One of the world’s largest credit rating agencies, Fitch Ratings has shed the spotlight on the possibility of Maldives falling into a pit of debt, after downgrading the island nation’s long-term Foreign-Currency Issuer Default Rating (IDR) to 'CCC+'.

Fitch publicized a report on Wednesday, revealing that Maldives long-term IDR has been downgraded from 'B-' to 'CCC+'.

While Maldives was at 'B-' over the course of the past two years, Fitch stressed that it typically does not assign outlooks to sovereigns with a rating of 'CCC+' or below.

The report revealed that this reflects increased risks associated with the island nation’s worsening external financing and liquidity metrics.

Emphasizing failing foreign-reserve buffers and surging external government debt as factors that would pose challenges for the new government to meet its substantial upcoming external debt-servicing obligations, the report notes that it would also keep the currency peg to the U.S. dollar.

With this, the incumbent administration of President Dr. Mohamed Muizzu is expected to reduce the external financing requirement over the medium term through fiscal consolidation.

However, the report stressed that this would mean Maldives will face massive external refinancing hurdles in 2025 and 2026.

Shedding light on the significant stress the island nation’s foreign reserves are expected to remain in, for the upcoming year, Fitch stated that the decline to USD 492 million in May 2024 from USD 748 million a year ago mirrors a persistently high current account deficit (CAD), the Maldives Monetary Authority (MMA)’s continued intrusions to support the currency peg, as well as the repayment of the USD 100 million swap arrangement with the Reserve Bank of India in December 2023.

The report added that gross foreign reserves net of the short-term foreign liabilities was “significantly” lesser, at USD 73 million.

Predicting foreign-reserve coverage of current external payments to remain low at 0.9 month in 2024 which is well below the projected 'B' median of 4.2 months, Fitch stated that the Maldives has USD 233 million in sovereign external debt-servicing obligations and USD 176 million in publicly guaranteed external debt-servicing obligations due this year.

Further, the total amount due in external debt servicing is expected to surge to USD 557 million in 2025 and surpass the USD one-billion-figure in 2026. This includes the repayment of a USD 500 million sukuk, which according to Fitch would increase pressure on the government's external liquidity.

As for continue external support, Fitch assumes the island 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 government.

Further adding that the accumulation of foreign-currency tourism taxes in the Sovereign Development Fund (SDF), established in principle for US dollar bond amortization, could also finance part of the upcoming debt servicing, Fitch noted that the SDF however, currently holds limited cash balance denominated in U.S. dollars amounting to USD 54.4 million by 11 June 2024.

Forecasting the Maldives' CAD in 2024 to remain increased at 19.7 percent of GDP, Fitch stressed that this is more than six times above the 'B' and 'B'/'C'/'D' category peer medians, despite stronger tourism receipts.

The island nation’s high public investment and heavy reliance on imports of basic food products, energy and capital goods is mirrored in the persistently high CAD, in light of elevated commodity prices.

The Fitch Rating report stated that this has led to insistent U.S. dollar shortages with notable pressure in the foreign-exchange parallel market.

Predicting the fiscal deficit to fall to 12.7 percent of GDP in 2024 and 11 percent in 2025 from an estimated 14.5 percent in 2023, Fitch stated that this mirrors stronger revenue collection on robust tourism growth, a measured capex rationalization, and gradual subsidy and healthcare reforms.

Noting that subsidy reforms are postponed to late 4Q24 and are expected to yield about three percent of GDP on average over 2024-2026, Fitch noted that the financing pressures could force the government to pursue stronger fiscal consolidation. However, this could pose challenges given the potential impact on vulnerable groups and the aim to develop infrastructure.

Stressing that domestic financing of the large deficits is becoming increasingly difficult, Fitch added that monetary financing was discontinued after the end of the suspension of the Fiscal Responsibility Act at end-2023.

Fitch Rating highlighted that MMA’s claims on the central government edged down to MVR 14.5 billion by end-April 2024, or 56.9 percent of total assets, after a rapid increase to 58.2 percent by the end of 2023 from 41.7 percent at the end of 2021.

There is also a restriction on room for banks to take more government debt on their balance sheets, as the exposure of banks to the government hovered around 30 percent of total assets since 2023.

Fitch went on to predict the general government debt to rise to 117.6 percent of GDP in 2026 from an estimated 109.4 percent in 2023, which is more than double the projected median level of 'B' category peers.

Envisioning the ratio to increase further over the medium term, Fitch stated that based on their guess of slower fiscal consolidation than the medium-term fiscal strategy, Fitch also estimated that the outstanding government-guaranteed debt fell to about 14 percent of GDP last year, at about MVR 14.2 billion from 16.3 percent in 2022 at around MVR 15.5 billion.

Highlighting that the sizeable guaranteed debt continues to present contingent liability risks to the sovereign balance sheet, the report noted that the Long-Term Foreign-Currency IDR also reflects other factors including post-election stability, solid growth momentum, vulnerability to shocks and ESG-governance.

Fitch has predicted that the country’s economic growth will accelerate to five percent this year and 6.3 percent in 2025 from the estimated four percent of last year.

Further, the Maldives is expected to record up to 2.2 million visitors next year, which has been supported by the partial opening of the new passenger terminal at Velana International Airport (VIA) expected in the fourth quarter of 2024.

Fitch Rating also shed light on some factors that could, individually or collectively lead to negative rating action or downgrade including external finances and public finances which are also ultimately some factors that may bring about positive rating action and upgrade.

Fitch rating is approved world-wide as a provider of information for investors and lenders regarding the extent of risks of investing in a destination.