Growth in public debt burdens and fiscal deficits in many Latin American countries over the past decade will undermine the ability of governments to respond to shocks and a sharper than expected global slowdown in 2020, says Fitch Ratings.
Weakening fiscal dynamics have been a key driving factor in sovereign rating downgrades in the region over the past several years and the current high number of Negative Outlooks (seven of 19 rated sovereigns.)
Fiscal Pressures Have Been a Key Driver of Recent Sovereign Downgrades
General government debt and deficits in a large majority of Latin American countries are larger now than in 2008 prior to the last global recession, following years of tepid growth and a lack of significant recovery in commodity prices. While a global recession is not in Fitch’s base case, global growth slowed in 2019, and Fitch forecasts US, Eurozone and Chinese GDP growth to decline further (albeit at a much slower pace) in 2020. This places Latin America in a vulnerable position, with limited fiscal capacity to support growth in the event of a sharper than expected downturn.
While weak fiscal dynamics are generally shared across most countries, there is a high degree of variation among countries’ current fiscal conditions, consolidation paths and risk profiles in the region. Argentina and Ecuador are among the most vulnerable, with high fiscal deficits and financing challenges. Both countries have entered into IMF programs but the adjustment targets are ambitious and the political sustainability of such consolidation remains in question, particularly after the recent change in government in Argentina and the strong social push-back to subsidy cuts that occurred in Ecuador in late 2019. Argentina has not received any IMF disbursements since August 2019, and there is considerable uncertainty regarding the future of the program.
Bolivia, Brazil and Costa Rica face similar challenges from rising public debt and large deficits, though without IMF-led adjustments. Nonetheless, the home-grown consolidation plans are subject to implementation risks. Brazil’s passage of pension reform in late 2019 was a notable success, though this is a necessary but not sufficient condition for strengthening public finances and stabilizing the rising public debt. Future fiscal reforms embedded in constitutional amendments presented to congress last year may face political resistance that could lead to delays and/or dilution.
Higher rated sovereigns, including Colombia, Panama, and Uruguay, have also experienced fiscal deterioration in recent years and have struggled with meeting pre-set fiscal targets, reducing policy credibility. Frequent revisions to targets were a contributing factor to Rating Outlook revisions to Negative for both Colombia and Uruguay in 2019 and 2018, respectively. Mexico has maintained conservative fiscal targets but underpinned by optimistic underlying assumptions related to economic growth and oil production. Contingent liabilities related to Pemex are another fiscal challenge for Mexico.
Chile, Peru and Paraguay stand out in the region for having relatively stronger starting fiscal positions to respond to a sudden slowdown. However, fiscal deterioration has occurred to varying degrees in these countries as well. Most notably, Chile has significantly revised its fiscal targets (implying higher deficits) to respond to demands resulting from last year’s social unrest and weaker economic activity.
For analysis on fiscal conditions and the outlook for consolidation across Latin America, refer to the Fitch Wire + report: “Limited Fiscal Space Raises LatAm Vulnerability Ahead of Next Global Downturn,” available through the link here.