Colombia’s Debt Is Already Trading as Though it Were Junk

(Bloomberg) -- Colombia’s dollar bonds are being priced as though they were already junk as investors bet that the government will fail to raise taxes enough for the country to cling onto its investment-grade credit rating.

The nation’s international bonds are the worst performers in Latin America since a tax bill was introduced two weeks ago, to widespread opposition. Colombia’s borrowing costs are roughly in line with those of junk-rated nations such as Brazil, Guatemala, Uzbekistan and Azerbaijan, reflecting pessimism that the Andean nation will be able to slash its deficit.

“What we have to show markets as a country is that we are capable of solving a situation all the world is facing,” President Ivan Duque said Friday in a radio interview on La FM. The nation needs to reach agreements that will “stabilize finances to guarantee its investment-grade rating.”

The peso fell nearly 1% against the dollar Friday, adding to a sell-off that has made it the worst-performing currency in emerging markets this week. The benchmark Colcap stock index dropped for a third-straight trading session. With assets falling, the central bank is widely expected to keep its key rate at a record low of 1.75% when it meets Friday.

Read more: Colombia to Hold Key Rate as Markets Drop

The Colombian government had sought to raise as much as an average of 2.2% of gross domestic product per year over the next decade through tax rises and curbs on spending. But strong opposition to the bill in congress and from street protesters forced the government to cut many of the key measures to raise revenue.

With investors pricing in a high likelihood of a ratings downgrade, the country’s average sovereign bond spread has widened by 20 basis points this month, to 2.31 percentage points over U.S. Treasuries, according to data compiled by JPMorgan. The average risk premium for investment-grade nations is 1.47 percentage points.

“Market participants will be watching closely to gauge just how much dilution of the administration’s proposal takes place,” UBS Global Wealth Management economists Alejo Czerwonko and Brennan Azevedo wrote in a note this week. “Savings below 1% of GDP are widely considered to meaningfully increase the chances of rating agencies taking action.”

The tax bill hasn’t faced a first debate in congress but it’s already on the ropes with virtually all political parties opposing it, including Duque’s own Democratic Center party. Its opponents object to increasing taxes on the middle class, and parties are disinclined to back painful and unpopular measures ahead of presidential and congressional elections next year.

Thousands hit the streets on Wednesday protesting the plan with some demonstrations continuing Thursday, even as the country suffers record numbers of deaths related to the coronavirus.

Many Latin American nations are also grappling with deficits that ballooned during the pandemic, but unlike Brazil, Mexico, Chile and Peru, Colombia’s deficit will widen rather than narrow this year, according to forecasts from the International Monetary Fund.

Record Deficit

The economy suffered its biggest contraction in history last year, and the government estimates Colombia’s fiscal deficit will widen to more than 9% of GDP this year, from 2.5% in 2019, before the pandemic. Finance Minister Alberto Carrasquilla is talking with lawmakers to save the bill, but many are demanding that it be scrapped entirely.

Colombia is currently rated one notch above junk by Fitch Ratings and S&P Global Ratings. Both agencies have said the bill is key for the country to guarantee fiscal sustainability, and S&P has warned that it could act on its negative outlook over the next 12 months if the deterioration of public finances is not reversed.

©2021 Bloomberg L.P.