This week we discuss Brazil’s escalating political noise and deteriorating sovereign credit profile and Egypt’s credit-positive decision to onboard a full conditionality-linked program with the IMF.

Brazil’s increasing political noise and deteriorating sovereign credit profile point to a challenging post COVID-19 period 

Market Relevance: Political noise escalated quickly following Minister of Justice, Sergio Moro’s exit from the Bolsonaro Administration, accusing the president in potentially impeachable conduct. Meanwhile, the sovereign credit story continues to deteriorate amid forceful policy measures to backstop the economy duringthe COVID-19 fallout and very limited policy space.

Gramercy View: Moro’s recent departure from the Bolsonaro Administration and subsequent accusations take political noise to a new level, which we see as an incremental credit negative. The pre-COVID-19 constructive reform narrative, already largely derailed by the pandemic, will likely suffer a further blow due to the political turmoil that will now surround the president and his family members. This being said, we think impeachment proceedings by congress are unlikely in the near-term due to Bolsonaro’s relatively strong approval rating of around 35%. Another silver lining in the developing political situation is that Economy Minister, Paulo Guedes, will likely see his role within the government reinforced. Any perceived or real risk to Guedes’ position in the administration will carry negative implications for Brazilian assets across the board given that Guedes is seen by investors as the key anchor on economic policy. In the meantime, Brazil’s sovereign trajectory in the post-pandemic world looks increasingly challenging due to the ongoing material deterioration in the sovereign credit profile. Brazil stands out among its major EM peers given forceful measures to support the economy taken against a backdrop of an already severely limited fiscal space at the start of the crisis. While the authorities plan to resume the path toward fiscal consolidation in 2021, we doubt that the period immediately after a massive economic shock (COVID-19) and a pre-election year (2022) will be conducive to resumption of strong reform momentum and fiscal adjustment of the scale that will be required. As such, we expect the sovereign debt burden, that will likely reach 90% of GDP this year, to continue to edge higher, raising concerns about fiscal/debt sustainability over the medium-term.

Egypt’s request for a new IMF Stand-By Arrangement (SBA) confirms their constructive approach to management of external risks 

Market Relevance: The Egyptian authorities have requested a criteria backed Stand-By Arrangement (SBA) from the IMF in addition to emergency assistance via the Fund’s Rapid Financing Instrument (RFI). IMF Managing Director, Kristalina Georgieva, published a statement on the government’s ask indicating that the RFI request will be reviewed by the Executive Board in the next few weeks. Meanwhile, the staff will coordinate with Egyptian officials on policies and reforms to underpin the SBA, which will aim to support a strong recovery and broad-based and sustainable growth going forward.

Gramercy View: The decision to progress with a conditionality-linked program is credit positive and sets the country apart from several other sovereigns that are likely to face increased external financing pressure over the near to medium-term but have thus far limited their IMF support requests to emergency assistance. Egypt performed well under its 3-year EFF program that concluded last November, which should contribute to a swift agreement and approval of a new arrangement. The size of the SBA is likely to be around $8.5bn based on a typical limit of 4.35x quota, net of payments owed to the Fund. While credit metrics improved meaningfully with substantial fiscal and external adjustments under the Fund’s guidance over the past three years, Egypt’s fiscal space remains limited and external borrowing needs are high. Even with the new financing along with additional bilateral support that will likely accompany it, we believe the sovereign will still  need to issue external debt throughout the duration of the facility. Continuation of sound and robust macroeconomic policy management and solid performance under the program will be crucial to maintaining market access and debt sustainability.

Please contact our Co-Heads of Sovereign Research with any questions:

Kathryn Exum, Senior Vice President, Sovereign Research Analyst
[email protected]

Petar Atanasov, Senior Vice President, Sovereign Research Analyst
[email protected]

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