The Big Idea
El Salvador | IMF deal risk
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The recent price gains on El Salvador sovereigns maybe adjusts to the reality that an IMF program is the base case. There is no country, in my recent memory, where an IMF staff agreement didn’t convert into an IMF board-approved program. The gains bring El Salvador back at parity to illiquid ‘B’ peers. There may be some additional gains on IMF board approval, but then the analysis shifting from deal risk to IMF program execution risk. El Salvador has turned in disappointing performance to start the year but still remains one of my favorites for the potential carry returns and still high relative yield.
The Bitcoin headlines around El Salvador ay distract from political and economic realities with usage still low among the broader population. The Bitcoin marketing pitch is still relevant for the tourism campaign, and also aligns with the strong US and El Salvador diplomatic relations with the underlying ideology of the Trump and Bukele administrations. This headline Bitcoin optimism doesn’t have to contradict the IMF policy recommendations, with the Bukele administration managing the narrative on introducing select Bitcoin restrictions. The IMF post mission statement recommended some restrictions for Bitcoin usage among the public sector and the flexibility for voluntary usage of Bitcoin among the private sector. These recommendations are considered prior actions on mitigating Bitcoin-related risks prior to the IMF board approval. The underperformance of Eurobonds this past month has been coincident to the higher Bitcoin exposure from the Bukele administration (nayibtracker.com) and no clarity on the Bitcoin regulatory revisions. This may not pose a contradiction with flexibility to adjust Bitcoin restrictions within the proposed timeframe. “The IMF Board is expected to consider this program for approval by early-February once the agreed prior actions have been implemented.”
There is no logic for back-tracking on the IMF staff-level agreement. The IMF program was the positive shock that allowed for credit rating upgrades and much tighter credit spreads. El Salvador also gained broader international prestige and reputation on credible policy management. The strong US and El Salvador diplomatic relations should probably enhance the multilateral relations as opposed to replace them.
Are there other benefits from the strong US diplomatic relations? El Salvador is certainly a priority on Latin American relations with a special invitation to the Trump inauguration, the first state visit from Secretary Rubio next week and a 1:1 interaction between Trump and Bukele. Perhaps the strong diplomatic relations convert into stronger trade or investment flows and stronger economic growth. It’s not clear whether there is flexibility from the IMF board, with the game plan still involving Bitcoin restrictions on certain activities on tax payments, certain public sector operations and voluntary acceptance of Bitcoin from the private sector. The next few weeks should clarify IMF relations with good prospects for board approval next month.
The next phase should focus on the execution risks for an IMF program. The Bukele administration already pre-empted the fiscal adjustment within the 2025 budget from reducing an estimated deficit of 4.8% of GDP in 2024 to 3% of GDP in 2025. It will then shift to monthly data watch on execution of the spending restraint. The fiscal adjustment trajectory from the IMF looks reasonable with 1.5%-of-GDP adjustment in the first year and then the remaining 2%-of-GDP adjustment over the following two years. The headline fiscal data through November show a deterioration against 2023; however, the trend shift looks favorable on both the central government and the pension accounts. The tax collection remains robust at 8% year-over-year pace through November 2024 despite the economic deceleration. If we exclude the one-off severance payments, there has been a sharp deceleration in spending (mostly wages) as well as a slowdown in capex. There has also been a pronounced slowdown in the pension debt accumulation, suggesting a slower pace of deficit financing from the pension accounts. This track record provides credibility on complying with lower spending across wages, transfers and goods and services within the 2025 budget.
If we assume commitment for an IMF program, then execution risks should be low under the centralized decision-making process of the Bukele administration. This should remain the anchor for credit risk and the high yield carry trade this year.
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