Ecuador | IMF debate

Siobhan Morden | September 29, 2023

This document is intended for institutional investors and is not subject to all of the independence and disclosure standards applicable to debt research reports prepared for retail investors.

The winner of October’s presidential election in Ecuador will almost certainly have to turn to the topic of the International Monetary Fund ahead of large debt repayments due from 2024 through 2025. The repayment schedule is not overly onerous, but it also coincides with a pickup in Eurobond payments, El Nino climatic shocks and a structural fiscal deficit of 4% to 5% of GDP.  The prospects of another IMF program under a possible Noboa administration seems like an obvious policy choice but only a solution if there is serious commitment to fiscal discipline.

It is certainly not encouraging that the presidential candidates have avoided the topic of an IMF program, and more importantly, have avoided the most controversial topic of the structural fiscal deficit. The populist campaign rhetoric of higher spending and heterodox financing only complicate and contradict the current budget realities. The next administration may want to put politics first through the short interim mandate from December 2023 through May 2025.  However, there isn’t much breathing room in light of scarce financing sources, a rigid budget and a structural shortfall. It is also hard to rally broad public support for austerity after having campaigned on a populist agenda. The typical political strategy is to act surprised on the budget deficit and then blame the problem on the predecessor. This may provide some interim political goodwill, but it is not clear that the next administration will pivot towards an austerity agenda.

The muddling through approach may initially work but becomes less viable once payments start to accelerate into next year. The IMF is not a likely favorite option, especially with conditions imposed by an IMF program. But making outright bulky payments is less realistic under structural budget and financing constraints. There is probably goodwill on both sides to avoid default on IMF loans and maybe even increase prospects for more multilateral financing.  This latter assumption is not so robust and will depend on the strength and success of the program itself.  However, the initial vote of confidence of an IMF program could bring in other multilateral lenders. The prior IMF program could serve as a template. It imposed heavy requirements for good governance. This would provide some support to the next administration to tackle non-controversial, administrative reforms.

The next administration cannot avoid a medium-term fiscal plan under an IMF program. The fiscal problem was left unresolved even after successful conclusion of the last program. The resurgence in oil prices should provide some flexibility but provides no solution to the medium-term structural deficit. If the environmentally friendly Noboa administration reduced the distortive fuel subsidies, then this would represent a game changer to tackle the structural fiscal deficit. The Yasuni referendum may encourage debate about fuel subsidies. The other alternative is to postpone the shutdown. Noboa was the only presidential candidate to openly endorse the oil field shutdown but there is legal ambiguity on interpreting the referendum results. The forfeited loses of 1% of GDP in fiscal revenues should force some policy response. The motivations for an IMF program may focus more on borrowing and less on fiscal adjustment.  There is still high uncertainty around whether this surprise front-runner candidate has a clear economic plan and whether there is commitment to medium term fiscal discipline.

Another IMF program remains my base case scenario. This may not represent the first policy announcement of a new administration, but the possibility should rise throughout next year. El Nino could also serve as the excuse. A formal program with guidelines and technical assistance should provide some market confidence. However, an IMF program in itself is not a solution (referencing the last “successful” program and still unresolved debt repayment capacity). A weak program would not resolve the fiscal problem while the execution risks would be higher under a stricter program. The positive shock to confidence and higher bond prices require commitment to fiscal discipline and support from the political establishment. For now, I remain skeptical. Bond prices continue to hover at the ceiling of the year-to-date distressed trading band after the recent populist rhetoric and a track record among society and politicians of ignoring structural problems.