Fitch revises Seychelles' outlook to positive, affirms at 'B' |01 February 2013

The affirmation of Seychelles’ sovereign ratings reflects the relatively high value-added economy; favourable governance and investment environment; and public and external debt burden that, post-restructuring in 2010, is broadly in line with rating peers. The recent track record of fiscal consolidation and structural reform further enhance Seychelles' credit profile.

The ratings are constrained by the relatively short-track record of macro-financial stability; a history of higher and more volatile inflation than most rating peers; limited fiscal financing flexibility reflected in the short tenor of domestic debt; and recent debt restructuring.

The revision of Seychelles' Outlooks to positive from stable reflects the following key rating factors:

• Improving credit profile due to continued fiscal discipline and sustainable debt burden post debt restructuring. Since the start of the International Monetary Fund (IMF) programme at end-2008, budget surpluses have averaged 3% of GDP and public debt was 70.5% of GDP at end-2012 (from 178% of GDP at end-2008);

• Expectations of on-going budget surpluses. Fitch expects the budget to remain in surplus, equivalent to 1.1% of GDP in 2013 and a primary (excluding interest payments) budget surplus projected by Fitch to be 4.7%. These budget surpluses reflect policies to improve the efficiency of the tax administration (introduction of Value Added Tax in January 2013) and greater control over expenditures;

• The recent focus on public companies, including the restructuring of Air Seychelles and the increase in subsidised electricity prices by 15% in 2012, has significantly reduced potential contingent liabilities to the budget arising from public companies;

• Fitch projects a steady decline in public debt relative to national income (GDP). Fitch's own projections suggest that based on current policies and absent negative external and exchange rate shocks, the government's target for public debt to fall to 50% of GDP by 2018 is achievable;

• Resilient growth and diversification of tourist markets. In 2012, real GDP grew 2.7% after 5% in 2011. Given a difficult external environment with traditional source markets for tourists affected by the eurozone crisis, the relatively resilient growth primarily reflected success in Seychelles' strategy to diversify tourists' origins with flows from the United Arab Emirates (+52%), Russia (+53%) and China (+111%) offsetting decline from France (-18%), Italy (-9%) and the United Kingdom (-16%). Fitch expects economic growth to average 3.5% in the longer term, supported by a recovery in the eurozone and tourists' flows diversification.
The main factors that could lead to an upgrade are:

• Continued reduction in public-sector debt due to fiscal discipline and structural reforms, including a utility prices adjustment;

• Enhanced credibility of the macroeconomic framework derived from establishing a track record of moderate inflation and greater confidence in a more flexible exchange rate regime that can absorb shocks without threatening price and financial stability;

• Increase in external liquidity through rising foreign exchange (FX) reserves. FX reserves were US dollars 307m at end-2012 (2.8 months of current account payments) and Fitch expects it could reach US dollars 347m (3.0 months of current account payments) by end-2014. Increasing FX reserves is key to improving confidence in the currency given the large current account deficit and as a buffer to meet public external debt service;

• Sustained GDP growth underpinned by continuing structural reforms to improve the business environment. Lower dependence on western Europe, through diversification of tourists' origins as successfully initiated in 2012, would also support GDP growth. The current rating outlook is positive. Consequently, Fitch's sensitivity analysis does not currently anticipate developments with a material likelihood of leading to a rating downgrade. However, any reversal of fiscal reforms or relaxation on expenditure control, especially after the IMF programme which will be completed at end-2013, could lead to negative rating action.

Despite recent diversification, Seychelles' main tourism market remains Europe, and especially eurozone countries (France and Italy). Fitch expects eurozone growth to gradually recover to 0.9% in 2013 and 1.5% in 2014 from -0.4% in 2012.

Seychelles' current account payments are dependent on commodity prices, and especially oil. Fitch expects oil prices to decrease to US dollars 100 per barrel in the coming years relative to 2012 levels (US dollars 110 per barrel).

Fitch's current judgment is that the policy authorities will continue to enforce fiscal discipline in a way consistent with their debt reduction target of 50% of GDP by 2018.