Cuba - sovereign risk

February 9th 2014



Sovereign risk

Cuba: sovereign risk

Rating

February 2014 CCC

Kate Parker (lead analyst); Robert Wood (analyst). Published 21 February

2014, 1530 GMT.

This sovereign rating is issued by The Economist Intelligence Unit

credit rating agency, registered in accordance with Regulation (EC) No

1060/2009 of 16 September 2009, on credit rating agencies, as amended,

and is issued pursuant to such regulation.





Current assessment



Credit risk score graph



The CCC rating and underlying score remain unchanged from The Economist

Intelligence Unit's last ratings report in December 2013. We estimate

that the fiscal deficit came in at 1.2% of GDP in 2013—below the

government's target as a result of poor and behind-schedule execution of

public projects. Although the deficit is anticipated to widen again in

2014, to 4.7% of GDP, as the authorities' investment programme gets back

on track, it will be below levels recorded in recent years (it peaked at

6.7% of GDP in 2008). Following an agreement with Russia to write off

most of Cuba's unpaid debt to the former Soviet Union (relating to a

moratorium on external debt in 1986), arrears now account for around 25%

of the public debt stock (previously this stood at 35%) and mostly

comprise arrears to the Paris Club. This is described as "immobilised"

debt by the Cuban authorities.



Positive factors



Far-reaching reforms of the food-rationing system and deep cuts to state

payrolls will increase fiscal flexibility in the medium term.



Negative factors



Although not part of our central forecast scenario, a rollback or

suspension of Venezuelan subsidies (prompted by an economic crisis in

that country) remains a major external risk and would require sharp

fiscal tightening.

Even though only 30% of this year's fiscal deficit will be monetised,

this still equates to an estimated US$1.2bn, which will complicate

monetary policy at a time when the government is seeking to tackle price

and currency distortions.



Rating outlook



The deficit has traditionally been fully monetised, but the authorities

are expected to issue 20-year sovereign bonds (tradable only between

Cuban banks) in 2014 to finance 70% of the deficit. This will raise the

public debt/GDP ratio to over 40% of GDP, but will benefit the financial

sector and foster greater monetary policy independence. The ratio will

remain well below the 50.6% median for CCC-rated sovereigns—but risk is

high, owing to Cuba's weak track record in terms of commitment to pay.

The reform process is proceeding gradually, with public-sector spending

cuts and the transferral of some state activities to the private sector

set to provide added protection against external shocks. Cuba will

remain dependent on nickel exports and subsidised imports of oil from

Venezuela in 2014. Nickel prices are not expected to register

significant gains, but equally a sharp fall is unlikely. Structural

improvements will support medium-term fiscal consolidation. The wage

bill will decline as the state payroll shrinks, although the transfer of

jobs to the private sector has so far proceeded cautiously as the

authorities attempt to keep unemployment steady.