OREANDA-NEWS. August 04, 2015. Fitch Ratings has upgraded Seychelles' Long-term foreign and local currency Issuer Default Ratings (IDR) to 'BB-' from 'B+' and 'BB' from 'BB-', respectively. The Outlooks are Stable.

The issue rating on Seychelles' unsecured foreign currency bond has also been upgraded to 'BB-' from 'B+'. The Country Ceiling has been raised to 'BB' from 'B+' and the Short-term foreign currency IDR affirmed at 'B'.

KEY RATING DRIVERS
The upgrade of Seychelles' IDRs reflects the following key rating drivers and their relative weights:

HIGH
Five years have passed since Seychelles was cured of default on its external debt in 2010. The authorities have achieved impressive outcomes in the country's IMF Extended Fund Facility programmes since 2010, in particular consistently over-performing on its primary budget surplus targets. Timely implementation and strong willingness to execute on the structural reforms of the programmes have resulted in more robust and coherent fiscal and monetary policy frameworks.

MEDIUM
The authorities have increased the size of buffers to mitigate external vulnerabilities. Gross international reserves cover rose to 4.5 months of imports in May 2015, up from 4.2 months in May 2014, and 2.1 months in 2009. The exchange rate regime has been liberalised since November 2008. It has functioned relatively well recently with banks and market participants adjusting to the Central Bank of Seychelles' (CBS) commitment to the new forward-looking money-targeting monetary policy framework and discipline to avoid direct interventions in the foreign currency market.

Seychelles' public debt dynamics are on a firm downward path. Fiscal policy is anchored by the government's commitment to reducing debt/GDP to 50% by 2018 (the authorities and the IMF's calculation includes t-bills and t-bonds issued for monetary policy purposes; Fitch's calculations excludes these debt instruments). By Fitch's calculations, this has led to gross general government debt/GDP falling to 58.5% in 2014, from 80.7% in 2010. We forecast debt/GDP to fall further to 55.8% in 2015.

Seychelles' 'BB-' IDR also reflects the following key rating drivers:

Seychelles has a large structural current account deficit, which widened in 2014 to 21% of GDP, from 16% of GDP in 2013. This reflects the economy's dependence on imports for basic foods and products. Roughly two-thirds of the current account deficit is financed by FDI flows, reflecting the large import-content of foreign investments in the tourism and hotel sectors.

Gross external debt at 140% of current account receipts, is high compared with peers. This reflects the high foreign currency share of public debt and debt-financed investments by the non-bank private sector. However, sovereign external debt at 41% of GDP is significantly lower than Seychelles' peers, following the government's restructuring of its external debt in 2010.

GDP per capita (USD15,657) and income per capita (USD23,270) are more than double the 'BB' median, reflecting the high value-added economy and its export market's concentration in wealthy Western European countries. The World Bank recently re-classified Seychelles as a 'high income' country in July 2015, although the UN reports that income inequality is high with an income Gini coefficient of 65.8 in 2013. Seychelles also out-performs the 'BB' median in the UN human development indicators and World Bank governance indicators.

Five-year average real GDP growth is high at 5.5%, while the five-year average inflation rate is low at 3.9%. Monetary policy tightening since end-2014 is expected to negatively affect economic activity in 2015. Fitch forecasts real GDP growth to remain low at 3.4% in 2015 (2014: 3.3%) despite a pick-up in tourist arrivals in 1H15. Fitch expects growth to moderate from the average 6.6% in 2010-2013 towards a range of 3.0%-4.0% over the medium term.

Parliament amended legislation in line with the OECD's regulations on the sharing of tax information and to ratify the Multilateral Convention on Mutual Administrative Assistance in Tax Matters. The government is also finalising legislation requiring financial institutions to report information in line with the US Foreign Account Tax Compliance Act. These reforms are part of the government's strategy to improve Seychelles' non-compliant status regarding international tax matters, and positions Seychelles' financial sector for sustainable development.

RATING SENSITIVITIES
The Stable Outlook reflects Fitch's assessment that upside and downside risks to the rating are currently balanced. However, the main factors that could lead to positive rating action are:
- Continued improvement of external buffers through accumulation of foreign exchange reserves, narrowing of the current account deficit after FDI, and reduction in gross external indebtedness.
- Continued reduction in public sector debt in line with the government's medium-term fiscal plan.
- Sustained GDP growth and value-retention in the economy, underpinned by continuing structural reforms to improve the business environment.
- Sustained track record of moderate inflation and greater confidence in the flexible exchange rate regime to absorb shocks without threatening price and financial stability.

The main factors that could lead to negative rating action are:
- Balance of payment pressures leading to falls in foreign exchange reserves and increases in external debt ratios.
- A prolonged period of macroeconomic instability demonstrating weakness in the policy framework.
- Any reversal of fiscal reform, relaxation of expenditure control (e.g. through increased election spending), or unexpected recapitalisation required to support the state-owned enterprises, leading to a deviation from the authorities' debt reduction target.

KEY ASSUMPTIONS
The ratings are based on the following assumptions:

Despite recent diversification, Seychelles' main tourism market remains Europe, and especially eurozone countries. (France and Germany). Fitch expects eurozone growth to gradually recover to 1.6% in 2015 from 0.9% in 2014.

Sustained domestic political stability.