Fitch Ratings has downgraded the Maldives’ Long-Term Foreign-Currency Issuer Default Rating (IDR) to ‘CCC+’ from ‘B-‘. An IDR is an issuer’s evaluation of the relative vulnerability to default on financial obligations.

The downgrade reflects increased likelihood of risks associated with the country’s worsening external financing and liquidity, Fitch said in its Rating Action Commentary.

Weakening foreign-reserves and rising external debt increase the challenges for the new administration to meet its substantial upcoming external debt-servicing obligations and keep the currency peg to the US dollar, the agency explained.

“We expect this government to reduce the external financing requirement over the medium term through fiscal consolidation, but it will face large external refinancing hurdles in 2025 and 2026,” the Commentary outlined.

Fitch expects the nation’s foreign reserves to remain under significant stress in the coming year. The agency attributed this to the reserves decline to US$492 million in May 2024 from US$748 million in 2023 which reflects a persistently high current account deficit (CAD), the Maldives Monetary Authority’s (MMA) continued interventions to support the currency peg, and the repayment of the US$100 million swap arrangement with the Reserve Bank of India in December 2023.

Gross foreign reserves net of the short-term foreign liabilities were significantly lower at USD73 million, Fitch noted.

The country has US$233 million in sovereign external debt-servicing obligations and US$176 million in publicly guaranteed external debt-servicing obligations due in 2024 Fitch highlighted, adding that total external debt servicing will climb to US$557 million in 2025 and exceed US$1.0 billion in 2026, including repayment of a US$500 million sukuk, which will intensify pressure on the nation’s external liquidity.

The nation will continue to rely on bilateral and multilateral financing support facilitated by both the country’s geopolitical strategic importance and the expectation of future policy actions by the new administration while accumulation of foreign-currency tourism taxes in the Sovereign Development Fund (SDF) could also finance part of the upcoming debt servicing, Fitch projected. However, the SDF, as of 11 June 2024, only holds US$54.4 million, Fitch noted — with the new administration’s stated goal being to increase collections to over US$100 million by the end of the year.

Fitch projected that the Maldives’ CAD in 2024, even with the stronger tourism receipts, will remain elevated at 19.7 percent of GDP — more than six times above the ‘B’, or ‘B’/’C’/’D’ category, peer medians. The persistently high CAD reflects the nation’s high public investment and heavy reliance on imports of basic food products, energy and capital goods in light of elevated commodity prices which has led to persistent US dollar shortages with notable pressure in the foreign-exchange parallel market, Fitch observed.

The agency also predicts that the fiscal deficit will fall to 12.7 percent of GDP in 2024 and 11.0 percent in 2025 from an estimated 14.5 percent in 2023; brought on by stronger revenue collection on robust tourism growth, a measured capital expenditure rationalisation, and gradual subsidy and healthcare reforms. Fitch noted that the stated administration subsidy reforms had been postponed to late in the fourth quarter (Q4) of 2024, and are expected to yield about 3 percent of GDP on average over 2024-2026.

Financing pressures could force the administration to pursue stronger fiscal consolidation, but this could be challenging given the potential impact on vulnerable groups and the aim to develop infrastructure, the Commentary highlighted.

Fitch observed that domestic financing of the large deficits was becoming increasingly difficult, highlighting that monetary financing was discontinued after the end of the suspension of the Fiscal Responsibility Act at end-2023. The MMA’s claims on the central government edged down to MVR14.5 billion by end-April 2024, or 56.9 percent of total assets, after a rapid increase to 58.2 percent by end-2023 from 41.7 percent at end-2021, the agency noted.

The Commentary underscored that room for banks to take more state debt on their balance sheets is also constrained, as the banks’ exposure to the government hovered around 30 percent of total assets since 2023.

General state debt will rise to 117.6 percent of GDP in 2026 from an estimated 109.4 percent in 2023, the agency predicted — more than double the projected median level of ‘B’ category peers. Fitch envisages the ratio will further increase over the medium term, based on an assumption of slower fiscal consolidation than the medium-term fiscal strategy.

The agency estimated outstanding sovereign-guaranteed debt fell to about 14.0 percent of GDP in 2023 (MVR14.2 billion) from 16.3 percent in 2022 (MVR15.5 billion) — the sizeable guaranteed debt continues to present contingent liability risks to the sovereign balance sheet.

More optimistically the Commentary noted that a smooth political transition and the three-fourths parliamentary majority by the ruling People’s National Congress (PNC) bodes well for policy implementation and continued development of the tourism sector.

“There is potential upside risk to the fiscal outlook, if the government fully implements meaningful revenue mobilisation and expenditure rationalisation measures that alleviate the public debt distress and put the sovereign on a path of restoring debt sustainability,” the Commentary highlighted.

Fitch, noting the nation’s “solid growth momentum” projected that economic growth will accelerate to 5.0 percent in 2024 and 6.3 percent in 2025, from an estimated 4.0 percent in 2023 and that they expect arrival volume to reach a record high of 2.2 million in 2025, underpinned by the partial opening of the new passenger terminal at the main Velana International Airport (VIA) expected in Q4 2024.

Fitch noted that the Maldives has an environmental, social and governance (ESG) Relevance Score of ‘5[+]’ and ‘5’ for Political Stability and Rights, and for the Rule of Law, Institutional and Regulatory Quality and Control of Corruption, respectively — scores which reflect the weight that the World Bank Governance Indicators (WBGI) have in Fitch’s proprietary Sovereign Rating Model. The Maldives has a medium WBGI ranking at the 46th percentile, reflecting recent peaceful political transitions, a moderate level of rights for participation in the political process, institutional capacity and corruption, and an established rule of law, the Commentary noted.

While the new administration’s rebalancing of its foreign policy has contributed to a sharp decline in Indian visitors in 2024, they have been replaced by travellers from Europe, China and Russia, with overall tourism receipts up by 27 percent year-on-year in Q1 2024, the agency noted.

The agency, however, highlighted that there are downside risks to growth tied to fiscal and external imbalances built up in recent years and by vulnerability to shocks, in particular those that undermine the tourism industry. The impact of climate change, such as rising sea levels, coral bleaching and extreme weather events, can be significant for the Maldives given its high reliance on nature-based tourism, the Commentary noted.