Fitch Ratings has downgraded the Maldives' Long-Term Foreign-Currency Issuer Default Rating (IDR) to 'CCC+' from 'B-'. Fitch typically does not assign Outlooks to sovereigns with a rating of 'CCC+' or below.

A full list of rating actions is at the end of this rating action commentary.

KEY RATING DRIVERS

Ratings Downgrade: The downgrade of the Maldives' IDRs to 'CCC+' reflects increased risks associated with the country's worsening external financing and liquidity metrics. Weakening foreign-reserve buffers and rising external government debt increase the challenges for the new government to meet its substantial upcoming external debt-servicing obligations and keep the currency peg to the US dollar. We expect this government to reduce the external financing requirement over the medium term through fiscal consolidation, but it will face large external refinancing hurdles in 2025 and 2026.

Weaker External Buffers: We expect the Maldives' foreign reserves to remain under significant stress in the coming year. Their decline to USD492 million in May 2024 from USD748 million a year ago reflects a persistently high current account deficit (CAD), the Maldives Monetary Authority's (MMA) continued interventions to support the currency peg, and the repayment of the USD100 million swap arrangement with the Reserve Bank of India in December 2023. Gross foreign reserves net of the short-term foreign liabilities were significantly lower at USD73 million.

Worsening Liquidity Positions: We forecast foreign-reserve coverage of current external payments to remain low at 0.9 month in 2024, well below the projected 'B' median of 4.2 months. The government has USD233 million in sovereign external debt-servicing obligations and USD176 million in publicly guaranteed external debt-servicing obligations due in 2024. Total external debt servicing will climb to USD557 million in 2025 and exceed USD1.0 billion in 2026, including repayment of a USD500 million sukuk, which will intensify pressure on the government's external liquidity.

Continued External Support: Our baseline assumes the government will continue to rely on bilateral and multilateral financing support facilitated by both the country's geopolitical strategic importance and the expectation of future policy actions by the new government. The accumulation of foreign-currency tourism taxes in the Sovereign Development Fund (SDF), established in principle for US dollar bond amortisation, could also finance part of the upcoming debt servicing. However, the SDF currently holds limited cash balance denominated in US dollars (USD54.4 million as of 11 June 2024).
Persistent External Imbalances: Fitch forecasts the Maldives' CAD in 2024 will remain elevated at 19.7% of GDP, more than 6x above the 'B' and 'B'/'C'/'D' category peer medians, despite stronger tourism receipts. The persistently high CAD reflects the Maldives' high public investment and heavy reliance on imports of basic food products, energy and capital goods in light of elevated commodity prices. This has led to persistent US dollar shortages with notable pressure in the foreign-exchange parallel market.

Gradual Fiscal Consolidation: Fitch projects the fiscal deficit to fall to 12.7% of GDP in 2024 and 11.0% in 2025 from an estimated 14.5% in 2023. This reflects stronger revenue collection on robust tourism growth, a measured capex rationalisation, and gradual subsidy and healthcare reforms. Subsidy reforms are postponed to late 4Q24, and are expected to yield about 3% of GDP on average over 2024-2026. Financing pressures could force the government to pursue stronger fiscal consolidation, but this could be challenging given the potential impact on vulnerable groups and the aim to develop infrastructure.
Domestic financing of the large deficits is becoming increasingly difficult. Further monetary financing was discontinued after the end of the suspension of the Fiscal Responsibility Act at end-2023. The MMA's claims on the central government edged down to MVR14.5 billion by end-April 2024, or 56.9% of total assets, after a rapid increase to 58.2% by end-2023 from 41.7% at end-2021. The room for banks to take more government debt on their balance sheets is also constrained, as the banks' exposure to the government hovered around 30% of total assets since 2023.

Rising Public Debt Ratio: We forecast general government debt to rise to 117.6% of GDP in 2026 from an estimated 109.4% in 2023, more than double the projected median level of 'B' category peers. We envisage the ratio will further increase over the medium term, based on our assumption of slower fiscal consolidation than the medium-term fiscal strategy. We estimate outstanding government-guaranteed debt fell to about 14.0% of GDP in 2023 (MVR14.2 billion) from 16.3% in 2022 (MVR15.5 billion). The sizeable guaranteed debt continues to present contingent liability risks to the sovereign balance sheet.
The Long-Term Foreign-Currency IDR also reflects the following factors:

Post-Election Stability: A smooth political transition and the three-fourths parliamentary majority by the ruling People's National Congress bodes well for policy implementation and continued development of the tourism sector. There is potential upside risk to the fiscal outlook, if the government fully implements meaningful revenue mobilisation and expenditure rationalisation measures that alleviate the public debt distress and put the sovereign on a path of restoring debt sustainability.
Solid Growth Momentum: Fitch forecasts economic growth will accelerate to 5.0% in 2024 and 6.3% in 2025, from an estimated 4.0% in 2023. We expect visitation volume to reach a record high of 2.2 million in 2025, underpinned by the partial opening of the new passenger terminal at the main Velana International Airport expected in 4Q24. The new government's rebalancing of its foreign policy has contributed to a sharp contraction in Indian visitors in 2024, but they have been replaced by travellers from Europe, China and Russia, with overall tourism receipts up by 27% yoy in 1Q24.

Vulnerability to Shocks: Downside risks to growth are tied to fiscal and external imbalances built up in recent years and by vulnerability to shocks, in particular those that undermine the tourism industry. The impact of climate change, such as rising sea levels, coral bleaching and extreme weather events, can be significant for the Maldives given its high reliance on nature-based tourism.

ESG - Governance: The Maldives has an ESG Relevance Score (RS) of '5[+]' and '5' for Political Stability and Rights, and for the Rule of Law, Institutional and Regulatory Quality and Control of Corruption, respectively. Theses scores reflect the high weight that the World Bank Governance Indicators (WBGI) have in our proprietary Sovereign Rating Model. The Maldives has a medium WBGI ranking at the 46th percentile, reflecting recent peaceful political transitions, a moderate level of rights for participation in the political process, institutional capacity and corruption, and an established rule of law.

RATING SENSITIVITIES

Factors that Could, Individually or Collectively, Lead to Negative Rating Action/Downgrade

- External Finances: Heightened stress in external financing conditions, for example due to pressure on foreign-currency reserves or reduced creditor support.
- Public Finances: Failure to implement credible fiscal consolidation policies that could jeopardise upcoming debt repayments.

Factors that Could, Individually or Collectively, Lead to Positive Rating Action/Upgrade
- External Finances: Strengthening of external buffers through accumulation of foreign-currency reserves.
- Public Finances: Significant progress in implementing a credible fiscal consolidation strategy, putting public debt on a declining medium-term trajectory.

SOVEREIGN RATING MODEL (SRM) AND QUALITATIVE OVERLAY (QO)

Fitch's proprietary SRM assigns Maldives a score equivalent to a rating of 'CCC+' on the Long-Term Foreign-Currency IDR scale. However, in accordance with its rating criteria, Fitch's sovereign rating committee has not utilised the SRM and QO to explain the ratings in this instance. Ratings of 'CCC+' and below are instead guided by the rating definitions.

Fitch's SRM is the agency's proprietary multiple regression rating model that employs 18 variables based on three-year centred averages, including one year of forecasts, to produce a score equivalent to a LT FC IDR. Fitch's QO is a forward-looking qualitative framework designed to allow for adjustment to the SRM output to assign the final rating, reflecting factors within our criteria that are not fully quantifiable and/or not fully reflected in the SRM.

COUNTRY CEILING

The Country Ceiling for the Maldives is 'B-'. For sovereigns rated 'CCC+' or below, Fitch assumes a starting point of 'CCC+' for determining the Country Ceiling. Fitch's Country Ceiling Model produced a starting point uplift of +1 notch. Fitch's rating committee did not apply a qualitative adjustment to the model result.

Fitch does not assign Country Ceilings below 'CCC+', and only assigns a Country Ceiling of 'CCC+' in the event that transfer and convertibility risk has materialised and is impacting the vast majority of economic sectors and asset classes.

REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING

The principal sources of information used in the analysis are described in the Applicable Criteria.

ESG CONSIDERATIONS

The Maldives has an ESG Relevance Score of '5[+]' for Political Stability and Rights as World Bank Governance Indicators have the highest weight in Fitch's SRM and are therefore highly relevant to the rating and a key rating driver with a high weight. As the Maldives has a percentile rank above 50 for the respective Governance Indicator, this has a positive impact on the credit profile.
The Maldives has an ESG Relevance Score of '5' for Rule of Law, Institutional & Regulatory Quality and Control of Corruption as World Bank Governance Indicators have the highest weight in Fitch's SRM and are therefore highly relevant to the rating and are a key rating driver with a high weight. As the Maldives has a percentile rank below 50 for the respective Governance Indicators, this has a negative impact on the credit profile.

The Maldives has an ESG Relevance Score of '4'for Human Rights and Political Freedoms as the Voice and Accountability pillar of the World Bank Governance Indicators is relevant to the rating and a rating driver. As the Maldives has a percentile rank below 50 for the respective Governance Indicator, this has a negative impact on the credit profile.

The Maldives has an ESG Relevance Score of '4' for Creditor Rights as willingness to service and repay debt is relevant to the rating and is a rating driver for the Maldives, as for all sovereigns. As the Maldives has a fairly recent restructuring of public debt in 2020, this has a negative impact on the credit profile.

The highest level of ESG credit relevance is a score of '3', unless otherwise disclosed in this section. A score of '3' means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. Fitch's ESG Relevance Scores are not inputs in the rating process; they are an observation on the relevance and materiality of ESG factors in the rating decision. For more information on Fitch's ESG Relevance Scores, visit www.fitchratings.com/topics/esg/products#esg-relevance-scores.