Aug 2005 Financial News

Barbados And Trinidad and Tobago: Diverging Credit Stories

Aug 19, 2005

Barbados and the Republic of Trinidad and Tobago are both island nations located in the Caribbean. Both have similar stable parliamentary systems of government and are solidly in the investment grade category, with long-term foreign currency sovereign credit rating of 'BBB+' and 'A-', respectively. Their economic prospects and credit standing have diverged over the past five years: while Barbados' debt burden and external position have deteriorated, those of Trinidad and Tobago's have improved sharply due to the development of oil and gas reserves that have propelled high economic growth, averaging over 7% over the last five years.

Barbados was assigned an 'A-' long-term foreign currency sovereign credit rating on Dec. 17, 1999, where it remained until being lowered to 'BBB+' on Aug. 5, 2004. In contrast, the 'BB+' long-term foreign currency sovereign credit rating assigned to Trinidad and Tobago on March 14, 1996, has been raised five times. Standard & Poor's most recently raised its long-term foreign currency sovereign credit rating on Trinidad and Tobago to 'A-' from 'BBB+' on July 21, 2005, and revised its outlook on Barbados to negative from stable on July 29, 2005 (see table 1).


Table 1 Barbados and Trinidad and Tobago Ratings History Since 2002
Local currency sovereign credit rating Foreign currency sovereign credit rating
Date Long term/Outlook/Short term
Barbados

July 29, 2005 A-/Negative/A-2 BBB+/Negative/A-2
Aug. 5, 2004 A-/Stable/A-2 BBB+/Stable/A-2
Aug. 19, 2003 A+/Negative/A-1 A-/Negative/A-2
Dec. 31, 2001 AA-/Stable/A-1+ A-/Stable/A-2
Trinidad and Tobago

July 21, 2005 A+/Stable/A-1 A-/Stable/A-2
June 16, 2004 A/Positive/A-1 BBB+/Positive/A-2
April 2, 2003 A-/Stable/A-2 BBB/Stable/A-2
Feb. 26, 2002 BBB+/Positive/A-2 BBB-/Positive/A-3
Dec. 31, 2001 BBB+/Stable/A-2 BBB-/Stable/A-3


In Barbados, large current account deficits combined with a moderate decline in international reserves have resulted in weakening external indicators over the last two years. In contrast, continuing surpluses in fiscal and external accounts in Trinidad and Tobago helped boost policy flexibility and underpin strong economic growth prospects over the medium term.

Despite the divergence between the ratings on these two sovereigns, both countries are solidly in the investment-grade category and are rated much higher than most of their peers in the region (see table 2). Both countries have strong democratic institutions, relatively high per capita GDP, good human development indicators, a strong government revenue base, low-to-moderate debt levels, and a highly open and developed export sector (oil and gas for Trinidad and Tobago, services—led by tourism—for Barbados).


Table 2 Caribbean Region Foreign Currency Sovereign Credit Ratings As Of Aug. 5, 2005
Sovereign Long term/Outlook/Short term
Bahamas A-/Stable/A-2
Trinidad and Tobago A-/Stable/A-2
Barbados BBB+/Negative/A-2
Montserrat BBB-/Positive/A-3
Jamaica B/Stable/B
Suriname B-/Stable/—
Belize CCC-/Negative/C
Grenada SD/—/SD



Political Stability, The Rule Of Law, And Strong Democratic Institutions Underpin The Ratings On Both Barbados And Trinidad and Tobago
The ratings on Barbados reflect political stability and consensus policymaking, as demonstrated by the long-standing, fixed-exchange-rate regime. The government played a central role in shifting the economic focus toward services from manufacturing and agriculture and recently took important steps to reform the pension system, improve the tourism infrastructure, and liberalize telecommunications. Furthermore, Barbados boasts strong human development indicators, reflecting its high per capita income and good education and health systems. In fact, Barbados has the highest human development indicators of any country in Latin America and the Caribbean according to the World Bank Human Development Index, at number 29 out of 177 countries (1 being the highest), well ahead of Trinidad and Tobago at 54. Barbados is socially and culturally more homogeneous, with both political parties drawing from a similar group of supporters.

While electoral politics in Trinidad and Tobago are still racially influenced to some degree, there is broad overall agreement between the official party and the opposition on the basic thrust of economic policy: minimize the risk of a significant shift in the current stable macroeconomic framework, especially in the key energy sector. Trinidad and Tobago is projected to benefit from significant foreign direct investment (FDI) in the 2005-2007 period, further solidifying the country's reputation as a secure and stable supplier of energy resources. Political stability, as well as relatively transparent energy policies and proximity to the U.S., make Trinidad and Tobago an attractive market for both upstream and downstream energy-related activities. In 2004, 86% of U.S. gas imports came from fields in Trinidad and Tobago. However, rising crime and continuing labor tensions reflect challenges in redistributing economic wealth, and represent major challenges for the government despite the current favorable economic environment.




Economic Prospects Sharply Improved For Trinidad and Tobago, While Barbados Continues To Experience Moderate Growth
Real GDP growth, which averaged just 1.4% in Barbados from 2001 to 2005, averaged 7.4% in Trinidad and Tobago over the same time period. The Barbadian economy experienced numerous challenges due to slowing tourism in the aftermath of 9/11. In addition, Barbados is facing troubles in its agriculture and manufacturing sectors as a result of relatively high labor costs, the need for economies of scale, and the uncertain future for preferential access to key markets for its sugar. Given the country's lack of energy resources and its high level of human development, Barbados has focused on a significantly different growth strategy than Trinidad and Tobago—focusing mainly on services, especially high-end tourism and financial services.

Per capita GDP was US$9,433 in Barbados and US$6,970 in Trinidad and Tobago in 2001, a significant difference, underscoring the level of economic development these two countries at that time. By 2006, however, per capita GDP is expected to converge at just over US$11,000 in both countries, with Trinidad and Tobago's rapid growth, driven by the burgeoning energy sector, fueling its convergence. This sector accounted for 34% of Trinidad and Tobago's gross domestic product in 2004 and continues to drive high current account and fiscal surpluses (see chart 1).



Real economic growth in Trinidad and Tobago is estimated at 6.5% in 2005 and 14% in 2006, as production in the gas sector is expected to increase by 50% when the Atlantic Liquefied Natural Gas Train IV comes on stream (see chart 2). Crude oil production is expected to increase by 13% over the year, due in large to the BHP Angostura development, which started production in January 2005. The government is actively seeking new onshore exploration in the southern and central parts of the island, after a recent discovery of 500 billion cubic feet of gas in the area (0.05% of 2004 gas production). A consortium of companies is being established to conduct an integrated exploration and production program, with the state represented by Petrotrin (its national oil company). Offshore exploration is also being sought, with 10 blocks off the island's western and eastern coasts put out for bid. Additionally, there are two methanol plants and one ammonia plant scheduled to begin operations at the end of 2005. All of this should serve to reinforce Trinidad and Tobago's position as one of the world's leading gas producers.






Trinidad and Tobago Has Been Running Fiscal Surpluses, While Barbados Has Run Deficits In Order To Invest In Capital Projects
Barbados has been running general government deficits since 2001, despite large surpluses in its social security system (the general government balance takes into account the central government balance, social security balance, and any off-budget spending). In fact, the general government deficit peaked at 9.2% of GDP in 2002 due to the government's decision to run countercyclical fiscal policy to counteract the recession underway in the aftermath of 9/11. Much of the expenditure was off-budget capital spending. The government sharply curtailed the deficit in fiscal 2003 and 2004. However, the fiscal 2005 budget envisages an increase in capital spending ahead of the World Cricket Cup (to be held in Barbados in 2007), which will result in a growing fiscal deficit after some improvement in fiscal 2004. The fiscal 2005 general government deficit is projected to rise to 2.0% of GDP (5.5%, excluding National Insurance Scheme [NIS] surpluses), up from 0.8% (4.3% of GDP, excluding NIS surpluses) in fiscal 2004. The deterioration is mostly due to off-budget capital spending, which is projected to rise to 1.7% of GDP in fiscal 2005.

Due to the easing of the fiscal stance, Barbados' net general government debt remains at about 50% of GDP in 2005, even excluding the significant holdings of general government debt by NIS. At this level, the debt burden is above the 'BBB' median's 30% and is increasingly constraining the rating, particularly since servicing this debt consumes almost 12% of general government revenue, or almost twice the level for the 'BBB' median.

Trinidad and Tobago, on the other hand, has been running general government surpluses (except for small 0.2% deficit in 2002) over the same time period (see chart 3). High energy revenue, which accounted for roughly 40% of total revenue in fiscal 2004 (ending Sept. 30, 2004) continues to contribute to a general government surplus that totaled 2.1% of GDP in 2004 and is expected to peak at 3.6% in 2006. At the same time, the government has made its third consecutive annual contribution to the Heritage and Stabilization Fund, which will be available to ease the fiscal impact of lower energy prices. With this addition, the outstanding balance of the fund will rise to 5.3% of GDP in 2005. Barbados, however, has a much more robust tax base than Trinidad and Tobago, given its highly efficient VAT and the fact that Trinidad and Tobago relies heavily upon energy-related tax revenue.



However, losses recorded by statutory authorities and some of public enterprises in Trinidad and Tobago result in less-favorable overall nonfinancial public sector balances. Despite some progress in rationalizing Caroni, the state-owned sugar company, off-budget spending, a lack of transparency in government-owned entities, and persistent restructuring of these entities' bank debt remain significant problems.

As a result of government surpluses and high economic growth, Trinidad and Tobago's net general government debt level is expected to fall to 22% in 2005 from 37% in 2001, and its interest expense to general government revenue is expected to fall to 8% has from 17% over the same time period (see chart 4).






Monetary Policy: A Fixed Exchange Rate Has Served Barbados Well, While Trinidad and Tobago Unofficially Has Sought To Maintain Its Currency's Stability With The U.S. Dollar
Barbados's fixed parity with the U.S. dollar is the foundation of the monetary system and, as such, contains inflation, which is likely to remain at 1%-3% over the medium term. Consistent economic policies and foreign exchange reserves hovering at about 140% of the monetary base augur well for exchange rate and monetary stability. A 29-year track record and broad-based social consensus on its merits further bolster the fixed parity's credibility. Moreover, the peg to the U.S. dollar has resulted in substantial real effective depreciation over the last two years, mollifying some domestic business concerns about the loss of competitiveness. Given the external interest rate environment and the need to gradually allow for the free flow of capital, the central bank raised the minimum administered interest rate on time and savings deposits to 3.75% (in two steps) in the first half of 2005 from 2.25% at year-end 2004. Bank lending rates are relatively high, averaging over 10%. The apparent rigidity in lending rates reflects a combination of high intermediation costs, the effect of the interest rate floor (for savings and time deposits) on the cost of funds, and credit risk. More-robust, market-oriented development of domestic capital and the equity markets could strengthen economic growth prospects. Social cohesion in Barbados has allowed it to pursue an incomes policy determined by negotiations between unions, the business community, and the government in order to contain pressure in the event of a serious risk to its fixed-exchange-rate policy (as occurred in 1991-1992).

Trinidad and Tobago, on the other hand, benefits from high energy revenue and exports to sustain its exchange rate but, given it social divisions, would find it extremely difficult to implement a similar incomes policy. Trinidad and Tobago has kept its currency stable against the U.S. dollar since 1997, a policy that boosts confidence and economic stability and helps to contain potential pressure from seasonal demands for foreign exchange. Inflation was 3.9% in 2004, mainly driven by increases in food prices stemming from a poor harvest and more expensive imports from Europe. Sterilization reduces the inflationary impact of net FDI, which rose to about 8% of GDP in 2004 and 2005. The central bank also raised again the repo rate to 5.50% from 5.25% in July 2005 to check emerging inflationary pressures.




External Indicators In Barbados Have Worsened Over The Last Three Years, While Those Of Trinidad and Tobago Improved Markedly
Trinidad and Tobago enjoys a sound external debt profile on the basis of a very favorable balance-of-payments position, strong FDI inflows, and a shift to local debt financing from foreign sources. It is generating significant current account surpluses as a result of the development of its energy base. Trinidad and Tobago achieved a current account surplus of 22.29% of current account receipts (CAR) in 2004, which is expected to increase to 23.6% of CAR in 2005 on the back of even higher energy prices.

The country's external liquidity position is strong, as demonstrated by the fact that its current account surpluses and net FDI inflows surpass its debt-servicing needs for 2004 and are projected to do the same in 2005 and 2006. Net FDI inflows averaged almost 8% of GDP from 2000 to 2004, highlighting Trinidad and Tobago's political stability and rich energy resources.

Trinidad and Tobago's external debt burden has declined significantly over the last five years. Intra-firm FDI, project finance, or both will continue to represent the crux of the corporate sector's international funding activity. The public sector is a net creditor, with a projected net external asset position of 48% of CAR in 2005 (see chart 5).



Barbados is vulnerable to adverse external developments that could reduce foreign exchange earnings and strain its external liquidity. Although its success in shifting to services from commodities has provided Barbados with greater external flexibility, it is still highly susceptible to downturns in global tourism, as demonstrated during the most recent recession. Because exchange-rate movements reflect conditions in the U.S., external flexibility depends upon maintaining fiscal prudence, containing domestic labor costs, and raising productivity.

The 2005 current account deficit is estimated at 9.9% of GDP in Barbados, little changed from 10% of GDP registered in 2004—stemming from a decline in merchandise exports, continued strong demand for imports in conjunction with some public sector capital projects, and heightened energy prices. It is expected to remain above levels of the late 1990s despite an eventual drop in energy prices and the winding down of public sector project-related imports because of the secular decline in manufactured exports and the increased outflow of profits.

Reserves declined to US$580 million in 2004 from US$737 million in 2003 as FDI, and as high current account deficit and capital outflows as a result of the central bank's second-tier reserves program allowed foreign investment abroad. The reserve level will in Barbados likely decrease modestly in 2005 as well due to similar trends—although the second-tier reserve program was discontinued temporarily and capital outflows should therefore decline. The country's 2005 external financing gap (defined as the current account deficit plus amortization of long-term debt and all short-term debt) is projected to be a high 140% of usable foreign exchange reserves plus CAR (see table 3). With continued high current account deficits and the implicit need to hold reserves in excess of the monetary base, a marked decline in private sector capital flows could stress the balance of payments in Barbados.


Table 3 Barbados and Trinidad and Tobago Economic Indicators
--Year ended Dec. 31--
(%, unless otherwise indicated) 2006f 2005f 2004 2003 2002 2001
Barbados

GDP per capita (US$) 11,347 10,924 10,531 9,923 9,276 9,433
Change in real GDP 3.4 2.5 4.5 1.9 0.5 (2.6)
Unemployment rate 9.5 9.5 10.0 11.0 10.3 9.9
Domestic credit to private sector and NFPEs/GDP 59.1 58.7 57.4 56.0 60.2 58.0
Change in consumer prices 1.5 1.5 1.9 1.6 0.2 2.8
General government balance/GDP 0.0 (2.0) (0.9) (3.4) (9.2) (1.4)
Net general government debt/GDP 48.4 49.9 49.5 50.4 52.6 43.4
Gross financing requirements/useable reserves + CAR 143.5 140.6 138.4 129.0 112.7 117.0
Net external debt/CAR 96.3 86.0 72.0 64.3 64.6 49.4
Trinidad and Tobago

GDP per capita (US$) 11,326 9,750 8,850 8,190 6,945 6,970
Change in real GDP 14.0 6.5 6.2 13.2 6.8 4.3
Unemployment rate 9.5 9.8 10.5 10.5 10.4 10.8
Domestic credit to private sector and NFPEs/GDP 48.8 48.9 47.2 41.9 47.4 44.7
Change in consumer prices 3.0 4.0 4.0 3.7 4.2 5.6
General government balance/GDP 3.6 2.8 2.1 1.2 (0.2) 0.7
Net general government debt/GDP 16.6 21.8 24.5 32.7 39.3 36.9
Gross financing requirements/useable reserves + CAR 58.2 63.1 70.4 71.3 78.7 77.0
Net external debt/CAR (50.8) (28.8) 0.5 22.3 24.1 23.4
f—Forecast. NFPE—Nonfinancial public sector entities. CAR—Current account receipts.





Concluding Remarks
Opening the economies of both Barbados and Trinidad and Tobago further at an appropriate pace, in the context of negotiations for the Caribbean Single Market Economy and the Word Trade Organization's Doha Round, would make both more competitive and lower the cost of inputs for the private sector. Both must create the right incentives for the private sector to flourish, including reducing the cost of capital and raising labor productivity. Significant challenges remains, from the declining European Union preferences in sugar and from the need to put social safety nets in place and retrain workers to reduce the impact of dislocation. There is broad agreement on the need to strengthen domestic link between the agricultural sector and tourism and to promote diversification in both countries. Furthermore, Hurricanes Ivan and Emily both passed near Barbados within the last 12 months, reaffirming the importance of contingency planning and bolstering risk mitigation and disaster management.

In the case of Barbados, failure to address external imbalances by tightening monetary and fiscal policies over the next fiscal year could lead to downward pressure on the government's creditworthiness. Conversely, if the government is willing and able to reduce its spending significantly, the outlook could be revised to stable following the completion of the current ambitious capital expenditure program. The strength of democratic institutions and historical social cohesion by all sectors of society to propel the country forward make this task possible. It is important that Trinidad and Tobago solidify the rapid gains in its energy sector, and that other sectors of its economy grow in order to more equally distribute the oil riches.

Standard & Poors - Credit Ratings Published August 8, 2005