Why doesn't the Ecuador country risk go down?

By Luis Fierro Carrion (*)

Twitter: @Luis_Fierro_C

In recent weeks, the so-called "country risk" of Ecuador, instead of going down, has continued to rise, reaching 1,945 basis points (that is, 19.45% above the US Treasury bond rate). .

The "country risk" essentially reflects the probability that a country declares a default on servicing its foreign debt. It is true that Ecuador has a negative trajectory in this regard, having declared a moratorium on 11 occasions, tying with Venezuela and Argentina in the moratorium record (the last in 2020, at the beginning of the pandemic). (Spain has more defaults, but over 5 centuries).

However, Ecuador's macroeconomic indicators should rather have induced a reduction in said risk differential.

A few weeks ago, an agreement was announced to restructure the external debt with Chinese entities, reducing the interest rate between 0.2 and 1%; extending deadlines; and reducing debt service by $870 million in 2022-23.

The fiscal deficit has fallen from $7.1 billion in 2020 to $2.3 billion in 2022. The public debt/GDP ratio will drop from 62.2% of GDP in 2020 to 57% of GDP in 2023. International reserves have exceeded $8.4 billion (having fallen to less than $2 billion in March 2020). The average price of oil has exceeded IMF projections (by $24.20 per barrel in 2022, and by $13.50 per barrel in the medium term). The projected GDP growth rate in 2022 (2.9% according to the IMF) is one of the highest in the region, while inflation is one of the lowest (4.1%).

All these objective macroeconomic factors should have lowered the country risk to around 500-600 points, but instead it has shot up to almost 2,000 points.

The explanation, therefore, is not that the default risk has increased in the short term (I would say that this risk is zero, given that the main payments to the IMF and China have been postponed from 2025, and of sovereign bonds to 2026).

The concern is fundamentally political:

• It is considered that the government of President Lasso will not be able to approve structural reforms in the Assembly, for example, in the labor or investment legislation.
• The commitment to double oil production does not seem viable (mining production will continue to increase, but gradually).
• There is a risk that the Assembly will dismiss the President, or that he will invoke the "simultaneous death" (closing the Assembly and calling for new elections).
• Although the leader of the indigenous confederation, Leonidas Iza, has weakened his support within the indigenous movement, a new “national insurrection” is still possible, affecting oil, mining, and rural production (agriculture, livestock, flowers, etc.).
• It is feared that the next government (either a product of the “crossed death”, or regular elections in 2025) will not be “market friendly” and will invoke a new debt moratorium.

The "Iza effect" then becomes in reality an Iza-Correa-PSC-Pachakutik effect. Some PSC spokespersons (among them Mayor Cynthia Viteri) have questioned the servicing of the external debt, and apparently they have a close alliance with Correísmo and the “anti-capitalist” sectors of the Pachakutik movement.

There are also technical factors that affect Ecuador's country risk, such as low liquidity and high transaction costs, given that the country is not a recurring issuer.

In the long term, the only way to overcome this perception of high risk is by achieving a fiscal agreement between the main political forces, assuming as an objective to lower the cost of the country's external financing; and tax reforms that raise the level of fiscal pressure in the country to levels close to the average for Latin America. Currently, it is 19.1% of GDP, while the average for Latin America is 21.9%, and for OECD countries 33.5%.

(*) Translated version of the column published in "El Universo" newspaper on October 20, 2022

https://www.eluniverso.com/opinion/columnistas/por-que-no-baja-el-riesgo-pais-nota/