WILLEMSTAD – On March 23, 2016, Standard & Poor’s Ratings Services affirmed its ‘A-/A-2’ long- and short-term foreign and local currency sovereign credit ratings on the government of Curaçao.
The outlook remains stable. We also affirmed our ‘A-‘ transfer and convertibility assessment.
The ratings on Curaçao reflect its stable political system within the Kingdom of the Netherlands, as well as its strong balance sheet and net general government asset position. They also reflect monetary and exchange rate rigidities, and large but stable current account deficits (CAD).
Curaçao has a prosperous and diversified economy and high levels of education and health care compared with regional peers, but it has low GDP growth prospects. Real per capita GDP growth has been 2.2%, on average, in the past five years. The rating also reflects shortcomings in data, especially on the net international investment position.
Curaçao’s constitutional status as an autonomous state (status aparte) within the Kingdom of the Netherlands anchors its political stability. In addition, Curaçao benefits from its participation in the Kingdom’s judicial system, which contributes to local and foreign confidence.
Curacao’s fiscal relationship with the Netherlands, whereby the Netherlands agrees to purchase all of Curaçao’s debt issuance at equivalent rates to the Netherlands’ own issuance, as well as oversight of its finances by an independent advisory unit (College Financieel Toezicht or CFT), was renewed in
2015 for three more years. Under this agreement, Curaçao is committed to running at least an operating central government fiscal balance and keeping interest costs below 5% of central government revenues.
Curaçao’s GDP per capita is just below US$20,000, and its economy is more diversified than most Caribbean peers. Nevertheless, we project that real per capita GDP growth will be slightly negative during 2016-2018, around 0.2%. We believe that Curaçao could maintain modest overall GDP growth of around 1% during 2016-2018. GDP growth was only 0.2% in 2015, an improvement from the negative growth during 2012-2014. Growth in 2016 will be based on the benefits of low commodity prices and tax relief, which should boost private consumption, as well as on growing tourism inflows.
Curaçao’s CAD will likely remain one of the highest among sovereigns that we rate. Lower oil prices, fiscal austerity, and growing tourism inflows reduced the CAD to around 10% of GDP in 2015 (from 30% in 2010). Our base case estimates that the CAD will increase toward 13% of GDP in the coming years as oil prices slowly pick up.
Historically, the high deficit partly reflected generous debt relief the Netherlands provided in 2010, which injectedliquidity into the local market, bolstering
credit growth and imports. On the other hand, it is possible that official data might fail to fully capture all foreign exchange-generating activities, including from the tourism sector and from non-debt flows between Curaçao’s financial sector and Venezuela, potentially overestimating the CAD.
Despite Curaçao’s persistent CADs, Standard & Poor’s estimates that the country is a large net external creditor, which mitigates its weak liquidity position. Much of the CAD will likely be financed by the private sector drawing upon its external assets.
However, the lack of data on Curaçao’s international investment position creates uncertainty about its external profile. We expect that large external assets of the public-sector pension plan will sustain a net external asset position for the consolidated general government. We project that the strong external position will keep the narrow net external debt position at an average of -75% of current account receipts (CAR) for the next two to three years.
Gross external financing needs are expected to remain stable around 130% of CAR. Although there is no legal differentiation between the international reserves of the monetary union between Curaçao and St. Maarten, we attribute 75% of total reserves to Curaçao when calculating these key external ratios given Curaçao’s dominant position within the union.
Fiscal and pension system reforms approved since 2012 should contribute to a balanced general government result for the next two to three years. (Standard & Poor’s focuses on a broader definition of the general government, which includes the central government; the Algemeen Pensioenfonds van Curaçao [APC], the state-owned pension fund for public-sector workers; and the Sociale Verzekeringsbank [SVB], the state-owned fund for pensions, health care,
unemployment insurance, and disability.)
Significant assets held by APC will keep the net general government debt around 30% of GDP during 2016-2018. However, we expect that the central government will issue more debt in the coming three years to fund capital expenditures. We estimate general government debt will increase, on average, by 3% of GDP per year during 2016-2018. Gross general government debt was already at 43% of GDP at year-end 2015. The relatively low interest rate on Curaçao’s debt will keep the interest burden at 2.5% of central government revenues.
The fate of Curaçao’s oil refinery could have a material impact on our economic, external, and fiscal assessments. The refinery, which now accounts for 12% of Curaçao’s GDP, is operated under a lease by the Venezuelan state energy company Petróleos de Venezuela (PDVSA). The government has announced that it will not renew the lease under the current terms when it expires in 2019. In our opinion, a potential default by PDVSA will not create a contingent liability for the government.
Curaçao has limited monetary flexibility, which constrains the ratings. Curaçao is the dominant member, thanks to its much larger economy, of a monetary union with St. Maarten, which constrains policy coordination between the two countries when their economic cycles diverge.
Its fixed exchange rate with the U.S. dollar also limits its monetary policy. Its central bank has few policy tools, relying mainly on reserve requirements on bank deposits and caps on bank lending growth.
The stable outlook is based on our expectation that Curaçao will maintain a balanced general government result during 2016-2018. In general, we expect continuity in economic policies, including fiscal policy, and in the role of the CFT after elections later this year.
We expect that government debt will increase by 3% of GDP, on average, during 2016-2018, but Curaçao should maintain a net general government asset position of around 30% of GDP. We also expect economic growth of about 1% during 2016-20018.
However, per capita GDP growth is likely to be mildly negative in the next two years. We also expect a CAD of around 13% of GDP, financed by both external borrowings and drawdowns of private-sector external assets. However, we expect the level of international reserves to remain stable.
Addressing structural rigidities, such as those related to the labor market and bureaucracy, could increase both local and foreign direct investment, boosting the country’s weak GDP growth rate over the next two to three years.
Faster growth, in combination with growing tourism and better external
competitiveness, could improve Curaçao’s gross external financing needs
and CADs, resulting in a higherrating over time. Conversely, an unexpected
adverse change in fiscal policy or a breakdown of fiscal arrangements with the Netherlands, including the role of the CFT, could lead to a deterioration of fiscal results and a rapid increase in government debt.
Such an outcome would also likely pressure the central bank’s foreign exchange
reserves. The resulting loss of investor confidence and erosion of the country’s external and debt profiles could result in a downgrade.
Additionally, a consistently wider-than-expected CAD could result in a worsening of Curaçao’s external position, also leading to a downgrade.