Journal Issue

Jordan: Selected Issues and Statistical Appendix

International Monetary Fund
Published Date:
May 2004
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VII. Crisis-Proofing and Sovereign Creditworthiness65

A. Introduction

209. Jordan’s progress in macroeconomic performance and debt reduction has been mirrored in its credit ratings. As a result of sustained fiscal consolidation and prudent external debt management, the net debt burden of the central government fell from 198 percent of GDP in 1990 to 101 percent in 2002. 66 In late 1995, two years after Jordan had restructured some $750 million of sovereign crossborder bank loans, Standard & Poor’s (S&P) assigned to Jordan an initial long-term foreign currency sovereign credit rating of ‘B+’ and Moody’s Investors Service (Moody’s) assigned an initial foreign currency ceiling for bonds and notes of ‘Ba3’, with both ratings anchored within the “speculative grade” (Table VII.1). In mid-2003, as Jordan was repurchasing its Brady bonds and prepaying selected, high-cost bilateral loans, the same agencies upgraded those ratings to ‘BB’ and ‘Ba2’, respectively, with both ratings climbing to within two notches of the “investment grade.”

Table VII.1Ratings Scales
Investment Grade
Speculative Grade
-- = Not applicable.
-- = Not applicable.

210. As Jordan graduates from Fund-supported programs, attention will turn to an eventual diversification of sources of financing. Although Jordan’s reliance on official financing—and bilateral grants in particular—will persist well beyond the completion of the current Fund program in mid-2004, such flows may be expected to diminish over time. As the transition takes place, Jordan will need to develop an assured capacity to access international capital markets, and private bondholders in particular, regardless of whether or not it chooses to exercise that capacity. In the absence of the signaling role of Fund-supported programs, crossborder investors will require other means of assessing the appropriateness of Jordan’s policy responses to new challenges. In such an “emerging market” environment, risk benchmarks such as sovereign credit ratings and yield spreads on foreign currency-denominated, traded debt will increase in importance.

211. This chapter surveys Jordan’s progress and prospects from a sovereign creditworthiness perspective based on methodologies used by the rating agencies. It begins by providing an overview of the sovereign ratings methodologies of the major international rating agencies (Section B). It then proceeds to apply elements of those methodologies to Jordan, first by reviewing progress to date compared with other, similarly-rated countries (Section C), then by discussing issues related to private sector balance sheets (Section D), and finally by attempting to outline a roadmap to the achievement of investment grade status within a few years (Section E). The chapter concludes that Jordan’s macroeconomic framework and debt management strategy are consistent with further ratings upgrades and a steady progression toward market financing (Section F).

B. Sovereign Ratings Methodology

212. The sovereign ratings methodologies of the major international credit rating agencies focus on political stability, fiscal solvency, and international liquidity. 67 One key difference between the approaches to sovereign and sub-sovereign ratings formulation is the former’s focus not merely on the obligor’s ability to honor debt to private creditors in full and on time, but also on its willingness to do so. In this, the agencies are guided by assessments of political conditions as well as economic factors. In their assessments of economic factors, the agencies analyze fiscal solvency, or the medium-term financial sustainability of government operations, taking into account financial fragility in the nongovernment sector and the likelihood and size of potential bank crises; and international liquidity, or the capacity of the central bank to cope with panic-induced abrupt increases in dollarization and runs on the external capital account, should they occur.

213. The ratings exercise is, at its core, a debt sustainability analysis (DSA). Projections for government revenues and primary expenditures come together to form the primary balance, to which are added projections for interest payments. The resulting overall fiscal balance represents the net financing requirement, to which is added amortization falling due, yielding the gross financing requirement. Sources of financing are then projected line-by-line, as applicable: divestment proceeds; domestic bank and nonbank borrowing; rollovers of short-term external debt; disbursements of multilateral, bilateral, and crossborder bank loans; and international bond issues. To the extent that a financing gap emerges, it is compared with official international reserves levels and debt-service commitments to the various classes of creditors, before conclusions are drawn on the likelihood, sequencing, and scope of default.

214. Rating agency DSAs emphasize stress testing under “reasonable worst-case” scenarios. In so doing, they recognize that both financing flows to the sovereign and gross financing requirements of the sovereign can encounter discontinuities in situations of acute stress. In terms of sources of financing, rollover rates on short-term debt may drop, put options in medium-or long-term debt may be exercised, and the sovereign may find itself cut off from private-creditor financing in the international primary markets. In terms of financing requirements, defaults by subsovereign issuers may trigger the calling of sovereign guarantees, and financial system distress may necessitate government support for bank recapitalization. In addition to the collection of detailed information on debt structure, the ratings exercise places considerable weight on financial system issues.

215. In the case of at least one major rating agency, S&P, the ratings exercise is guided by a checklist of economic variables. 68 These variables are used, principally, to make cross-country comparisons, and may be divided into two broad categories: “intermediate variables” that measure the performance of the economy as a whole, and therefore its capacity to support government finances; and “operational variables” that measure the financial health of the government from flow and balance sheet perspectives, with emphasis on the estimation of contingent liabilities that could crystallize on to the sovereign balance sheet during a crisis. Estimates for contingent liabilities, in turn, include sub-estimates for the indebtedness of public enterprises to nonbank and external creditors, and for the potential upfront fiscal cost of banking sector distress in reasonable worst-case scenarios, based on an analytical process similar to that used in the Financial Sector Assessment Program (FSAP).

216. S&P’s checklist includes six intermediate variables and five operational variables. The intermediate variables are: nominal GDP per capita (in dollars); the rate of growth of real GDP per capita (in local currency); the inflation rate; the gross external financing requirement (current account deficit plus amortization due plus rollover of short-term liabilities) as a proportion of official gross usable international reserves; financial system net external debt as a proportion of current account receipts; and nonfinancial private sector net external debt as a proportion of current account receipts. The operational variables are: the general government fiscal balance as a proportion of GDP; general government net debt (including guarantees) as a proportion of GDP; general government gross interest payments as a proportion of general government revenue; estimated off-budget and contingent liabilities as a proportion of GDP; and public sector net external debt as a proportion of current account receipts. 69

C. Jordan’s Ratings Scoresheet

217. A ratings-oriented assessment of Jordan could usefully take S&P’s checklist as a starting point. At ‘BB’, S&P’s long-term foreign currency sovereign credit rating on Jordan lies at the median of the coarse ‘BB’ ratings category (consisting of the fine ratings of ‘BB-’, ‘BB’, and ‘BB+’) and two notches below ‘BBB-’, the lowest rung of the investment grade. Beers, Cavanaugh, and Ogawa (2002) graphically present the (simple) averages for 2002 of seven of the 11 variables in S&P’s checklist, aggregated by ratings category, based on ratings as of end-March 2002 and S&P’s own macroeconomic projections for the year as a whole. Although a static exercise by nature, a variable-by-variable comparison between Jordan and the group averages for countries in the ‘BB’ and ‘BBB’ categories provides a preliminary sense of the extent to which Jordan over-or underperforms its ratings peers, as well as some indication of the sectors in which it leads or lags (Figure VII.1).

Figure VII.1.Jordan: Key Ratings Variables, 2002

Sources: Beers, Cavanaugh, and Ogawa (2002); Jordanian authorities; and Fund staff estimates.

218. A broadly favorable picture emerges from the data comparisons. Jordan outperforms the ‘BB’ category averages in five out of the seven variables studied, and in two, inflation and public sector net external debt, outperforms the ‘BBB’ investment grade category average as well. We develop a simple measure of the extent of Jordan’s over-or under-performance for each variable, using the two-step process described below.

Step 1. We assume that the seven variables, pn, progress linearly from their average values in the ‘BB’ category, pn,BB, to their average values in the ‘BBB’ category, pn,BBB At the same time, we normalize the ratings, r, such that rBB = 0, rBBB = 1, and r = 0.5 represents the cutoff point between the speculative grade and the investment grade. Then, for each variable:

Step 2. We assume that the overall “effective rating” for Jordan, RJordan, can be derived as a simple, unweighted average of the individual “effective ratings” for Jordan, rn,Jordan, implied by performance relative to each of the seven variables. Then:

Solving Equation 3, we confirm that Jordan overperforms significantly, relative to the ‘BB’ averages, in the inflation, public sector net external debt, growth, international liquidity, and general government net debt categories, and underperforms marginally in only two categories, those for the income level and the general government deficit (Table VII.2). Solving Equation 5, we obtain RJordan = 0.64, which would suggest that, overall, S&P’s long-term foreign currency sovereign rating on Jordan should be situated at around the two-thirds mark between the ‘BB’ and ‘BBB’ ratings categories. On S&P’s fine ratings scale, this is consistent with an upgrade from ‘BB’ to ‘BBB-’, the lowest rung of the investment grade.

Table VII.2.Jordan: Effective Ratings by Sector, 2002

number (n)


rating (r)
1Nominal GDP Per Capita-0.12
2Real GDP Per Capita0.81
3General government deficit-0.07
4General government net debt0.48
5Consumer Price Index1.65
6Gross External Financing Requirement0.62
7Public Sector Net External Debt1.07
Overall effective rating (R)0.64
Source: Fund staff estimates.
Source: Fund staff estimates.

219. The comparative exercise, although instructive, has limitations. First, as a snapshot in time (in this case for 2002), it fails to account for the volatility of or trend changes in the variables under consideration. Second, by assuming that the seven variables enjoy equal weight as determinants of the sovereign rating, it fails to account for endogeneity amongst the variables and oversimplifies the manner in which the major rating agencies arrive at their ratings decisions. Third, by surveying only seven of the 11 variables on S&P’s checklist (because of data constraints), it fails to account for private sector financial fragility and the potential ramifications for government finances. Despite these shortcomings, some conclusions can be drawn.

  • Real sector: Jordan compares unfavorably in terms of income levels, but scores well for growth. At $1,761 in 2002, nominal GDP per capita remained marginally below the average for countries with S&P long-term foreign currency sovereign ratings in the ‘BB’ category, and at less than half of the average for the ‘BBB’ category. At 2.2 percent in 2002, real GDP growth per capita exceeded by some 0.7 percentage points the average for countries in the ‘BB’ category, and almost equaled the average for the ‘BBB’ category. The strong growth performance reflects, in large measure, robust export performance after more than a decade of sustained structural reforms.
  • Fiscal sector: Jordan’s fiscal deficit continues to be large, but the government balance sheet is sound (Box VII.1 and Table VII.3). At 3.8 percent of GDP in 2002, the general government deficit marginally exceeded the ‘BB’ category average, and exceeded by some 1.6 percentage points the ‘BBB’ category average. At 42 percent of GDP in 2002, the general government net debt burden including Central Bank of Jordan (CBJ) reserves and certificates of deposit (CDs) was some 6 percentage points below the ‘BB’ average, and exceeded by some 7 percentage points the ‘BBB’ average. Although the debt burden stands at a fraction of its level in the early 1990s, the comparative analysis points to a continued central role for fiscal adjustment in sustaining Jordan’s ascent toward the investment grade.

Box VII.1.Jordan: Public Sector Balance Sheet

The rating agencies focus on government finances at a consolidated level. S&P bases its fiscal assessments on general government data and, for external leverage, on public sector data. Its definition of general government differs from that used by the Fund in that it includes social security-related assets as well as elements of the central bank profit-and-loss statement and balance sheet. In the case of Jordan, the Social Security Corporation (SSC) is in a large net domestic asset position (and will continue to generate annual cash surpluses over the longer term), while the CBJ is in a large net foreign asset position. The consolidation of both entities into the general government balance sheet significantly reduces net domestic and external indebtedness, respectively.

Table VII.3.Jordan: Public Sector Net Debt, S&P Definition, 1996–2003(As a percentage of GDP at market prices)
I.Central government 1/109.7101.3110.3111.3100.596.8100.5101.1
External (incl. IMF) 2/103.396.295.195.584.278.780.476.8
External (excl. IMF)-44.9-49.2-40.5-47.3-52.5-46.5-53.6-63.4
Domestic 3/12.620.517.316.823.719.524.731.0
III.Central government and CBJ (= I + II)70.365.778.572.165.863.967.461.7
IV.Municipalities and local governments-0.4-0.3-0.2-0.2-0.2-0.1-0.2-0.3
VI.General government (= III + IV + V)51.945.558.049.642.038.941.635.1
VII.Nonfinancial public sector enterprises7.
VIII.Public sector (= VI + VII)
Memorandum items:
Central government balance (percent of GDP)-2.8-2.5-6.0-3.5-4.7-3.7-5.0-1.0
General government balance (percent of GDP)-3.0-0.7-5.1-1.1-2.4-1.3-3.71.4
Public sector net external debt (percent of current account receipts)75.164.482.171.345.648.037.617.5
Sources: Jordanian authorities; and Fund staff estimates.

Consolidated central bovernment (i.e., budgetary central government plus own-budget agencies), including all explicit guarantees (most of which are on nonfinancial public sector enterprise external debt).

Net of market value of Brady bond collateral.

CDs only.

Sources: Jordanian authorities; and Fund staff estimates.

Consolidated central bovernment (i.e., budgetary central government plus own-budget agencies), including all explicit guarantees (most of which are on nonfinancial public sector enterprise external debt).

Net of market value of Brady bond collateral.

CDs only.

  • Prices, the exchange rate, and international liquidity: Jordan’s fixed-peg exchange rate regime has fostered long-term price stability, and is now backed by abundant official reserve holdings. At 1.8 percent in 2002, the consumer price inflation rate was about one-third of the ‘BB’ average, and about one-half of the ‘BBB’ average. At 112 percent of gross usable international reserves in 2002, the gross external financing requirement was some 48 percentage points lower than the ‘BB’ average, and some 30 percentage points higher than the ‘BBB’ average. The strong liquidity position reflects not only official grant inflows, which have been large, but also robust export performance and adequate external competitiveness.
  • External sector: The foreign currency-denominated portion of Jordan’s public debt is no longer a constraint on its rating. At 38 percent of current account receipts in 2002, the consolidated public sector net external debt burden including CBJ reserves was some 64 percentage points below the ‘BB’ average, and marginally below the ‘BBB’ average. Again, the improved external debt position reflects not merely successful debt reduction efforts and reserves accumulation, but also robust export growth.

220. The Fund’s most recent DSA for Jordan corroborates the generally positive view on Jordan’s creditworthiness. Jordan’s macroeconomic framework for 2004–08, which provides a basis for policy planning, projects a secular reduction in fiscal deficits and public debt after allowing for a substantial decline in official grant inflows. The DSA, which focuses on central government finances (excluding the CBJ), finds the declining debt trajectory to be resilient to several plausible macroeconomic shocks, with the notable exception of a permanent exchange rate shock. Given the still-large foreign currency component in the (gross) public debt, the DSA suggests that a devaluation of the Jordanian dinar (JD) by 30 percent would increase central government debt by some 24 percent of GDP (although this would be largely offset by valuation gains on CBJ reserves). The DSA does not attempt to quantify the effects of exchange rate or interest rate shocks on corporate and bank balance sheets, although such effects, if on systemic proportions, can trigger government-led bailouts and “second round” increases in public debt.

221. The DSA approach factors in key interrelationships between macroeconomic variables. Nominal growth projections are fed into revenue elasticity assumptions to yield projections for revenue collections. Interest rate and exchange rate assumptions are fed into the floating rate and foreign currency-denominated components of the debt stock, respectively, to yield projections for interest payments which, in turn, affect gross borrowing requirements. Following standard practice, the calculations are performed on an accruals basis, before taking into account special factors such as debt reschedulings and debt-equity swaps, both of which are provided for under Jordan’s July 2002 Paris Club agreement, with a consolidation period to end-2007. 70 Given the prevalence of below-the-line debt operations, standard debt sustainability indicators such as the debt service ratio, the interest-to-revenue ratio, and the effective interest rate yield lower values for Jordan if computed on a cash basis.

D. Private Sector Balance Sheets

222. Neither the cross-country comparison above nor the DSA takes into account private sector finances. With the analysis thus far pointing to an investment grade rating for Jordan, the fact that the sovereign ratings from S&P and Moody’s remain in the speculative grade may be attributed to other factors. One such factor may be a qualitative assessment of political stability, which is discussed later in this chapter. Other possible factors include private sector external leverage and some measure of contingent liabilities. The former is not a concern. Jordan’s banking sector is in a large net external creditor position, equivalent to 22 percent of GDP at end-2002, with foreign assets entirely in the form of liquid interbank deposits. Jordan’s nonfinancial private sector does not report complete external balance sheet information, but is almost certainly also in a large net foreign asset position. 71 By a process of elimination, therefore, it becomes likely that the last factor, the rating agencies’ internal estimates for contingent liabilities, may be a constraint on Jordan’s credit standing.

223. Jordan’s nonfinancial private sector is large but moderately leveraged. Reflecting regulatory constraints on direct external borrowing by nonfinancial firms and the embryonic state of the domestic nongovernment bond market, corporate sector investment (and working capital) is funded almost entirely from bank credit and retained earnings. Domestic nongovernment bank credit stood at the equivalent of 77 percent of GDP at end-2002, the fourth highest among the 27 countries with S&P sovereign ratings in the ‘BB’ or ‘BBB’ categories as of end-2003. At the same time, however, the average ratio of bank loans, corporate bonds, and trade credit to equity (known as “Leverage 2”) of all listed nonfinancial firms in Jordan stood at only 0.43, compared with 0.61 for Mexico, 0.88 for the Philippines, and 1.53 for Thailand (the ratio for Poland, at 0.39, was lower). 72 The fact that firms’ leverage ratios are low despite the relatively large pool of intermediated funds points to an abundant (if concentrated) stock of private sector wealth. Market capitalization on the Amman Stock Exchange stood at almost 117 percent of GDP at end-2003.

224. Despite the risk-mitigating properties of equity finance, corporate sector balance sheets show some signs of fragility. Although the reliance on internally generated funds provides nonfinancial firms with some insulation from potential stresses in the banking sector, the opposite does not hold, in that several banks may be vulnerable to corporate sector fragility through their credit risk exposures. Banking sector data point to fairly high gross and net NPL ratios, and data for listed nonfinancial companies point to a significant number of firms with low ratios of earnings before interest, dividends, tax, and amortization (EBIDTA) to interest (referred to as the “interest coverage ratio”). 73 Regulatory barriers to foreign currency-denominated domestic bank lending to the corporate sector, and the sector’s large aggregate net foreign asset position, protect most Jordanian firms from exchange rate risk. With the bulk of bank loans to the corporate sector carrying maturities of less than two years and floating interest rates, however, short repricing cycles leave many Jordanian firms unhedged against interest rate risk.

225. Corporate sector fragility is typically transmitted to the public sector balance sheet via the banking sector. If a combination of weak lending practices and macroeconomic shocks results in the undercapitalization of one or more commercial banks that also play a key role in payment and settlement systems, for instance, then a government may be forced to intervene, including with liquidity support and recapitalization funds, in order to preserve systemic stability (Box VII.2). With assets equivalent to about 220 percent of GDP at end-2002, Jordan’s banking sector is large compared with those of countries with similar sovereign ratings, and some two-thirds of system assets are held by the five largest banks. The large size and high degree of concentration imply that systemic problems, should they occur, could have significant fiscal implications, underscoring the need for supervisory vigilance and prompt corrective action when problems surface.

226. Although Jordan’s banking sector is well capitalized and liquid in the aggregate, there are pockets of weakness. Recent assessments of Jordan’s observance of various financial standards and codes conducted as part of the FSAP found prudential and supervisory standards to be generally in line with international best practice. With only about 15 percent of foreign currency deposits financing foreign currency lending, with only about 45 percent of JD deposits financing JD lending (most of it at floating rates), and with most banks adequately capitalized to manage their equity holdings (amounting to 35 percent of capital on average), market risk remains less of a concern than credit risk. The average ratio of regulatory capital to risk-weighted assets stood at 19 percent at end-2002, well above the CBJ-mandated minimum of 12 percent, and average pretax returns on assets and equity stood at 0.6 percent and 8.9 percent, respectively. The sector averages masked significant variation among banks, however, including pockets of insolvency.

Box VII.2.Ratings-Related Financial System Assessments

The rating agencies spend considerable time and effort investigating potential financial system weakness or instability. Although their approach relies heavily on the specialist knowledge of their financial institutions ratings practices (who, in turn, liaise with the corporate ratings groups), sovereign ratings analysts work independently to corroborate such analysis.

Step 1: Understanding system structure and credit culture

The starting point for the analysis is a survey of the structure of the domestic financial system: overall size of the deposit base and of nongovernment credit in relation to GDP; market shares for the commercial bank, nonbank finance company, money changer, development finance, insurance, pension fund, unit trust, and brokerage segments; the number of banks; the extent of government and foreign shareholding and management control; and ownership linkages between private sector banks and corporations. The extent of directed credit and interest subsidy requirements is noted, as is the presence and nature of any deposit insurance scheme or blanket guarantee. A qualitative assessment of banks’ treasury and risk-management practices is made, focusing on the prevalence of collateral-vs. cash flow-based lending and reliance on relationship banking.

Step 2: Assessing regulation and supervision

Domestic prudential norms are compared with global best practice in four principal areas: minimum capital adequacy; loan classification and provisioning; caps on single-and related-party exposures; and ceilings on net open foreign exchange positions. For each area, the frequency of reporting and enforcement is noted, and actual data are compared with requirements. To the extent that they may differ from those for the commercial banks, regulations governing nonbank financial institutions are also surveyed. The staff strength of the relevant supervisory agencies is considered, as is the frequency of on-and off-site inspections and their coverage of accounts by value. Finally, foreclosure rules, bankruptcy legislation, and court processes are discussed with selected institutions, to determine the severity of impediments to collateral recovery.

Step 3: Measuring current asset quality and surveying risk exposure

Regardless of domestic norms, all nonperforming loans (NPLs) are measured on a 90-days-past-due basis, including interest in suspense. In countries with more lenient NPL-recognition standards, 90-days-past-due NPL data at the system level are estimated from NPL data gathered from a representative sample of rated or unrated financial institutions. Similarly, data on general and specific provisioning levels (excluding collateral) are collected from the relevant supervisory authorities and cross-checked against data from selected financial entities. Evidence of large single-or related-party exposures is collected, the extent of banks’ real estate and stock market financing is ascertained, signs of “evergreening” activity are investigated, and the sensitivity of borrowers’ repayment capacity to interest rate and exchange rate shocks is discussed. Rapid real credit growth is generally viewed as an indicator of declining credit quality.

Step 4: Taking a view on potential recapitalization costs

A peak “gross problematic assets” (GPA) ratio is derived by adding to current gross NPLs a conservative assumption on incremental problem loans in a “reasonable worst-case scenario”. In such a scenario, it is assumed that the actual gross NPL ratio converges rapidly to the GPA peak while provisions fail to keep pace, resulting in a widening of net NPLs and then a drop in capital adequacy. That, in turn, necessitates capital injections, from shareholders in the first instance, but then from the government in its role as final guardian of the domestic deposit base. Determining the share of the recapitalization burden that will devolve upon the government is a difficult judgment involving, inter alia, assumptions on the access of foreign-owned banks to the capital bases of their parent institutions.

Source: Bhatia (2002).

227. Jordan has suffered periodic banking frauds followed by publicly funded recapitalizations, but workout procedures remain ad hoc. When Petra Bank was closed in 1989 because of fraud, its balance sheet was consolidated into that of the CBJ. When Jordan Gulf Bank encountered problems in 1993, the CBJ provided a 30-year, interest free loan (in an amount equivalent to about 1 percent of GDP) without requiring a transfer of ownership. When three banks together accounting for some 15 percent of system assets were hit by the “Shamayleh fraud” in early 2002, the government announced that depositors would be protected in their entirety and the CBJ imposed bilateral restructuring plans on a case-by-case basis. One of the affected banks, Jordan Gulf Bank, was brought under temporary CBJ administration in early 2003 and was granted a loan write-off, additional interest free liquidity support, and a capital injection from the old and new shareholders before being returned to its shareholders in January 2004. Separately, a second small deposit taker, Philadelphia Investment Bank, was brought under temporary CBJ administration in late 2002 following lending violations by board members. Criminal proceedings are ongoing.

228. The rating agencies take an unfavorable view of bank restructuring exercises that perpetuate moral hazard. By not requiring transfer of ownership control, the recurring quasi-fiscal bank recapitalizations in Jordan may have given rise to market perceptions of a blanket solvency guarantee on the system. In the run up to each of the recent bank failures, such perceptions may have encouraged weak collateralization and excessive risk-taking, thus helping to bring on the problems. In the wake of each of the recent failures, those perceptions may also have reduced the willingness of shareholders to provide new capital, thus increasing the restructuring bill of the government, the CBJ, and other public entities periodically involved in the recapitalizations. From a rating agency perspective, solvency guarantees can support the credit standing of individual banks but, in so doing, tend to dilute the creditworthiness of the sovereign.

229. S&P maintains global league tables of banking sector asset quality, which form a key input into its sovereign ratings decisions. 74 In a process broadly similar to that followed by the FSAP, the agency (which rates thousands of banks worldwide) stress tests selected banking sectors under sets of country-specific “reasonable worst-case” assumptions. Typically, the tests seek to gauge the direct effects on bank balance sheets of exchange rate, interest rate, and equity price shocks, to which are added standalone increases in NPLs intended to approximate growth shocks in which slumping sales reduce EBIDTA, and some (fairly arbitrary) quantum of deposit flight. Incremental NPLs under such combined shocks are added to initial NPLs to create a crude estimate of impaired assets in a severe but plausible crisis scenario. GPA “buckets” for countries with S&P sovereign ratings in the ‘BB’ or ‘BBB’ categories range from 10–20 percent of domestic nongovernment bank credit for the best performer to 35–70 percent for the worst (Box VII.3 and Table VII.4). Jordan’s banking sector has not been assigned to a GPA bucket.

Box VII.3.Banking Sector Size and Asset Quality Comparisons

S&P classifies 68 major national banking sectors into five “GPA buckets”, with potentially impaired assets ranging from 5–15 percent of domestic nongovernment bank credit for the healthiest banking sectors to 35–70 percent for the weakest. The GPA classifications incorporate S&P’s judgment on the potential magnitude of asset quality deterioration in a reasonable worst-case scenario. S&P’s (upper-bound) estimates for total recapitalization requirements in a banking crisis are derived from its GPA buckets and the size of each banking sector, among other factors. Jordan’s banking sector has not been assigned a GPA bucket, but is the fourth largest (in terms of nongovernment credit as a proportion of GDP) in the ‘BB’ and ‘BBB’ categories.

Table VII.4.S&P Banking Sector Asset Quality Classification, 2001(In percent)

credit/GDP 1/
GPA/Nongovt credit 2/GPA/GDP
‘BBB’ category
Slovak Republic40.535.070.052.514.228.421.3
South Africa74.510.
‘BB’ category
Sources: S&P; and Fund staff estimates.

At end-2002.

As of October 2001.

S&P has not disseminated a GPA bucket for Jordan; GPA ratios are therefore indicative only.

Sources: S&P; and Fund staff estimates.

At end-2002.

As of October 2001.

S&P has not disseminated a GPA bucket for Jordan; GPA ratios are therefore indicative only.

230. In the case of Jordan, a hypothetical combined shock scenario might simulate a disorderly exit from the exchange rate peg. Under such a scenario, some domestic or regional event would trigger abrupt dollarization, deposit flight from the weakest banks, and a devaluation of the JD by, say, 30 percent. The CBJ would mount an interest rate-based effort to stabilize the currency, increasing domestic interest rates by, say, 500 basis points and maintaining them at the new level for a period of, say, three months. It would also provide liquidity support to the weakest banks, sterilized through CD issuance to the strongest banks. As a second-round effect, the interest rate shock would trigger corporate defaults, further weakening the asset quality of the weakest banks and, based on recent experience, culminating in a roughly 50:50 split of recapitalization requirements between bank shareholders and the government (Figure VII.2). Although not attempted here, such a stress test might conceivably show the average gross NPL ratio rising to, say, 25–30 percent, with banks accounting for some one-third of system assets becoming undercapitalized. Conservatism of such order would not favor Jordan in a DSA framework, given the large size of its financial system.

Figure VII.2.Jordan: General Government Net Debt, S&P Definition, 2003

(As a percentage of GDP)

Sources: Jordanian authorities; and Fund staff estimates.

231. From a rating agency viewpoint, financial fragility in Jordan’s private sector may constrain sovereign credit standing. The extent to which it does will depend on the agencies’ own estimates of the magnitude of contingent liabilities and how they compare with those of similarly rated sovereigns. Analysis in this regard is hampered by the fact that S&P has not publicly assigned Jordan’s banking sector to one of its five GPA buckets. Given the recent spate of bank frauds and ad hoc workouts, however, it may plausibly be argued that a worst-case scenario could push the impaired assets ratio into at least the 15–30 percent range, and possibly into the 25–40 percent range. In the latter case, total (prospectively) impaired assets would amount to 20–30 percent of GDP, which is higher than the average ranges for both the ‘BB’ and ‘BBB’ ratings categories. Notwithstanding the imprecision of such an analysis, it is indisputable that determined implementation of measures to reduce private sector financial fragility would hasten Jordan’s ascent toward the investment grade.

E. A Roadmap to the Investment Grade

232. Jordan’s geopolitical position creates special challenges. Locked between the Israeli–Palestinian conflict to the East and the Iraq conflict to the West, Jordan has had to exercise considerable skill in maintaining friendly ties with all of the major regional actors. In so doing, however, it has carved out for itself an important diplomatic role and secured a large—and dependable—stream of financial assistance that ranges from bilateral grants (from the United States and others) and subsidized oil (formerly from Iraq and now from Saudi Arabia, Kuwait, and others) to concessional loans (from a variety of official donors) and Paris Club debt relief. Despite the many tangible benefits of the aid pipeline, however, it is possible that Jordan may have incurred a perceptional cost, with some investors associating the donor support, and the debt relief in particular, with economic and institutional weakness. 75 To compensate for the aid dependence and geopolitical risk, Jordan may well need to overperform its ratings peers in terms of key economic risk factors in order to progress to the investment grade.

233. Given Jordan’s strong track record of policy implementation, the authorities’ medium-term macroeconomic framework provides a reasonably good indication of future economic performance. One key policy objective, enshrined in legislation, is continued fiscal consolidation and public debt reduction. Under the Public Debt Management Law of 2001, gross government and government-guaranteed debt may not exceed the equivalent of 80 percent of GDP by end-2006, of which no more than 60 percent of GDP may be owed to external creditors. 76 The authorities, in consultation with the Fund, maintain indicative annual targets for the central government fiscal balance that, at a minimum, are consistent with the achievement of the 2006 debt ceiling. Using an iterative process in which fiscal performance affects the real and external sectors and vice-versa, the macroeconomic framework includes projections for real GDP, inflation, and the external current and capital account balances. The most recent update of the framework covers the period 2004–09.

234. A dynamic assessment of Jordan’s prospects for entry into the investment grade could, once more, begin with S&P’s checklist of economic variables. With the averages of seven of the 11 variables in S&P’s checklist publicly available, and with the projected values for Jordan of the same seven variables available from the macroeconomic framework, a dynamic comparison between Jordan and the ‘BBB’ averages provides a good sense of how Jordan’s credit standing may evolve over time, as well as some indication of the sectors in which it might lead or lag by the widest margins (Figure VII.3).

Figure VII.3.Jordan: Key Ratings Variables, 2002–08

Sources: Beers, Cavanaugh, and Ogawa (2002); Jordanian authorities; and Fund staff estimates and projections.

235. As with the earlier, static comparisons, a broadly favorable picture emerges. In 2004, Jordan is projected to outperform the ‘BBB’ averages in four out of the seven variables studied. From 2005 onward, the number of outperforming variables increases to five, on a consistent basis. One shortcoming of the comparative exercise is that the available ‘BBB’ averages are a snapshot in time (for 2002), whereas in reality they would evolve over the period under consideration, reflecting both the changing country composition of the ‘BBB’ ratings category and economic developments for the countries within the category. Nonetheless, several sector-specific conclusions can be drawn for Jordan, many with clear implications for its future policy directions.

Income levels and growth performance

236. Although Jordan’s growth rate is projected to outpace the ‘BBB’ average, its income level will continue to lag by a wide margin. The rating agencies, however, ascribe considerable importance to GDP per capita, which they view as a comprehensive proxy for the level of development of an economy and, thence, for its resilience to political and economic shocks. Indeed, reinforcing the intuitive reasoning that a rich debtor is normally a better credit risk than a poor debtor, various studies find GDP per capita to be among the most important explanatory variables for sovereign credit ratings. 77 With Jordan’s dollar GDP per capita projected to remain at a little over half of the ‘BBB’ average through 2008, one pertinent question is whether its income level is a binding constraint that precludes entry into the investment grade.

237. Jordan’s low income level does not necessarily preclude its entry into the investment grade. A cursory survey of the ‘BBB’ category reveals only one country, China, with a lower GDP per capita than Jordan’s (Figure VII.4). Nonetheless, the fact that China, with an estimated GDP per capita of only about $1,000 in 2003, enjoys an S&P long-term foreign currency sovereign rating of ‘BBB’ establishes that Jordan, with a GDP per capita of about $1,800, is not debarred from the investment grade on grounds of an unacceptably low income level. 78 As with the issue of geopolitical risk, the implication here is that Jordan would need to compensate with overperformance in other spheres.

Figure VII.4.‘BBB’ Rated Sovereigns: Nominal GDP Per Capita, 2003

(In dollars)

Sources: Jordanian authorities; and Fund staff estimates.

Fiscal solvency and public debt structure

238. Fiscal outturns are projected to strongly outperform the ‘BBB’ category. Central government net debt is programmed to decline to the equivalent of about 72 percent of GDP by 2008, while net debt including CBJ reserves and CDs is projected to fall to about 32 percent of GDP (Table VII.5). The authorities’ macroeconomic framework does not include projections for the municipalities and local governments or the SSC. Whereas the indebtedness of the former is de minimis, the latter plays an important role in bringing down consolidated general government deficits and net debt. For the purposes of this analysis, the SSC is assumed to run a steady surplus worth 2 percent of GDP annually, which is identical to its outturn for 2002 and its budget target for 2003. Consolidating the fiscal projections for the central government, the municipalities and local governments, the SSC, and the CBJ yields a general government net debt burden that falls below the ‘BBB’ average in 2004 and continues to decline secularly thereafter. The strength of the fiscal projections underscores the extent to which public debt reduction will remain the centerpiece of Jordan’s adjustment effort in 2004–08.

Table VII.5.Jordan: General Government Net Debt, S&P Definition, 2003–08(As a percentage of GDP at market prices)
Central government 1/101.190.586.581.678.172.2
External (incl. IMF) 2/76.866.763.158.855.150.6
Central government and CBJ61.751.046.841.838.232.1
Domestic 3/48.242.937.932.628.323.5
General government35.124.320.
Memorandum item:
Public sector net external debt
(percent of current account receipts)17.511.312.713.514.913.1
Sources: Jordanian authorities; and Fund staff estimates and projections.

Consolidated central bovernment (i.e., budgetary central government plus own-budget agencies), including all explicit guarantees.

Net of market value of Brady bond collateral.

CBJ contribution to domestic debt includes CDs only.

Sources: Jordanian authorities; and Fund staff estimates and projections.

Consolidated central bovernment (i.e., budgetary central government plus own-budget agencies), including all explicit guarantees.

Net of market value of Brady bond collateral.

CBJ contribution to domestic debt includes CDs only.

239. The structure of public debt is also projected to improve. In 2003, largely because of a very rapid increase in CBJ reserves and ongoing buoyancy in export performance, the ratio of public sector net external debt including CBJ net foreign assets to current account receipts fell to less than half of the ‘BBB’ average. At the same time, the government launched a new debt management strategy that seeks to lengthen the maturity structure of domestic debt, replacing Treasury bills and CBJ CDs with long-term, JD-denominated bonds while also prepaying selected, high-cost external loans. By rebalancing the public debt portfolio in favor of longer-term, local currency-denominated, fixed-coupon liabilities, the authorities intend to reduce Jordan’s vulnerability to exchange rate and interest rate shocks, diminish domestic rollover risk, and build the flexibility to run countercyclical fiscal policy.

International liquidity

240. The international liquidity position is more robust than S&P definitions would suggest. Jordan’s gross external financing requirements as a proportion of usable official reserves appear to exceed the ‘BBB’ average. By including rollovers of short-term external liabilities in gross external financing requirements, however, S&P’s definition is ill-suited to Jordan’s circumstances. Although Jordan’s commercial banking sector holds some $4.5 billion of nonresidents’ deposits (and $2.9 billion of foreign currency-denominated deposits of residents), it also maintains some $6 billion in external assets. With the full amount of external assets held in the form of liquid interbank deposits with highly rated foreign counterparties, the result is a liquid net foreign asset position equivalent to about 16 percent of GDP. Excluding the nonresidents’ deposits from the calculation of the gross external financing requirement reduces the liquidity ratio to negligible levels throughout 2003–08, and provides a more meaningful comparator for the adequacy of CBJ gross usable international reserves.

241. Given that Jordan maintains a fixed-peg exchange rate regime, it is also appropriate to survey reserves coverage of money supply. 79 Again, Jordan compares reasonably well, with CBJ gross usable reserves covering 36 percent of M2 as of end-2003, ranking Jordan above four of the 12 countries with S&P long-term foreign currency sovereign ratings in the ‘BBB’ category (Figure VII.5). Excluding foreign currency deposits from M2, the coverage ratio increases to 47 percent, further underscoring the sustainability of Jordan’s exchange rate peg. Assuming no change in monetary regime, consumer prices in Jordan (and the GDP deflator) should remain largely a function of import prices, with the annual inflation rate projected to remain below the ‘BBB’ average of about 3 percent throughout 2004–08.

Figure VII.5.‘BBB’ Rated Sovereigns: Gross Usable Reserves, May 2003

(As a percentage of M2)

Sources: Jordanian authorities; and Fund staff estimates.

1/ Figure for Jordan is for end-2003.

Private sector balance sheets

242. A lack of available data by ratings category precludes dynamic comparisons of the size of Jordan’s contingent liabilities burden. As discussed earlier, however, the adoption of measures aimed at strengthening the financial and nonfinancial private sectors can only hasten Jordan’s ascent to the investment grade. Foremost among such measures would be the implementation of key recommendations provided by the Bank and the Fund in the context of the FSAP, which aim to strengthen the financial position of the commercial banks, insurance companies, and pension funds; improve risk-management capabilities; and ensure the efficient functioning of the payment system and capital markets. That, in turn, would facilitate domestic bank lending to the nongovernment sector, which expanded at annual rates of only about 3–5 percent in 2002–03.

243. From a ratings perspective, measures to limit moral hazard in the banking sector would be particularly important. If the CBJ were to opt for liquidation with less than full depositor protection the next time a small, systemically unimportant bank became seriously undercapitalized, a powerful signal would be sent that sovereign solvency support to banks is neither guaranteed nor unconditional. The demonstration impact of such an action could be expected to foster more careful lending decisions by banks and greater selectivity by depositors, thereby supporting the market-based allocation of resources. Efforts are already underway to improve transparency and corporate governance at banks and establish a formal financial safety net. Upcoming measures in this regard include the introduction a rules-based framework for prompt corrective action, currently in draft stage, and the enhancement of the bank resolution tools available to the Deposit Insurance Corporation, both of which would reduce the uncertainties currently surrounding the bank exit process.

244. Measures to encourage medium-and long-term debt finance for the corporate sector would also be welcome. Jordan’s nonfinancial private sector would benefit not only from more bank lending, but also from more lending at fixed interest rates and longer maturities. 80 For the banks, increasing the volume of fixed-rate term lending would mean taking on more direct interest rate risk while reducing indirect interest rate risk (and therefore credit risk), thereby moving to a more efficient risk tradeoff. For the CBJ, reduced corporate sector financial fragility would enhance monetary policy flexibility, particularly in terms of its ability to mount interest rate-based defenses of the exchange rate peg if necessary.

245. A key obstacle to fixed-rate term lending in Jordan is the absence of a meaningful yield curve for JD-denominated government securities. Reflecting the traditionally limited supply of securities as well as the surplus liquidity position of most large commercial banks (and the SSC), government bonds have traditionally been held to maturity, with minimal secondary trading activity. The resulting absence of benchmark yields has complicated the pricing of medium-and long-term bank loans and has constrained the volume of fixed-rate lending. In addition to the fiscal objective of a longer average maturity on domestic debt, the authorities’ new debt management strategy also seeks to soak up excess domestic liquidity through regular and preannounced bond issuance, including to large nonbank investors such as the SSC. That, if supported by institutional measures as advocated by the FSAP, would encourage secondary market trading in government securities and the establishment of a JD yield curve.

F. Conclusion

246. This chapter has sought to review vulnerability-related issues in the context of Jordan’s upcoming graduation from Fund support. To the extent possible, it has faithfully transposed the authorities’ medium-term macroeconomic framework into risk factors as defined by one of the “big two” international credit rating agencies, S&P. The consolidation of central bank and public pension fund finances into what S&P refers to as “general government”, for instance, implies netting out substantial CBJ and SSC net assets from various operational measures of public indebtedness. Fiscal and other risk factors are then compared with those of other countries not by region, but by ratings category, with a special focus on sovereigns rated just below or just above the important cutoff point between the speculative and investment grades.

247. A fairly robust picture emerges. Even after factoring in what the rating agencies might characterize as “reasonable worst-case” shocks, Jordan compares well with S&P’s ‘BBB’ ratings category in all but its average income level. Although the relative weight attached by each rating agency to each risk factor is neither publicly known nor fixed in time, dynamic comparisons suggest that Jordan’s underperformance in GDP per capita could be compensated for by overperformance in most other indicators. Two such indicators are general government net debt as a proportion of GDP and public sector net external debt as a proportion of current account receipts. Given that Jordan is often classified among highly indebted countries, the fact that public sector balance sheet indicators should overperform by wide margins is remarkable, underscoring the financial strength of the SSC in the wake of key pension reforms and the shock-absorption capacity of the CBJ in the wake of rapid reserves accumulation.

248. Jordan could be in contention for investment grade status within a few years. As in the past, fiscal consolidation would need to remain the centerpiece of the adjustment effort, with public debt declining in line with targets specified under the Public Debt Management Law of 2001. Other elements of the policy mix would include public debt management to lengthen the maturity structure of domestic debt and establish a benchmark yield curve, and financial system reforms to support nongovernment credit and reduce private sector financial fragility. By crisis-proofing the economy, such measures would carry intrinsic value. As a positive externality, they would also hasten Jordan’s entry into the investment grade. Given the large number of institutional investors that are bound by statutes forbidding speculative grade investments, upgrades of Jordan’s long-term foreign currency sovereign ratings to ‘BBB-’ by S&P or to ‘Baa3’ by Moody’s would open up access to a vast global pool of investible resources, reducing borrowing costs, facilitating subsovereign debt issuance, and supporting market confidence.


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65Prepared by Ashok Vir Bhatia.
66Gross debt of the consolidated central government (i.e., the budgetary central government and the own-budget agencies) including IMF obligations, less the market value of Brady bond collateral, less deposits of the consolidated central government held with the domestic banking system.
67For a detailed discussion, see Ashok Vir Bhatia, “Sovereign Credit Ratings Methodology: An Evaluation,” IMF Working Paper 02/170 (Washington: International Monetary Fund, 2002). Available via the Internet at:
68For variable definitions, see David T. Beers, Marie Cavanaugh, and Takahira Ogawa, “Sovereign Credit Ratings: A Primer,” Standard & Poor’s RatingsDirect (April 3, 2002). Available via the Internet at:
69S&P consolidates central bank net foreign assets and domestic debt securities into what it refers to as the “general government” balance sheet, and central bank interest payments into what it refers to as the “general government” budget.
70Jordan’s July 2002 Paris Club agreement is exceptionally generous in that its consolidation period extends 3½ years beyond the current Fund-supported program. Details available via the Internet at:
71Jordanian nonbank claims on BIS reporting banks exceeded corresponding liabilities by the equivalent of 22 percent of GDP at end-2002. See Table 6B of Statistical Annex to Bank for International Settlements, Quarterly Review: International Banking and Financial Market Developments (September 8, 2003). Available via the Internet at:
72Listed nonfinancial firms account for about a quarter of total domestic bank lending to the corporate sector.
73To some extent the high gross NPL ratios reflect a general aversion to write-offs (and to the forfeiture of claims) that is common in the Middle East and North Africa region.
74See Scott Bugie, John Chambers, Michael T. DeStefano, and Ernest D. Napier, “Global Financial System Stress,” Standard & Poor’s RatingsDirect (October 9, 2001). Available via the Internet at:
75None of the 12 sovereigns with S&P long-term foreign currency ratings in the ‘BBB’ category as of end-November 2003 is undergoing a Paris Club debt treatment. Only three, Croatia (1995), Mexico (1989), and Trinidad and Tobago (1990), have ever done so, and all were unrated at the time.
76For the full text of the legislation, see Jordan, Law No. (26) of 2001: Public Debt Management Law, Official Gazette, No. 4496 (July 16, 2001). Available via the Internet at:
77See for instance Richard Cantor and Frank Packer, “Determinants and Impacts of Sovereign Credit Ratings,” Research Paper No. 9608 (New York: Federal Reserve Bank of New York, 1996). Available via the Internet at:
78Note also that Jordan’s GNP generally exceeds its GDP by some 20–25 percent.
79See International Monetary Fund, “Debt-and Reserve-Related Indicators of External Vulnerability” (Policy Development and Review Department, March 23, 2000). Available via the Internet at:
80It can be shown that, for a stylized firm that borrows to invest in a long-term project with an EBIDTA that is interest rate-independent, lengthening the time-to-repricing on its debt would, ceteris paribus, raise the default-inducing interest rate at which one year’s interest payments would exceed accrued provisions.

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