Credit rating may worsen if political transition faces challenges

Bangladesh’s credit rating may worsen if the political transition faces challenges or leads to policy paralysis and exacerbates fiscal or external stresses, warned American credit rating agency Fitch Ratings yesterday.
“The fall of the Awami League -led government, after protests in July and August, raises uncertainty about the sovereign’s credit profile,” it said.
The credit rating agency, which downgraded Bangladesh’s rating to B+ from BB- in May 2024, said the demotion reflected a sustained weakening of the country’s external buffers, leaving the country more vulnerable to external shocks.
“We believe that this weakening will be challenging to reverse, despite reforms under a programme backed by the International Monetary Fund (IMF), including a shift towards greater exchange-rate flexibility,” it said.
Earlier this week, another US ratings agency, Moody’s, said Bangladesh’s credit rating would depend on maintaining political stability and the interim government committing to structural reforms.
At the end of July, S&P Global downgraded Bangladesh’s long-term sovereign rating from BB- to B+ amid deadly protests over the quota-based hiring system for government jobs, which culminated in the ouster of the Sheikh Hasina-led Awami League government.
Fitch Ratings said the protests would likely affect economic metrics in the current quarter, hurt growth and tax revenue collection, and push up inflation, which hit 11.7 percent year-on-year in July 2024.
“There is also likely to be an impact on readymade garment (RMG) exports and remittance inflows, Bangladesh’s two key sources of foreign earnings. At this stage, we assume these effects to be temporary, and that political stability will be restored and sustained,” it said.
Fitch said the appointment of an interim government on August 9 appears to have eased the immediate political instability “but Bangladesh’s society remains highly polarised and the longer-term political direction uncertain”.
A roughly 11 percent recovery in the Dhaka Stock Exchange’s benchmark index, the DSEX, between the end of July and August 13 signals moderate investor confidence in the interim administration, suggesting that there is a low risk of large-scale capital flight for now, it said.
“However, confidence could weaken if the ongoing transition does not go smoothly and adverse economic effects could mount,” it added.
“The timing of prospective elections remains unclear. Deciding this, and subsequently holding elections, could raise political risk,” said Fitch.
Furthermore, the ratings agency said political gridlock remains a possibility following such elections, as a diverse range of political actors compete for power.
The actors are the somewhat weakened Awami League, the Bangladesh National Party, the other main party, the student movement that led the recent protests, the military, and Islamist groups, it said.
“Another risk is that foreign firms could scale back RMG orders or source from other markets, which could add to external pressures,” it said.
“We stated in May that increased external vulnerability, for example, due to a marked decline in foreign exchange reserves or other liquidity buffers, could lead to negative rating action,” said Fitch.
Bangladesh’s forex reserves stood at $21.8 billion — an estimated four months of import cover — at the end of June, before the protests took hold, the ratings agency said.
It was higher compared to the $18.4 billion it showed in May, when the ratings agency completed its assessment
Moreover, near-term debt repayment pressures should be moderate. The public sector’s external debt service due in 2025 is about $4.3 billion, of which $1.5 billion is bilateral debt and $2.2 billion is multilateral, it added.
“We expect financing from these official creditors to continue under our baseline, supporting external debt servicing capacity. Nonetheless, future reserves data will be a key metric to analyse the impact of the ongoing political transition on external liquidity strains,” said Fitch.
“If the interim or next government were to backtrack on the previous government’s recent commitment to greater exchange-rate flexibility in a bid to shore up near-term macroeconomic stability, intervention to support the taka could add to pressure on reserves,” it said.
“However, we believe this risk to be contained.”
Fitch assumed the interim government as well as its successor would adhere to the broad policy commitments under Bangladesh’s programme with the IMF, but significant political instability or gridlock could complicate adherence.
“Significant slippage on key programme targets like fiscal metrics and exchange-rate liberalisation could jeopardise Bangladesh’s access to IMF and other multilateral funding support, further weakening its external position and increasing the risk of negative sovereign rating action,” it warned.