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Laos dwindling cash reserves and surging inflation

Fuel shortages across the Southeast Asian country of 7.5 million people is the latest sign of distress, the result of elevated oil prices and a plunging currency. Most worrying is a debt load that dwarfs its cash pile, a challenge for the secretive communist regime that’s had an ironclad grip on power since 1975. 

“It is on the brink of default,” said Anushka Shah, vice president and senior credit officer at Moody’s Investors Service, which downgraded Laos’s credit rating on Tuesday one notch to Caa3, citing weak governance, a very high debt burden and insufficient foreign exchange reserves to cover maturing external debt. 

According to the World Bank, as of December the country had US$1.3 billion of reserves on hand while external debt repayments total roughly that same amount every year until 2025, the equivalent of about half total domestic revenue.

The Ministry of Finance didn’t reply to requests for comment.

The one-two punch of higher US interest rates — which weakens local currencies against the dollar and makes imports more expensive — and surging oil prices, mainly due to Russia’s invasion of Ukraine, has brought a reckoning to developing countries with high debt loads, weak revenue and insufficient cash reserves. 

That confluence of factors pushed Sri Lanka deep into an economic and political crisis earlier this year, leaving it unable to import fuel, food and medicine, defaulting on its debt and scrambling for foreign funds.

The ruling Lao People’s Revolutionary Party, which runs the highly restrictive one-party state, is expected to weather the current challenge. 

While it’s unlikely to yield the kinds of protests that led to the resignation of Sri Lankan Prime Minister Mahinda Rajapaksa, simmering disquiet among the population could have dire consequences for the current leadership, said Harrison Cheng, an associate director at Control Risks.

“What is more likely to happen, if the LPRP were to try and appease the public to buy time until the economic crisis wanes, is to sacrifice some top-level officials, ministers or even Prime Minister Phankham Viphavanh,” he said. “The question is whether the LPRP can beat the clock, given the severe debt crisis and no clear end to rising inflation.”

Mounting debt 

Public debt in Laos last year reached $14.5 billion, with about half of the amount owed to China, according to the World Bank. Part of its obligation includes loans to fund its 30% share of the $5.9 billion China-Laos railway, a project that became operational in December. 

The International Monetary Fund warned “public debt is high, and the risk of debt distress remains elevated” in the 2019 version of its so-called Article IV Consultation, a typically annual exercise the lender undertakes with members. Laos authorities didn’t consent to the release of the 2021 report, which concluded in March. No reason was given. 

With its currency, the kip, down 36% against the dollar over the past year, Laos is facing inflation at the highest since 2004, hitting almost 13% last month. That’s a particularly hard blow for a country where more than one-third of the population is forecast to be below the lower middle-income poverty rate this year. 

“There’s basically a dollar shortage,” said Khoon Goh, Singapore-based head of Asia research at Australia & New Zealand Banking Group. “There’s insufficient ability to get hold of US dollars to pay for all the imports, and that stems from years of running current account deficits.”

The sliding currency has hamstrung importers seeking to purchase enough fuel for the domestic market, causing painful supply gaps and long lines at the pumps. Laos was getting less than half of the 120 million liters of gas needed per month to meet public demand, local media reported in May. 

“Persistent fuel shortages disrupt agriculture, transport services and many other sectors of the economy, and their economic impact could be akin to the effects of the Covid-19 pandemic, when restrictions significantly affected mobility and supply chains,” said Pedro Martins, country economist for Laos at the World Bank.

Even with the economy forecast to grow by 3.8% this year, it’s contingent on a successful debt renegotiation, according to a recent World Bank report. Moody’s had downgraded the country’s credit rating to reflect severe government liquidity stress and low foreign exchange reserve buffers back in 2020. 

“Because of government debt and poor revenue collection, the situation is particularly challenging,” Alex Kremer, Laos country manager at the World Bank, said last month. “The top policy priority is therefore to increase public revenue by reviewing tax exemptions.”

The ‘CCC’ rating from Fitch Ratings Inc reflects a possibility of a default, said Jeremy Zook, Hong Kong-based director of sovereign ratings at the rating agency and lead analyst for Laos. A key factor going forward is the debt to China, he said. 

“Any restructuring, any easing of payments on that front can have pretty significant ramifications for that debt repayment profile,” Zook said. “It’s a bit of an unknown how much leeway they’ll get from China.”

One positive sign was issuing a baht-denominated bond at the end of March, which might signal an option for rolling over maturing Thai debt, Zook said. 

“They haven’t completely lost market access and might still be able to tap into it and refinance if the need arises over the next few years,” said Shah at Moody’s. “But other than that they’re grasping at straws.”

Troubled state-owned electricity operator Electricite du Laos accounted for nearly a third of publicly-guaranteed debt last year, according to the World Bank. Radio Free Asia cited an official in March saying much was owed to the Electricity Generating Authority of Thailand and it didn’t have the money to pay it back. 

EDL-Generation Plc, the private arm of the company, is due to pay about $58 million in maturing debts this year, including a principal of about $31 million on the equivalent of a baht-denominated maturing note on July 30, according to data compiled by Bloomberg. 

The government last week formed a high-level task force to address the mounting threats, according to a report in the Vientiane Times, while the central bank recently tightened monetary policy to help cool inflation.

“It really depends on how they can navigate and manage the situation at this point in time,” said ANZ’s Khoon Goh. “But obviously there are some crunch timelines that are coming up.

Laos, with dwindling cash reserves and surging inflation, is facing some of the same strains that pushed Sri Lanka to default and threatens Pakistan’s balance of payments.

Fuel shortages across the Southeast Asian country of 7.5 million people is the latest sign of distress, the result of elevated oil prices and a plunging currency. Most worrying is a debt load that dwarfs its cash pile, a challenge for the secretive communist regime that’s had an ironclad grip on power since 1975. 

“It is on the brink of default,” said Anushka Shah, vice president and senior credit officer at Moody’s Investors Service, which downgraded Laos’s credit rating on Tuesday one notch to Caa3, citing weak governance, a very high debt burden and insufficient foreign exchange reserves to cover maturing external debt. 

According to the World Bank, as of December the country had US$1.3 billion of reserves on hand while external debt repayments total roughly that same amount every year until 2025, the equivalent of about half total domestic revenue.

The Ministry of Finance didn’t reply to requests for comment.

The one-two punch of higher US interest rates — which weakens local currencies against the dollar and makes imports more expensive — and surging oil prices, mainly due to Russia’s invasion of Ukraine, has brought a reckoning to developing countries with high debt loads, weak revenue and insufficient cash reserves. 

That confluence of factors pushed Sri Lanka deep into an economic and political crisis earlier this year, leaving it unable to import fuel, food and medicine, defaulting on its debt and scrambling for foreign funds.

The ruling Lao People’s Revolutionary Party, which runs the highly restrictive one-party state, is expected to weather the current challenge. 

While it’s unlikely to yield the kinds of protests that led to the resignation of Sri Lankan Prime Minister Mahinda Rajapaksa, simmering disquiet among the population could have dire consequences for the current leadership, said Harrison Cheng, an associate director at Control Risks.

“What is more likely to happen, if the LPRP were to try and appease the public to buy time until the economic crisis wanes, is to sacrifice some top-level officials, ministers or even Prime Minister Phankham Viphavanh,” he said. “The question is whether the LPRP can beat the clock, given the severe debt crisis and no clear end to rising inflation.”

Mounting debt 

Public debt in Laos last year reached $14.5 billion, with about half of the amount owed to China, according to the World Bank. Part of its obligation includes loans to fund its 30% share of the $5.9 billion China-Laos railway, a project that became operational in December. 

The International Monetary Fund warned “public debt is high, and the risk of debt distress remains elevated” in the 2019 version of its so-called Article IV Consultation, a typically annual exercise the lender undertakes with members. Laos authorities didn’t consent to the release of the 2021 report, which concluded in March. No reason was given. 

With its currency, the kip, down 36% against the dollar over the past year, Laos is facing inflation at the highest since 2004, hitting almost 13% last month. That’s a particularly hard blow for a country where more than one-third of the population is forecast to be below the lower middle-income poverty rate this year. 

“There’s basically a dollar shortage,” said Khoon Goh, Singapore-based head of Asia research at Australia & New Zealand Banking Group. “There’s insufficient ability to get hold of US dollars to pay for all the imports, and that stems from years of running current account deficits.”

The sliding currency has hamstrung importers seeking to purchase enough fuel for the domestic market, causing painful supply gaps and long lines at the pumps. Laos was getting less than half of the 120 million liters of gas needed per month to meet public demand, local media reported in May. 

“Persistent fuel shortages disrupt agriculture, transport services and many other sectors of the economy, and their economic impact could be akin to the effects of the Covid-19 pandemic, when restrictions significantly affected mobility and supply chains,” said Pedro Martins, country economist for Laos at the World Bank.

Even with the economy forecast to grow by 3.8% this year, it’s contingent on a successful debt renegotiation, according to a recent World Bank report. Moody’s had downgraded the country’s credit rating to reflect severe government liquidity stress and low foreign exchange reserve buffers back in 2020. 

“Because of government debt and poor revenue collection, the situation is particularly challenging,” Alex Kremer, Laos country manager at the World Bank, said last month. “The top policy priority is therefore to increase public revenue by reviewing tax exemptions.”

The ‘CCC’ rating from Fitch Ratings Inc reflects a possibility of a default, said Jeremy Zook, Hong Kong-based director of sovereign ratings at the rating agency and lead analyst for Laos. A key factor going forward is the debt to China, he said. 

“Any restructuring, any easing of payments on that front can have pretty significant ramifications for that debt repayment profile,” Zook said. “It’s a bit of an unknown how much leeway they’ll get from China.”

One positive sign was issuing a baht-denominated bond at the end of March, which might signal an option for rolling over maturing Thai debt, Zook said. 

“They haven’t completely lost market access and might still be able to tap into it and refinance if the need arises over the next few years,” said Shah at Moody’s. “But other than that they’re grasping at straws.”

Troubled state-owned electricity operator Electricite du Laos accounted for nearly a third of publicly-guaranteed debt last year, according to the World Bank. Radio Free Asia cited an official in March saying much was owed to the Electricity Generating Authority of Thailand and it didn’t have the money to pay it back. 

EDL-Generation Plc, the private arm of the company, is due to pay about $58 million in maturing debts this year, including a principal of about $31 million on the equivalent of a baht-denominated maturing note on July 30, according to data compiled by Bloomberg. 

The government last week formed a high-level task force to address the mounting threats, according to a report in the Vientiane Times, while the central bank recently tightened monetary policy to help cool inflation.

“It really depends on how they can navigate and manage the situation at this point in time,” said ANZ’s Khoon Goh. “But obviously there are some crunch timelines that are coming up.

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