Oman’s Sovereign Ratings Affirmed; Outlook Remains Negative

(MENAFN- Capital Intelligence Ltd) Rating Action

Capital Intelligence Ratings (CI Ratings or CI) today announced that it has affirmed Oman’s Long-Term Foreign Currency Rating (LT FCR) and Long-Term Local Currency Rating (LT LCR) at ‘BB’. The sovereign’s Short-Term Foreign Currency Rating (ST FCR) and Short-Term Local Currency Rating (ST LCR) have also been affirmed at ‘B’. The Outlook for the ratings remains Negative.

Rating Rationale

The ratings are supported by the country’s moderate fiscal and external buffers, a relatively sound banking system, as well as CI’s expectation that financial support would be forthcoming from other GCC countries in the event of need. The ratings are constrained by the strong increase in public debt in recent years, the government’s reliance on external commercial borrowing, weak domestic demand, as well as the economy’s limited diversification. The outlook reflects CI’s expectation that budgetary pressures are likely to increase again next year.

Short-term budgetary pressures have eased with the recovery in global oil prices in recent months. However, CI does not expect the budget deficit to continue to narrow over the forecast horizon. The public finances are currently benefitting from a rebound of hydrocarbon revenues to pre-Covid-19 levels, with the government budget deficit forecast to narrow to 4.1% of GDP in 2021 from 18.0% in 2020. Our baseline scenario projects the deficit to widen again to 5.6% of GDP in 2022. The latter forecast reflects our expectation that global oil prices will decrease moderately over the next year and that the government will have limited leeway to implement large fiscal consolidation measures. As a result, we do not expect the recent deterioration in public debt metrics to be reversed over the forecast horizon. Gross government debt is expected to reach 78.9% of GDP at end-2022 compared to 79.2% at end-2020 (59.9% in 2019).

The scale of fiscal consolidation in recent months has been lower than expected in our February 2021 review. While the government implemented the long-delayed VAT in April 2021, the tax base was narrowed by the significant increase in the number of VAT exemptions (to 488 from 93 items). The government also pledged to create 32,000 additional public sector jobs in late May this year in response to public protests against worsening economic conditions. Furthermore, last month the government announced its intention to reconsider the phasing out of electricity and water subsidies until 2025. Budgetary electricity subsidies amounted to 2.5% of GDP in 2020. In CI’s opinion, the ability of the government to implement large fiscal consolidation measures is currently limited due to social and political stability concerns and already weak domestic demand.

The decreasing transparency of official budgetary figures is a concern in our view. This applies particularly to the government’s current plans to shift a large part of hydrocarbon-related expenditures off the budget from September 2021 onwards. This change follows the transfer of the government’s shareholding in Petroleum Development Oman (PDO), the main oil producing company, and the Block 6 oil and gas field to the newly founded off-budget holding company Energy Development Oman (EDO) late last year. While all spending related to PDO and Block 6 will be moved off the budget as EDO is now responsible for covering oil and gas-related expenditures, CI understands that budgetary accounts will continue to include profit transfers and tax revenues from crude oil and gas (though not from oil condensate) operations at current levels. In order to ensure comparability across fiscal years, CI’s budgetary forecasts for 2021 and 2022 include hydrocarbon spending and revenues.

The sovereign’s credit profile is also weakened by the government’s strong reliance on external commercial borrowing, which renders government funding vulnerable to changes in international investor sentiment. Foreign creditors held 76% of gross government debt in April 2021, up from just 22% at end-2015. Although external financing conditions for the government have improved since autumn last year in line with a general decrease in risk aversion in global capital markets, CI continues to view the government’s strong reliance on international capital markets as an important liquidity risk since we do not regard external commercial borrowing to be a stable source of funding. We estimate the government’s gross financing requirements at a moderate-to-high 16.8% of GDP in 2021 and a high 21.5% in 2022.

Short-term liquidity risks are partly mitigated by liquid government external assets at the sovereign wealth fund, the Oman Investment Authority (OIA), which stood at 22% of GDP in March 2021. Furthermore, the ratings are supported by CI’s expectation that Oman will receive financial assistance from more affluent GCC countries in case of need, although the likelihood of such support may be lower than in the past as the decline in hydrocarbon prices from summer 2014 onwards has strained the public finances throughout the Gulf region.

Economic growth dynamics are expected to recover from the Covid-19 shock, albeit only gradually. After contracting by an estimated 3.0% in 2020, real GDP is forecast to grow by 1.3% in 2021 and 2.8% in 2022. Oman’s current growth outlook benefits from rising external demand for oil and important manufacturing export goods (e.g. plastics, chemicals, base metals). At the same time, tourism services are projected to recover more gradually given the comparatively slow pace of the domestic vaccination rollout. Furthermore, we expect domestic demand to remain subdued over the next two years due to the government’s limited fiscal space and sluggish private credit growth.

The ratings also take into account the economy’s limited diversification, substantial geopolitical risks, as well as the relatively sound financial condition of the Omani banking sector. CI regards the sector’s capital buffers as good and the current stock of non-performing loans as moderate. However, banks face large concentration risks on both the asset and funding sides, and the impact of Covid-19 on asset quality metrics is currently obscured by regulatory forbearance measures.

Rating Outlook

The Negative Outlook indicates that Oman’s sovereign ratings are likely to be downgraded by one notch over the next 12-24 months. This reflects our expectation that budgetary pressures are likely to increase again next year on the back of a moderate decrease in global oil prices and in the absence of sufficient fiscal consolidation.

Rating Dynamics: Upside Scenario

The Outlook could be revised to Stable if the government embarks on fiscal reforms which contribute to a sustained improvement in the budget balance.

Rating Dynamics: Downside Scenario

The ratings could be lowered by more than one notch if geopolitical risk increases, or if international investor sentiment towards Oman or global oil prices deteriorate markedly.

Contact

Primary Analyst: Yesenn El-Radhi, Senior Sovereign Analyst;
E-mail: yesenn.el-radhi@ciratings.com
Secondary Analyst: Dina Ennab, Sovereign Analyst
Committee Chairperson: Morris Helal, Senior Credit Analyst
 
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