Stable Overall But Fiscal, External, And Geopolitical Risks Predominate
This report does not constitute a rating action
Frank Gill Madrid +34-91-788-7213
Samuel Tilleray London +44-20-7176-8255
We rate 54 emerging market (EM) sovereigns in Europe, Middle East, and Africa (EMEA). Of these, we rate 31 in the single 'B' category or below, and 16 in investment grade at 'BBB-' or above, with only seven falling in between these two extremities. There are four broad regions within EMEA: the largest group is sub-Saharan Africa (SSA), which includes 21 sovereigns with an average rating of 'B', reflecting low domestic savings, high economic concentration, limited monetary and economic resilience, and developing institutions. Of the 18 EM EMEA sovereigns downgraded since the onset of the pandemic in March 2020, 11 of them are in SSA. Another six downgrades were to sovereigns in the Middle East and North Africa (MENA) region, where we rate 12 governments in total, including three of the world's top-five hydrocarbon exporters. Morocco lost its investment grade rating in April 2021, reflecting continuous pressures on its public finances and sizable twin fiscal and external deficits that pre-date the pandemic.
Since the start of the pandemic, there have been no upgrades in EM EMEA. We have made no changes to sovereign ratings in the Commonwealth of Independent States (where we rate seven current and two former members) or Central and Eastern Europe (CEE, where we rate 11, five of which are investment grade EU members and five of which are lower rated EU candidate countries) with the exception of Montenegro, which we downgraded on March 5, 2021, on the back of its vulnerability to a sharp drop in tourism earnings, given high public and external leverage.
Chart 1 | EMEA Emerging Markets Sovereign Rating Distribution
Source: S&P Global Ratings.
Chart 2 | EMEA Emerging Markets Sovereign Rating History
As we enter the new year, sovereign rating trends in EM EMEA look to be stabilizing. The vast majority--44 out of 54 EM EMEA sovereigns we rate--carry a stable outlook, though these include most of the sovereigns that have experienced downgrades since the onset of the pandemic. While negative outlooks (six) still exceed positive ones (four), the differential between the two has declined from 12 one year ago to two at present. Moreover, our positive outlooks are more recent than our six negatives. For the region as a whole, we project that 2022 will be the second consecutive year of solid 4% real GDP growth, though this average GDP figure masks disparate outcomes: -0.7% in Belarus all the way up to 8% in Kuwait. Last year's sharp rally in oil and other commodity prices has continued into 2022, enabling an improvement in external performance given that just under 60% of the sovereigns we rate in EM EMEA are commodity exporters, with over 25% of them exporting primarily hydrocarbons (though the implications for large hydrocarbon importers are negative).
Chart 3 | EMEA Emerging Markets Sovereign Ratings Outlook Balance
Chart 4 | Real Interest Rates Are Negative In Much Of Emerging EMEA
Belarus, linked to its fragile economy and protracted political crisis;
Georgia, which has suffered a sharp decline in tourism earnings and a widening of fiscal imbalances;
Kuwait, following parliament blocking the state's ability to issue debt or drawdown on public assets to fund an expected 12% of GDP central government deficit;
Ethiopia, on political uncertainty, civil conflict, and limited reserve buffers; and
Rwanda, with its elevated twin deficits and constrained reserve levels.
In addition to the above, on Dec. 10, 2021, we placed our 'B+' long-term ratings on Turkey on negative outlook to reflect the second-round effects of a worsening currency crisis on financial stability, growth, inflation, and the general government’s fiscal position.
While all six of the emerging EMEA sovereigns presently on a negative outlook suffered shocks connected to the pandemic (to terms of trade, tourism earnings, and fiscal balances), our rationale for the negative outlooks largely rests on the domestic policy responses to these shocks, rather than the shocks themselves.
Of the 54 sovereigns in this survey, 28 are projected to put debt to GDP on a downward path by 2024. That leaves close to half (26) EMEA EM governments for whom we project further increases in public debt levels over the next three years. SSA remains a key concern both for the size of projected government deficits this year, but also for the cost of financing them. Seven out of eight of EMEA's largest projected general government budgetary deficits for 2022 are in SSA. Furthermore, African governments are spending an increasing share of their modest revenues on interest payments. Of the 138 sovereigns we rate globally, when ranked according to the highest spending on interest as a percentage of general government revenues, six of all 23 rated African governments (including in North Africa) place in the top 10. Moreover, since 2015 the cost of servicing debt for those six African governments has increased by 118% on average, a worrying trend in terms of debt servicing costs.
The other risk to emerging EMEA economies is the monetary and external fallout from rising global interest rates and widespread inflationary pressures. Amid a tight U.S. labor market, accelerated U.S. inflation readings over the past few months, and increasingly hawkish forward guidance from the Fed, we now expect three rate hikes in 2022, with the first likely at its Federal Open Market Committee meeting in early May. Higher U.S. rates, alongside intensifying domestic inflationary pressures, are likely to force emerging EMEA central banks to hike further, despite their reluctance to do so from a growth perspective. On monetary policy trends, much of the recent focus in EMEA has been on Turkey given its deeply negative ex ante real interest rates (RIRs), which we estimate at -22% (see table 1.5). While Turkey may be an extreme case, it is not alone in this respect. Despite monetary tightening in most of EM EMEA, RIRs remain negative in the majority of the 13 EM EMEA sovereigns whose monthly net portfolio flows we track (see chart 4). For those economies that are not major hydrocarbon exporters, there will be pressure to raise rates further, with negative implications for growth and cost of funding. Of the 13 EM EMEA for which we have monthly net portfolio data, only Egypt and Ghana have maintained positive real interest rates up to the present, though high RIRs alone do not guarantee inflows.
The related trend to watch is domestic inflation. While we project inflation to remain in the double digits in only six EM EMEA sovereigns-- Uzbekistan (10.5%), Nigeria (12%), Ghana (13%), Zambia (15%), Turkey (21%), and Lebanon (30%)--and average inflation for the region to start softening as energy-price effects dissipate, there are nevertheless quite a few economies for which we are projecting a further acceleration in price pressures. These include Egypt, Ethiopia, Ghana, Israel, Poland, and Turkey. In those economies where public subsidies on fuel and other prices are significant, the political imperative to lower energy prices will impose a fiscal cost in excess of 2% of GDP in Kuwait, Saudi Arabia, Kazakhstan, Uzbekistan, Iraq, Azerbaijan, Egypt, and Angola. To the extent that EMEA central banks will have to tighten further, rate hikes will weigh on growth, and push up the cost of public debt.
The other development to watch in EMEA is an increasingly tense geopolitical situation. Top of the list is the risk to economic performance (including of sanctions on secondary Russian government bond holdings, leading to forced debt sales) of an impending conflict between Russia and Ukraine. Even without the direct deployment of Russian troops into Ukraine, the possibility of interruptions to gas going to Europe through Ukraine would likely trigger another oil price/growth shock to much of EMEA, developed and emerging, with negative consequences for large hydrocarbon importers like South Africa, Turkey, and all of Eastern Europe. On top of this, on-again off-again drone attacks on Gulf Cooperation Council countries could further contribute to oil price upside.
Finally, as the Chinese economy decelerates from real GDP growth of over 8% to closer to 5% this year, EM EMEA's nonhydrocarbon commodity exporters could experience export-price volatility particularly for some industrial metals. While this process is likely going to be manageable, it could end South Africa's strong recent external performance, as well as drag on demand for CEE consumer durable exports.
Table 1 | EMEA EM Sovereign Rating Score Snapshot
*Deterioration since June 2021. §Improvement since June 2021. Source: S&P Global Ratings.
Table 2 | Real Interest Rates
*Only tracks equity flows. **Net capital inflows including errors and omissions. Sources: International Institute of Finance, Bank of Ghana, S&P Global Ratings.
Table 3 | EMEA EM Economic Outlook
N/A--Not applicable. Source: S&P Global Ratings.
