Credit ratings are now almost more than 100 years old and they have been evolving since then. The role of credit ratings has always remained pivotal in financial markets; however, the ratings have become much more important during events such as recessions, financial crises and pandemics. Credit ratings are conducted for various institutions, but mainly involve corporates, banks and governments. In times of economic disruptions, these credit ratings act as a signal to what to expect next regarding the financial stability of these institutions. While credit ratings of corporates and banks are of significance, government credit ratings provide a holistic view about all sectors of the economy (including corporates and banks) and hence are a better indicator for reviewing credit ratings. And as the sovereign credit rating deteriorates, it creates an automatic pressure on the ratings of all institutions including Islamic banks and Takaful companies.
Review of 2020
As the COVID-19 pandemic started in early 2020, we observed severe economic disruptions due to lockdowns, travel bans and restricted trade, all leading to lower economic activities. The IMF announced a global recession with the name of ‘The Great Lockdown’ as early as March 2020 and published the revised global economic growth in April 2020 with an expectation of a 3% contraction during 2020, followed by a 5.8% growth expectation in 2021.
As the world moved to a recession, almost all of the economies are expected to post a growth contraction during 2020, including almost all major Islamic countries. First and foremost, the Gulf region, consisting of six oil-producing nations, namely Saudi Arabia, the UAE, Oman, Bahrain, Kuwait and Qatar, witnessed a streak of sovereign credit rating downgrades during 2020. In the Gulf, government funding needs increased significantly in 2020, as low oil prices in addition to the economic repercussions of the pandemic widened governments’ fiscal deficits.
As per a report published by S&P in July 2020, GCC sovereigns’ central government deficits are estimated to reach around US$490 billion cumulatively between 2020 and 2023. More than half of this deficit is expected to come from the largest economy in the Gulf, ie Saudi Arabia, followed by Kuwait with 17% and 11% from Abu Dhabi. But these fiscal deficits are expected to shrink by 2021 as oil prices will improve in line with the oil production cuts as a result of the OPEC Plus agreement in April 2020, further supported by a revival in economic activity.
With an expectation of growth contraction in Saudi Arabia, Moody’s Investors Service changed the rating outlook on the Kingdom from stable to negative due to lower oil prices and the lowest international reserve position in almost a decade, while keeping the rating at ‘A-1’. After keeping the rating ‘Aa2’ since 2007, Kuwait was downgraded by Moody’s during September 2020 with a stable outlook. The major reasons behind the downgrade were the increase in the government’s liquidity risk and weaker institutions and governance strengths.
Despite the pandemic and lower oil prices, the diversification of Qatar’s economy allowed it to keep its ratings intact at ‘AA-’ by all the three major credit rating agencies. In August 2020, Fitch Ratings downgraded Bahrain to ‘B+’ owing to the impact of lower oil prices and the pandemic resulting in a higher budget deficit, increasing debt position and contraction in growth. Having been rated at ‘BB-’, Oman’s rating outlook was changed from stable to negative by both Moody’s and Fitch.
In the Levant region comprising Turkey, Jordan, Lebanon and Egypt, the economic condition has remained far worse than the Gulf. Most of these economies have limited fiscal capacity and external debt affordability. In the region, the Lebanese government has the highest external debt around 170% of its GDP, followed by Jordan and Egypt with 97% and 87.2% of their GDP respectively. As economic conditions worsened in Turkey with higher external pressures, Moody’s downgraded its rating to ‘B2’ in September 2020. Fitch assigned a higher credit rating of ‘BB-’ but also changed its rating outlook to negative in August 2020. Following the trend in the Levant region, Fitch changed the rating outlook on Jordan to negative in May 2020, while keeping the rating at ‘BB-’. In March 2020, Lebanon defaulted on its debt for the first time largely due to a currency crisis, as the country did not repay a US$1.2 billion eurobond. Having been rated at ‘B2’ and ‘B+’ by Moody’s and Fitch respectively, Egypt’s rating remained intact during 2020.
In the ASEAN region, Malaysia’s sovereign credit rating remained stable at ‘A-’ by Fitch, but a negative outlook was assigned by S&P Ratings due to heightened fiscal risks amid the pandemic. While the credit rating of Indonesia was affirmed at ‘BBB’ with a stable outlook by Fitch in August 2020, S&P assigned a negative outlook citing higher financial risks amid increased government spending.
In the South Asian region, Moody’s revised the rating outlook on Pakistan from under review to stable in August 2020, while keeping the credit rating at ‘CCC’. The credit rating of Bangladesh remained stable at ‘BB-/Ba3’ by all of the three credit rating agencies during 2020. The largest economy of Central Asia, Kazakhstan, maintained its credit rating at ‘B2’ by Moody’s with a stable outlook.
Preview of 2021
Both the IMF and World Bank expect a V-shape recovery with the global economy expected to rebound and post a strong growth during 2021. On the other hand, oil prices are expected to remain around the same levels as in 2020 as per the US Energy Information Administration. Combining the impact of these coupled with the strong linkages with sovereign credit ratings, we expect 2021 to be a year of stability and growth. We should expect credit ratings in Southeast Asia, Levant, South Asia and Central Asia to keep posting reversals in credit ratings. The credit ratings of the Gulf states may also show some reversal, amid a significant dependence on the direction of oil prices.
Whenever there are uncertainties in the world economy and financial markets, we see disruptions in the credit ratings and 2020 was no exception. As COVID-19 starts tapering off and lockdown restrictions eased, we started witnessing some recovery, but with the second COVID-19 wave, things are uncertain again. With the announcement of the development of a vaccine, we should expect some recovery in the global economy during 2021 and with that, credit ratings will start impacting positively too.
Any public opinion or media appearance is the author’s independent personal opinion and should not be construed to represent any institution with whom the author is affiliated.