New York-based Fitch Ratings has taken a hit on El Salvador's credit score. The credit rating agency is concerned about the sustainability of the country's bitcoin strategy. As a result, El Salvador's credit score has been adjusted from 'B-' to 'CCC', which in theory makes it more difficult for the country to raise capital.
From Fitch's perspective, President Nayib Bukele's concentration of power is worrisome. It makes El Salvador's policies unpredictable. Additionally, the adoption of bitcoin as legal tender creates uncertainty about the financing of the International Monetary Fund (IMF). El Salvador is entitled to funding from the IMF in 2022-2023, but that is currently highly uncertain, according to Fitch.
Increased financial risk
According to Fitch, El Salvador is currently at an increased financial risk. They cite, among other things, the maturing of short-term debt of $800 million in January 2023. Combine that with a budget deficit and limited means of raising capital from the market, and the risk is complete. Fitch is also concerned about El Salvador's creditworthiness in the medium term.
El Salvador is in talks with the IMF about a $1.3 billion loan. But the status of those conversations is a question mark right now. Especially after the IMF urged El Salvador to remove bitcoin as legal tender.
The Salvadoran government has been in talks with the IMF for more than a year about financing $1.3 billion. However, significant differences of opinion on key points make that financing highly uncertain in Fitch's eyes. “An agreement would help the government close gaps and potentially raise other funds. In doing so, it would provide clarity about El Salvador's policy strategy," Fitch said in the report.
El Salvador to launch bitcoin bonds next month
The cut in El Salvador's credit score comes days after announcing that the bitcoin bonds will hit the market next month. Alejandro Zelaya, the finance minister, told a local television station that he expected to sell the first bonds in March. The bond round should be ready for launch between March 15 and 20.
Initially, El Salvador wants to take 1 billion dollars off the market with the bonds. But Zelaya indicated during the television interview that he expects to sell an additional $500 million due to the high demand. Which would mean that thanks to bitcoin, El Salvador raises more money in one fell swoop than the 1.3 billion from the IMF that is on the roll.
Credit rating agency Fitch has less confidence in this. “There is a high degree of uncertainty about the external source of financing that El Salvador wants to tap,” referring to the bitcoin bonds. The new “CCC” credit rating means El Salvador faces substantial credit risk, according to Fitch. The month of March promises to be an exciting month for El Salvador.
In September of last year, El Salvador became the first country in the world to adopt bitcoin as legal tender. "It's an experiment that a lot of people are watching with interest."
First country to implement bitcoin as legal tender
This move comes from the country's 40-year-old authoritarian president Nayib Bukele. He is an outspoken advocate of cryptocurrencies and wants to grow the poor country's economy with them. Bukele invites bitcoin millionaires to come and live tax-free in El Salvador, and even wants to build a real 'bitcoin city'. Its construction has to be paid for by issuing bitcoin bonds, i.e. loans issued by the government.
The International Monetary Fund (IMF), which oversees financial stability in the world and provides loans to countries in need, is concerned and wants El Salvador to stop, it said at the end of January.
El Salvador plays with fire
According to the IMF, El Salvador is playing with fire. There is no supervision, consumers are at risk because the value of bitcoin fluctuates more daily than the US dollar (which also allows you to pay in the country that no longer has its own currency since 2001) and the financial stability of the country is at risk, warns the UN body not for the first time. But that advice fell on deaf ears with President Bukele, who makes fun of the IMF on Twitter.
In addition, Bukele allows his country's central bank to trade in bitcoin itself on behalf of the government and pledge to build schools and hospitals at a profit. "The central bank is speculating with government money in this way," says economist Wim Boonstra of Rabobank, who wrote an analysis on the introduction. “If bitcoin then falls sharply in value, there will be little money left to do good things with.”
According to Bloomberg, El Salvador has now bought at least 1800 bitcoins with government money – at the moment just under 60 million pounds. If the central bank of El Salvador can no longer meet its payment obligations because of this, you have a problem; the IMF warns that the country could go bankrupt.
Benefits to the situation
Many wealthier Salvadorans who have studied live abroad, especially in the United States. They transfer about $6 billion annually to their left-behind families, which is expensive and slow. For first world countries with stable economies, this is done quickly and cheaply, but in emerging markets such as El Salvador money transactions are a fairly shadowy event where money is left hanging on the bow. With bitcoin, you open a wallet and transfer money quickly and cheaply.
That saves the population money, which is good for the economy. The idea is that as they become richer, they will spend more of the money they receive. This could be the most important argument for the government is doing this, and so far it works.
3.8 million people are using the national wallet
Although official figures are lacking, 3.8 million Salvadorans are said to use the national wallet Chivo, US investment fund Ark Invest estimates. That would equate to 84 percent of the adult population. More residents of El Salvador are said to have a bitcoin wallet than a bank account, in the country where the vast majority of transactions are still done with cash.
There are stories that there were technical problems at companies, certainly at the beginning of the introduction. ATMs didn't work, causing long lines and people losing money. Thousands of people took to the streets in September and October to protest.
However, it is still unclear how often payment is made in bitcoin at the cash register. Much will depend on the experience of companies: if they say this works well, and they can manage the risks, then they may want to accept bitcoin in more countries. In that case, they don't have to wait until bitcoin is legal tender. El Salvador is such an experiment that a lot of people are watching with interest.
While President Bukele does not miss an opportunity to let the world know how excited he is about bitcoin, his country is experiencing only modest economic growth. Although fewer people live below the poverty line, the promised boost from bitcoin has not (yet) been seen.
Financial markets are a lot less enthusiastic about the introduction of bitcoin as legal tender. Credit rating agency Moody's expects this could put the country in financial trouble. As a result, the credit rating for El Salvador is lower, and it is therefore more expensive for the government to borrow money. The hit coming from Fitch will impact this too.
Meanwhile, the country has been struggling for years with a lot of crime, gangs, drug violence and the murder rate is sky-high. Human rights organization Amnesty expressed serious concerns about human rights in the country and the authoritarian behaviour of President Bukele. He has fired judges, silenced journalists, and called protesters against his corona policy "criminals who want more people dead." Putting away all its critics – including the IMF – also makes the bitcoin experiment a risky adventure.