Aruba: Downgrade of medium- to long-term political risk classification from 5/7 to 6/7

Medium- to long-term political risk rating was downgraded for the third time in 3 years 

Aruba’s medium- to long-term political risk rating was downgraded for the third time in 3 years (after a downgrade in 2019 and in 2020). It is clear that the long and deep shock of the Covid-19 pandemic on tourism has badly affected the economic fundamentals of the island. As Aruba is heavily dependent on tourism, the real economy suffered a historic contraction of almost -26% in 2020, a mind-boggling level compared to the average real GDP growth of both the world and Latin America (see graph 1). Moreover, the current account balance fell deeply in the red, to about -17% of GDP, as tourism revenues more than halved. Given that tourism revenues are expected to barely improve this year, only a muted economic recovery of 5% is expected in 2021. Besides, the current account deficit is expected to remain large in 2021, at around 14% of GDP. Looking forward, though a firmer economic recovery of 12% is expected in 2022, the nominal GDP level of the island is not expected to return to its pre-Covid-19 pandemic level before 2024. The current account deficit is also forecasted to improve in the coming years as tourism revenues normalise, but at a very gradual pace. There are downside risks to these forecasts due to potential reoccurring Covid-19 pandemics in the future, an expected large fiscal consolidation and the possibility for it to trigger unrest. On the upside, a more rapid rebound in tourism and a reopening of the oil refinery would give an impulse to the economy. That being said, Aruba is currently still looking for an international oil company willing to undertake its refurbishment.

The external debt jumped to a high level and is expected to stay above its pre-Covid19 level

Foreign direct investments (FDI) and portfolio inflows – historically the main source for financing the current account deficit – came under severe stress in 2020. Hence, external loans from the Netherlands were needed to finance the current account deficit in 2020. As a result, the external debt jumped to more than 130% of GDP, a very high level. Looking forward, whereas an improvement is expected, FDI flows are expected to remain low while portfolio flows should remain negative. A large part of the current account deficit is expected to be financed through external loans from the Netherlands, especially in 2021. This would further increase the external debt, which would stand at about 132% of GDP at the end of 2021. Looking forward, the total external debt is forecasted to decrease to below 120% of GDP in 2026, thanks to the expected growth of tourism receipts and nominal GDP. However, it will remain significantly above its pre-Covid-19 level. Furthermore, the Netherlands sees fiscal consolidation in the coming years as vital in order to continue issuing financing on favourable terms to Aruba. Meaningful fiscal consolidation, however, is unlikely in the short term given the ongoing Covid-19 pandemic and the forthcoming general elections in June. Public debt is even expected to increase from 117% of GDP in 2020 to 130% in 2021, placing Aruba among the most indebted countries of Latin America. Implementing the requested fiscal austerity will be hard in the future. Compared to other countries, the effort needed for Aruba to achieve the requested fiscal austerity is large. On top of that, the island‘s successes regarding fiscal austerity have been fairly limited in the past. Furthermore, reform fatigue and possible protests against austerity pose an eminent risk. In turn, frictions with the Netherlands can flare up, as happened in the past. Lastly, high public interest payments (amounting to about a quarter of public revenues in 2021) will continue to weigh on public finances.

The general elections will be organised earlier than planned following suspected embezzlement

Aruba’s political environment is generally stable. However, on 30 March, Prime Minister Evelyn Wever-Croes abruptly resigned and disbanded her coalition government after prosecutors announced an investigation into suspected embezzlement by a party in the ruling coalition. The parliament was dissolved as well and the general elections were announced to be held in June 2021 (instead of September 2021). Elections might bring other political parties to the office but are likely to maintain a policy agenda similar to that of the previous years under the auspices of the Dutch government. Nevertheless, as unemployment has almost tripled since the Covid-19 pandemic broke out and as poverty has been rising, unrest might erupt when fiscal austerity measures are taken in the future, just as recently happened in Colombia.

The short-term political risk rating is under pressure

The short-term political risk rating (in category 2/7) has been supported by the high foreign exchange reserves. Indeed, at the end of December 2020, foreign exchange reserves rose to a historical record, reaching 6.7 months of import cover. This can be explained by the capital and foreign exchange restrictions introduced in 2020, together with the external debt from the Netherlands and the fall of imports. Nonetheless, the quickly rising short-term external debt is clearly putting pressure on the short-term political risk rating.

Analyst: Jolyn Debuysscher – J.Debuysscher@credendo.com