Fitch Affirms El Salvador's Sovereign Ratings at 'BB+'; Outlook Stable.

NEW YORK -- Fitch Ratings affirms El Salvador's ratings as follows:

--Foreign and Local Currency Issuer Default Ratings at 'BB+';

--Short-term Issuer Default Rating at 'B';

--Country Ceiling at 'BBB-'.

The Rating Outlook is Stable.

El Salvador's ratings are supported by its macroeconomic stability, its relatively low public sector debt burden, and its good record for structural reforms, including the implementation of DR-CAFTA (a free trade agreement with the U.S.). El Salvador's ratings are constrained by the country's weak social indicators including a high crime rate, its relatively weak public finances, and a relatively modest albeit improving growth performance.

Since the last review, Fitch notes some positive credit developments, including higher GDP growth in 2006, the government's plan to reduce reliance on the international capital markets for financing the fiscal deficit in 2007, and greater foreign participation in the banking sector, which should reduce the sovereign's contingent liability associated with banks. GDP growth in 2006 is estimated to have reached 4.2% compared with the 1.9% average growth observed in 2000-2005.

'While it is encouraging that El Salvador's growth rate has picked up, sustaining higher GDP growth of 4%-5% would require further reforms to improve business climate, boost human capital and labor productivity, and address the high crime rate in the country,' said Shelly Shetty, Senior Director in Fitch's Sovereign Group. This is further underscored by the fact that El Salvador's investment-to-GDP ratio of 16% is among the lowest in the 'BB' category.

Fitch says that El Salvador's resolve to prevent fiscal deterioration since 2003, notwithstanding low GDP growth is noteworthy. Also, unlike many other Latin American countries, the Saca administration has been successful in steadily increasing the tax intake over the past two years, partly to increase the scope for social and capital spending in the country. Yet, the tax-to-GDP ratio of 14% in 2006 is quite modest compared to the vast development needs of the country. While the government debt-to-GDP ratio of 40% is in line with the 'BB' median, the debt-to-revenue ratio of over 200% is considerably higher than the 'BB' median and highlights the narrowness of the country's revenue base. Fitch believes that liability management would also be better served if the domestic political environment allows the government to maintain access to the international capital markets, if needed, as currently the main opposition party can block long-term foreign borrowing as it has one-third of seats in Congress to do so. On the positive side, the government financing needs of less than 5% of GDP remain quite modest compared to peers.

Even with higher than expected growth last year, and an impressive growth in tax revenues, fiscal accounts consolidated very little in 2006, highlighting the pressures on public finances. Fitch also believes that notwithstanding some of the benefits of the recent changes in financing the pension costs, parametric reforms to the pension system are still required to permanently increase the public sector primary surplus and reduce the debt burden faster over the median term. In light of El Salvador's vulnerability to external shocks and its dollarized economy, its fiscal solvency ratios need to be more robust than those of its rating peers.

Finally, due to the limited foreign direct investment flows into El Salvador, its current account deficits (that have ranged between 4%-5% of GDP) have been predominantly financed through external borrowing. Even though El Salvador's external solvency ratios such as gross and net external (both as a percentage of GDP and CXR) are improving, they remain above the 'BB' median. However, some of the rise in the external borrowing is due to better access of the private sector to external markets due to the elimination of foreign exchange rate risk following the adoption of the dollarized regime in 2001.

Continued monetary stability, sustained higher growth, as well as further improvement in public debt dynamics could enhance El Salvador's creditworthiness. On the other hand, fiscal slippage and a return to a low-growth path that results in a considerable increase in public debt would be viewed negatively.

Fitch's rating definitions and the terms of use of such ratings are available on the agency's public site, www.fitchratings.com. Published ratings, criteria and methodologies are available from this site, at all times. Fitch's code of conduct, confidentiality, conflicts of interest, affiliate firewall, compliance and other relevant policies and procedures are also available from the 'Code of Conduct' section of this site.