The victory of El Salvador’s President Nayib Bukele’s New Ideas party in the country’s legislative election will end the country’s political gridlock, Fitch Ratings says, but it is not clear that this will lead to timely implementation of policies to bolster public finances.
With more than 90% of votes counted following Sunday’s election, New Ideas and its allies had obtained a Congressional majority, having secured about two-thirds of the vote, and looked likely to secure a qualified majority by also winning at least two-thirds of the available seats.
The two parties that have dominated Salvadoran politics since the civil war ended in 1992 – the conservative Nationalist Republican Alliance (Arena) and leftist Farabundo Marti Liberation Front (FMLN) – had received just 8% and 7% of the vote, respectively.
The strength of Arena and FMLN had forced Bukele to govern with an opposition-controlled Congress since taking office in 2019. The resulting gridlock has hindered policy implementation and reduced the government’s ability to tap external funding from either private or official sector creditors, which requires approval by a two-thirds majority in Congress.
Over-reliance on domestic market borrowing to meet high government funding needs has pushed up borrowing costs. Financing constraints coupled with the deterioration in debt sustainability metrics due to the revenue and spending impact of Covid-19 drove our revision of the Outlook on El Salvador’s ‘B-’ sovereign rating to Negative from Stable in April 2020.
The 2021 budget featured a large fiscal deficit amid still limited financing options and we forecast general government debt to rise above 90% of GDP this year.
With New Ideas and its allied parties securing more than two-thirds of Congressional seats, the election could facilitate external borrowing and fiscal adjustment. However, Bukele has yet to set out a medium-term fiscal strategy and his administration’s plans for a supplementary 2020 budget would have reduced consolidation commitments even before the pandemic.
Meanwhile, securing external funding via an IMF programme would be contingent on commitments to fiscal adjustment, estimated at 3% of GDP pre-pandemic.
The government has indicated it will set out its fiscal plans this year, but it is unclear how far it will prioritise deficit reduction. Weak economic growth was already weighing on debt dynamics pre-pandemic and, coupled with the impact of Covid-19, creates political pressure for more expansionary policies to reduce poverty and boost employment.
Annual GDP growth averaged around 2.3% in the five years before the pandemic and we forecast growth to drop back to 2.5% in 2022, after a 5% rebound this year. Bukele also said in September he wanted to launch a national debate on potential constitutional reform, although this would require votes by two separate legislatures and the next National Assembly elections are not until 2024 (the same year as the next presidential election).
A qualified Congressional majority would effectively give the presidency a range of powers, including debt issuance, naming judges and appointments to certain high-level government posts. While the election could improve the government’s ability to implement policy decisions, it may weaken institutional checks and balances.
Higher human development and governance indicators than peers support El Salvador’s sovereign rating, as does the history of relative macroeconomic and financial stability anchored by official dollarization.
