What We're Reading:

What We're Reading:

Ukraine updates: Russia fumes after Zelenskyy's US visit. Zelenskyy met with US President Joe Biden on Wednesday and addressed Congress in his first official trip outside of Ukraine since Russia launched the war in February. (DW)

UK economy shrank more than previously thought. The economy contracted by 0.3%, compared with a previous estimate of 0.2%, as business investment performed worse than first thought. (BBC)

Israel’s Netanyahu says he has formed new government. Designated Prime Minister Benjamin Netanyahu announced late Wednesday that he has successfully formed a new coalition, setting the stage for him to return to power as head of the most right-wing Israeli government ever to hold office. (AP)

Chinese citizens face new outbreak with zero-COVID dropped. China is grappling with a new wave of COVID-19 after the government lifted its strict anti-pandemic measures. Some citizens are shocked by the sudden change while others welcome it with a sigh of relief. (DW)

Japan adopts plan to maximize nuclear energy, in major shift. In the face of global fuel shortages, rising prices and pressure to reduce carbon emissions, Japan’s leaders have begun to turn back toward nuclear energy. (AP)

Five topics that shaped trade finance in 2022. With a weakening economic outlook and geopolitical instability rattling the world’s supply chains and trading relationships, 2022 was a challenging time for trade and trade finance. (Global Trade Review)

Firms frustrated by post-Brexit trade red tape. The British Chambers of Commerce said businesses were still grappling with EU trading arrangements and more red tape. It comes as a separate report from the Centre for European Reform suggests Brexit may have reduced U.K. trade by around 7%. (BBC)

US economy grew 3.2% in Q3, an upgrade from earlier estimate. Shrugging off rampant inflation and rising interest rates, the U.S. economy grew at an unexpectedly strong 3.2% annual pace from July through September. (AP)

Lula da Silva made a historic comeback. He now faces a divided Brazil as president. The mood is hostile at an encampment outside a military barracks in Brazil’s most populous city of Sao Paulo, where Brazil’s national anthem plays on a loop and dozens of supporters of President Jair Bolsonaro mill around. (CNN)

Low weekly jobs claims underscores tight labor market. The number of Americans filing new claims for unemployment benefits increased less than expected last week, pointing to a still-tight labor market, while the economy rebounded faster than previously estimated in the third quarter. (Al Jazeera)

The ‘fourth propulsion revolution’ and preparing for a green maritime industry. How the maritime industry is tackling the issue of becoming greener, two industry experts offer their insights on alternative fuels and decarbonization in shipping. (HSN)

Turkey says Sweden 'not even halfway' to NATO candidacy. A Swedish court's refusal to extradite a Turkish journalist, wanted for alleged links to the 2016 coup, has soured negotiations over Sweden's NATO ascension. (DW)

Croatia set for new currency, borderless travel. More than nine years after Croatia became the European Union’s newest member, the country is on a roll to make the most of its status as the EU member in the Balkans. (AP)

Chile’s Central Bank expects the country’s economy will contract from 1.75% to 0.75% in 2023, along with several more quarters of economic contraction despite GDP growth shown this year, according to Reuters. “The economy will move towards negative growth for most of the next two years. I reiterate that this is a necessary and unavoidable adjustment, not facing it alone will bring us more problems and higher costs,” said Rosanna Costa, president of the Central Bank of Chile.

Economic activity in Chile dropped 1.2% year over year in October—marked as the worst reading since February 2021. “The activity gap remains high and inflation remains well above the target, both signs that the adjustment process of the Chilean economy is not yet complete,” the bank said in the Monetary Policy Report (IPoM). And the activity gap is expected to turn negative in the beginning of 2023, remaining at these values until the end of the policy horizon, which is necessary for the convergence of inflation to the target, according to the bank’s report.

Customers in Chile are paying on average 33 days beyond terms, and 63% of credit professionals said payment delays are increasing, per the FCIB Credit and Collections Survey. The most common causes of payment delays were cash flow issues and supply chain/shipping issues (both 29%), followed by foreign exchange rates, government approval and inability to pay.

What Credit and Collections Survey respondents are saying:

• “Follow up with the customer's procurement and finance departments as many times as necessary.”
• “All paperwork that customers have to do to get an approval for payment may take more than one month.”
• “Obtain updated credit information and look for owner and address verification, as changes are often not communicated by the customer. Know all you can about the customer, and pull a credit report for payment history and legal status and name verification.”
• “Check the customer’s profile and validate their business address, company domain e-mail address, etc. and start with small, reasonable credit line and reasonable payment terms.”
• “It is important to know customer's payment process to avoid misunderstandings or delays due to administrative issues.”
• “Obtain financial statements on your customers and backstop sales with credit insurance.”

The next Credit and Collections survey is now open and covers Argentina, Belize, Saudi Arabia and the United States. Click here to complete the survey and share the link with your credit and collections network.

When Shehbaz Sharif replaced the beleaguered Imran Khan as prime minister in April, the coalition government headed by his PML-N inherited an economic crisis that was pushing the country dangerously close to the brink of sovereign default. Sharif’s lack of a mandate created immediate doubts about his ability to implement the policies required to avoid that scenario, and his already limited political capital has only diminished with the passage of time.

Khan’s initiation of a “long march” protest campaign aimed at forcing Sharif to call an early election has ratcheted up political tensions in recent weeks, as was underscored by a failed attempt on the PTI leader’s life in early November. At the same time, economic conditions have been worsened by severe flooding that has caused more than $30 billion in damage.

The government secured a $1.2 billion emergency loan from the IMF in August, but the funds are barely enough to cover immediate debt obligations, and so amount to a very short-term fix. The rupee is once again losing ground amid growing political uncertainty, and the weakness of the currency has impeded efforts to contain inflation.

In late November, Khan announced that he had abandoned plans to stage a mass protest in Islamabad, citing the danger of sowing chaos. However, PTI leaders are mulling a possible withdrawal from all provincial assemblies, which suggests a shift in strategy aimed at positioning the party to return to power via elections held closer to the November 2023 deadline.

If granted the time to do so, Sharif might be able to achieve a debt-restructuring deal with multilateral agencies and bilateral lenders (in particular, China), and lay the ground for an economic recovery. However, the conditions attached to support from the IMF include increases in the tax on fuel and electricity, which are certain to provoke a backlash. It is debatable whether the PML-N’s coalition partners will remain loyal in the face of widespread public outrage, and the government’s abandonment by its partners would significantly undermine its ability to fulfill the conditions for external financial support, even if it somehow manages to limp along for another nine months.

In terms of the potential for the PTI’s return to power, the party’s prospects are clouded by its leader’s legal troubles. In October, the Election Commission determined that Khan had illegally sold gifts he received as prime minister and imposed a five-year ban on holding office. The chief justice of Islamabad’s High Court affirmed that the ban applies to the current parliamentary term and will not prevent Khan from contesting future elections, but the Election Commission has recommended that the PTI leader face criminal prosecution.

The rate of real expansion is forecast to slow markedly in the fiscal year that began in July, as the negative impact of flood damage reinforces the dampening effect of anti-inflationary measures implemented in the U.S., the EU and elsewhere on external demand for Pakistan’s exports and the volume of worker remittances, which are crucial to sustaining robust consumption. On balance, real GDP growth is forecast to slow to less than 4% in 2022/2023, and a more pronounced deceleration is possible in the event of a deep recession in the U.S., Europe and/or China, or a significant setback in the global battle against COVID-19.

The flood damage to the agricultural sector will have a negative impact on the external balances, and the rise in commodity prices triggered by supply shocks created by the war in Europe will likewise pose an obstacle to shrinking the current account deficit. The weakening of domestic demand against the backdrop of fiscal and monetary tightening will prevent a significant widening of the current account shortfall, but the deficit will once again exceed 4% of GDP in 2022/2023, large enough to ensure that another protracted delay in obtaining funds from the IMF and other multilateral lenders (such as would be expected in the event of an early election) would be extremely unsettling for investor.

The analysis above is taken from the November 2022 Political Risk Letter (PRL). The best-in-class monthly newsletter, written by the PRS Group, provides concise, easy-to-digest briefs on up to 10 countries, with additional recaps updating prior month’s reports. Each month’s Political and Economic Forecasts Table covers 100 countries, with 18-month and five-year forecasts for KPIs such as turmoil, financial transfer and export market risk. It also includes country rating changes, providing an excellent method of tracking ratings and risk for the countries where credit professionals do business. FCIB and NACM members receive a 10% discount on PRS Country Reports and the PRL by subscribing through FCIB. 

Christopher McKee, Ph.D., economist and CEO of The PRS Group, is FCIB's newest global expert. Members can watch his most recent Global Expert Briefing on political risk on-demand. McKee will speak about political hot spots again on Jan. 20. Register now.

In mid-December, the U.S. sanctioned two politicians close to El Salvador’s president, Nayib Bukele, based on corruption charges. As a result, their assets were frozen and they were banned from entering the U.S., a clear sign that relations have deteriorated markedly in the past year amid concerns over El Salvador’s commitment to democracy and human rights. Last year, the U.S. also imposed sanctions on the Constitutional Court judges who might facilitate Bukele’s possible re-election in 2024. These judges were recently put in place by Bukele after he fired the entire Constitutional Court in 2021. They backed Bukele in September 2022, when he announced that he would stand for a second term despite a constitutional ban on presidential re-election. The new Constitutional Court ruled, however, that the law was previously misinterpreted. 

Bukele will probably not change his election plans while the U.S. is likely to levy further targeted sanctions against individuals and institutions. Moreover, the use of bitcoin as legal tender since September 2021 also increases the risk of U.S. sanctions or blocking International Monetary Fund (IMF) and other multilateral loan approvals (already in place against Nicaragua). As a result, companies operating in El Salvador face increased counterparty, operational and compliance-related risks.

The worsening relations with the U.S. come at a bad time as public finances are under severe stress. Public debt rapidly increased during the COVID-19 pandemic due to large fiscal packages put in place to alleviate the economic impact, but also due to higher structural social spending that has not been phased out. Though public debt ratios have decreased since their peak in 2020—mainly thanks to the economic rebound—they remain historically high for the country’s small economy at a forecasted 80% of GDP end 2022. Heavy structural liabilities such as the pension liabilities (included in the public debt data, which is rare for emerging markets) are not being tackled.

On the contrary, the government significantly increased the minimum pension guarantee, thus creating a high burden for the fiscal budget as of 2028. Furthermore, public investment plans and the plan of doubling the size of the army by 2025 will weigh on the budget as well. On top of that, rising public interest payments will soak up a fifth of public revenues as of 2023 and are expected to quickly increase after that.

Amid a widening fiscal balance, public debt ratios are expected to increase to almost 98% of GDP in 2027, an unsustainable level for El Salvador’s limited economy. The forecast is subject to downside risks as higher fiscal expenditure is very probable in the run-up of the presidential elections in 2024, where Bukele will attempt to secure another presidential term. Furthermore, remittances are likely to turn out lower than the currently forecast because of a bleak economic outlook in the U.S.—a growth engine for El Salvadorian economy—can deteriorate the public debt ratios more quickly than presently anticipated. Other downside risks are fiscal costs related to climate change, as the Central American country is exposed to earthquakes, floods, droughts and hurricanes.

On top of that, the adoption of the bitcoin as legal tender in September 2021 might exacerbate fiscal stress due to several factors. First of all, fiscal accounts are exposed to volatile swings in the cryptocurrency’s value (which has lost more than half of its value since September 2021), as it can be used for tax and salary payments, though bitcoin seems to be barely used in practice. Furthermore, the government has established a $150 million fund intended to guarantee instantaneous convertibility between bitcoin and U.S. dollar. In time, the fund will be exhausted and the government will need to replenish it, thus creating a contingent liability.

As of January 2023, the government will face a series of sizeable biannual external bond payments and limited financing options. Since the adoption of the bitcoin as legal tender, negotiations for a vital $1.3 billion Extended Fund Facility from the IMF (of which the U.S. is a key shareholder) have been stalled.

Moreover, El Salvador has been shut off from the international financial markets for already a year, resulting in the second widest bond spreads in the region, after Venezuela only. Not surprisingly, credit agencies have downgraded El Salvador’s rating in the past year to levels reflecting a substantial risk of default. In the last twelve months, the country has been resorting to short-term domestic debt, but local banks and pension funds have shown declining demand as debt levels are historically high and near a legal ceiling.

A plan to issue $1 billion in bitcoin-backed bonds in March 2022 has been stalled and would not solve debt issues anyway as it is intended to finance bitcoin purchases and the construction of a ‘Bitcoin City’. A recent bond repurchase of the 2023 bond at discounted prices and the intention to use foreign exchange reserves will likely prevent a sovereign debt default next year, but not after 2023.

As the financial markets are closed, short-term domestic debt is nearing a ceiling and with no IMF deal in sight, it remains to be seen how the country will find new financing in the medium term. In this context, Bukele has been seeking closer ties with China, which could provide fresh debt but increase the risk of debt insolvency. The decision to use foreign exchange reserves to meet sovereign external debt service payments is weighing on liquidity.

Foreign exchange reserves reached around two months of import cover in June 2022—a 10-year low—and are declining at a rapid pace. An important positive feature though relates to the fact that El Salvador is a fully dollarized economy, which provides for monetary stability and a moderation of the non-transfer risk.

That being said, even though the fact that the country is dollarized mitigates the political risk, it does not alleviate it. In a context of full dollarization, declining foreign exchange reserves could lead to pressure on the currency in circulation. If this leads to a liquidity crunch, the authorities could decide to impose import or capital controls (or default on the external debt obligations, as happened in Ecuador in 2020). Given the latest events, the short-term political risk was downgraded to category 5/7 while the medium- to long-term political risk (category 5/7) has a negative outlook.

This article originally appeared on Credendo.

Week in Review Editorial Team:

David C. Anderson, Director, FCIB Member Relations

Annacaroline Caruso, editor in chief

Jamilex Gotay, editorial associate

Kendall Payton, editorial associate