP in 2014 to 25% by 2020. This debt burden remains below the 'BB' median of 40%, but its higher level as a share of revenues reflects the narrowness of the tax base. Financing needs are low at 3.4% of GDP on average in 2015-2017, and risks are mitigated by sustained access to multilateral lenders, favourable financing conditions in the domestic bond market, and the absence of external bond amortizations until 2022.

Political uncertainty has risen ahead of general and local elections scheduled for Sept. 6th. Fraud revelations have led to the arrest and resignation of high-level public officials, a rise in anti-corruption protests and a sharp drop in support for President Otto Perez. The social and political response to these developments has stayed peaceful and within institutional channels so far. Lawmakers are considering a series of proposals to strengthen governance in several areas (campaign finance, internal party democracy, electoral laws), but progress on these initiatives remains unclear. Macroeconomic stability has been preserved. A fragmented party system and likely divided congress could slow policymaking and the reform agenda of the next government.

RATING SENSITIVITIES

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

Negative:

--Escalation of political or social unrest leading to macroeconomic and policy uncertainty;

--Higher fiscal deficits or growth shocks resulting in a deterioration of debt dynamics relative to peers;

--Reductions in international reserves and interruptions to external sources of financing.

Positive:

--Sustained improvements in tax collection and the budget process that enhance fiscal policy flexibility;

--Higher investment rates and economic growth prospects;

--Progress in lifting governance standards and human development indicators relative to peers.

KEY ASSUMPTIONS

--Fitch assumes an orderly transition of government will take place following presidential, congressional and local elections, and that anti-corruption protests will remain peaceful.

--Fitch forecasts Guatemala's economy and trade and remittances inflows will benefit from lower international oil prices (USD65/bl in 2015 and USD75/bl in 2016) and supportive growth in the U.S.

Additional information is available on www.fitchratings.com.

Applicable Criteria

Country Ceilings (pub. 28 Aug 2014)

https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=752194

Sovereign Rating Criteria (pub. 12 Aug 2014)

https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=754428

Additional Disclosures

Dodd-Frank Rating Information Disclosure Form

https://www.fitchratings.com/creditdesk/press_releases/content/ridf_frame.cfm?pr_id=986703

Solicitation Status

https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=986703

Endorsement Policy

https://www.fitchratings.com/jsp/creditdesk/PolicyRegulation.faces?context=2&detail=31

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Contacts

Fitch Ratings
Primary Analyst
Todd Martinez
Associate Director
+1-212-908-0897
Fitch Ratings, Inc.
33 Whitehall Street
New York, NY 10004
or
Secondary Analyst
Cesar Arias
Director
+1-212-908-0358
or
Committee Chairperson
Charles Seville
Senior Director
+1-212-908-0277
or
Media Relations:
Alyssa Castelli, +1 212-908-0540
alyssa.castelli@fitchratings.com

Contacts

Fitch Ratings
Primary Analyst
Todd Martinez
Associate Director
+1-212-908-0897
Fitch Ratings, Inc.
33 Whitehall Street
New York, NY 10004
or
Secondary Analyst
Cesar Arias
Director
+1-212-908-0358
or
Committee Chairperson
Charles Seville
Senior Director
+1-212-908-0277
or
Media Relations:
Alyssa Castelli, +1 212-908-0540
alyssa.castelli@fitchratings.com