OREANDA-NEWS. Fitch Ratings has upgraded Uganda's Long-term foreign and local currency Issuer Default Ratings (IDRs) to 'B+' from 'B'. The Outlook is Stable. The Country Ceiling has been revised upwards to 'B+' from 'B' and the Short-term foreign currency IDR affirmed at 'B'.

KEY RATING DRIVERS
The upgrade of Uganda's Long-term IDRs reflects the following key rating drivers and their relative weights:

MEDIUM
Uganda has a long track record of prudent macroeconomic policies, supporting robust growth, which has averaged 6.6% for more than a decade. Fitch expects growth to remain above 5% in FY15 and FY16, supported by significant infrastructure investment in new power generation capacity. Effective monetary policy implementation has helped contain inflation, which fell to 4.3% in 2014 from a decade peak of 18.7% in 2011.

Uganda's fiscal dynamics have improved, supported by improved revenue collection capacity. The authorities have cut tax exemptions and improved tax collection, with a commitment to raise revenue as a percentage of GDP by 1% over the next two fiscal years. Preliminary fiscal data for 1HFY15 shows that revenue collection over-performed, a trend which Fitch expects to continue. Fitch forecasts revenue as a percentage of GDP to increase to 13.2% of GDP in FY16, from 11.2% in FY12. Revenues are lower than for peers and have remained at 11% of GDP (before grants) for the past decade.

Uganda has become steadily less aid dependent, demonstrating the authorities' ability and willingness to act prudently by curbing current expenditure in line with lower grants. Grants as a percentage of revenue have fallen to 8% in FY14 from 15% in FY12 and 40% in FY02.

Although government debt has risen steadily to 30.4% of GDP in FY14 from 20.8% in FY10, due to rising domestic and external borrowing, it remains well below 'B' category peers, with the majority (86%) on concessional terms. Fitch expects the construction of the Karuma and Isimba hydro-power dams (HPPs) to raise debt above 35% of GDP by FY16, although it is expected to peak significantly below the 'B' median of 46.5%.

Revised estimates for FY15 show the budget deficit rising more modestly to 5.6% of GDP, against a deficit of 7.2% at the time of the budget in June 2014. The improved figure is due to better than expected revenue out-turns, lower than planned expenditure as well as an upward revision to GDP.

Construction of the 600MW HPPs costing an estimated USD2.3bn has begun. The Ugandan government has released its 15% contribution for both HPPs, with China providing the remainder. Low infrastructure investment and weak implementation capacity compared with peers are among the factors limiting Uganda's long-term growth potential and constraining the rating. Therefore, despite the adverse near-term impact on the budget, the decision to continue with the HPPs is credit positive.

Uganda's 'B+' IDRs also reflect the following key rating drivers:

Uganda's pursuit of free-market policies, particularly its commitment to a flexible exchange rate and an open capital account, enables its economy to adjust to disruptions more quickly than its peers.

Rapid growth has helped to lift two-thirds of the population out of extreme poverty over the past decade, but per capita income remains low - less than one-third the 'B' median - due in part to high population growth of 3.3%. The rating remains constrained by weak governance and a weak business environment, both below the 'B' median.

External finances are considered a rating strength relative to 'B' category peers, notwithstanding the forecast increase in the current account deficit to 8.3% of GDP in FY15, above the 'B' median of -6.9%, driven by a sharp increase in capital imports for the two large HPPs being built. Foreign direct investment has traditionally financed a meaningful percentage of the current account deficit and foreign exchange reserves compare favourably with 'B' peers. Higher capital imports will be partly offset by sharply lower oil prices (oil imports were 21% of the total import bill in FY14).

RATING SENSITIVITIES
The Stable Outlook reflects Fitch's assessment that upside and downside risks to the ratings are currently well-balanced. The main factors that could, individually, or collectively, trigger negative rating action include:
- A substantial weakening in public finances relative to peers, especially related to rapid increases in current expenditure.
- A sharp widening of the current account deficit, not matched by an increase in long-term financing, which would increase external vulnerability.
- A marked deterioration in the political environment and/or security situation, undermining Uganda's long-term growth performance.
- A weakening of the macroeconomic policy-making framework.

The main factors that could, individually, or collectively, trigger positive rating action include:
-A continued track record of sound economic management as well as investment in infrastructure, supporting robust growth and rising per capita income.
-A narrowing in the current account deficit, as a result of improved export performance, supporting a further build up in reserves.
-Strengthening of public finances, focusing on improved tax revenue generation.
-Regulatory reforms to foster an improved business environment.

KEY ASSUMPTIONS
The ratings and Outlooks are sensitive to a number of assumptions:
Fitch assumes that growth will recover to 6% by 2017 supported by rising infrastructure investment and the development of the oil sector. Oil production will start beyond the forecast horizon. No drought is assumed.

Fitch assumes that the pace of structural reform will continue, in combination with the authorities' commitment to prudent economic policies.

Political stability is maintained.