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Republic of AngolaPrimary Credit Analyst:Ravi Bhatia, London (44) 207-176-7113; [email protected]

Secondary Credit Analyst:

Moritz Kraemer, Frankfurt (49) 69-33-99-9249; [email protected]

Table Of Contents

Major Rating Factors

Rationale

Outlook

Comparative Analysis

Political Environment: Firm Leadership Maintains Relative Stability

Economic Prospects: Heavily Dependent On Oil

Fiscal Flexibility: Government Finances Set to Improve With Higher Oil

Prices

Monetary Policy: Improvements Are Likely After A Difficult 2009

External Finances: Current Account Should Recover In 2010 And Then

Continue To Strengthen

Related Criteria And Research

August 4, 2010

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Republic of Angola

Major Rating Factors

Strengths: Generous natural resource endowment and strong oil revenues.

Low foreign debt burden and strong external balance sheet.

High GDP per capita and strong growth performance.

Issuer Credit RatingB+/Stable/B

Weaknesses:

Weak institutions and poor economic management.

Low level of development outside the oil sector.

Political succession risk and underlying political tensions.

RationaleThe ratings on the Republic of Angola are supported primarily by our view of the country's large hydrocarbon

endowment, strong growth prospects, and low government and external debt levels. In addition, Angola's level of

prosperity (measured as GDP per capita), significantly exceeds the median for 'B' rated peers and is closer to 'BB'

rated sovereigns (although there is huge income disparity). Furthermore, gross external financing needs as a share of

useable reserves and current account receipts are much lower than the 'B' median, which supports external liquidity.

The ratings are constrained by what we view are weak institutions, a low level of development outside the oil sector,

and political succession risk and related political tensions.

In our view, Angola's rising oil production, strong oil sector growth, and large oil exports provide the potential for

large current-account surpluses. We expect Angola's oil sector to continue growing in the medium term andunderstand international oil companies have shown great interest in Angola. Crucially, in our view, Angola has a

good reputation within the oil industry, primarily for maintaining existing oil contract terms through even very

difficult times during the civil war. In our view, the non-oil economy is also likely to perform strongly in the medium

term, albeit from a very low base.

The main constraint on the ratings is our view of the country's weak institutions. During the long civil war the

normal function of government was completely stalled, and only since 2002 have ministries begun establishing their

authority and undertaking normal civic tasks. However, they still lack capacity and transparency. In addition,

presidential succession is untested in post-conflict Angola and given the president's age and the country's centralized

decision-making process, this entails a risk to policy continuity. That said, we believe a new constitutional

amendment announced in early 2010 has lowered this risk by spelling out a succession rule.

As a commodity-dependent economy, Angola is prone to external shocks. Dutch disease and the lack of

development of the non-oil economy leave the country vulnerable to falls in the oil price and cuts in production. We

believe that the sovereign's capacity to adequately respond to these shocks still needs to be developed. In 2009,

Angola lost about one-third of its official reserves in its ultimately unsuccessful attempt to defend the de facto

exchange rate peg. In addition, it amassed significant trade arrears to suppliers as government oil revenues fell.

However, policy consistency is improving and is supported by an IMF Stand-By Agreement (SBA). The IMF has

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approved the first review under the SBA and the program remains on track. The policy track record, however,

remains very short due to the country's short post-conflict history. We think policy expertise, institutional capacity,

and domestic debt management practices could be strengthened.

In 2009, Angola faced a sharp deterioration of its current account to a deficit of close to 10% of GDP, owing to a

sharp fall in the international oil price. Real GDP growth declined to an estimated 2.7%, down from double-digit

growth rates in previous years. We expect the rebound in oil prices, as well as some increase in production, to drive

a rebound of real and nominal GDP growth in 2010. Consequently, we anticipate Angola's current account to swing

back to a positive balance in 2010 and to further improve in the medium term. That said, due to the sustained surge

in imports we do not foresee a return to the surpluses of 2005-2007, when they exceeded 15% of GDP.

Like many countries at a similar stage of development, we believe Angola's national income accounts, balance of

payments, and fiscal accounts could be improved in terms of coverage and timeliness of reporting.

Outlook

The stable outlook reflects the balance between Angola's weaknesses in macroeconomic management anddependency on oil exports, against its low government and external debt levels and growing oil production capacity.

Downward pressure on the rating could build if global oil prices fell sharply for a prolonged period, leading to a

decline in oil revenues, or if government debt were to rise significantly. In addition, an unexpected deterioration in

the political, institutional, or macroeconomic policy environment could also put downward pressure on the ratings.

Upward ratings potential could emerge if the authorities consistently improve fiscal performance and significantly

enhance foreign currency reserves to buffer Angola more effectively from external shocks, if Angola's economic

structure diversifies, and institutional capacity and efficiency converged with that of higher rated peers.

Table 1

Republic of Angola Selected Indicators

2004 2005 2006 2007 2008 2009 2010e 2011f 2012fMedian B

(2010e)

GDP per capita ($) 1,214 1,757 2,643 3,499 4,709 4,929 5,103 5,367 5,815 2,566

Real GDP (% change) 24.5 25.8 9.3 14.4 13.8 2.7 12.0 8.3 8.1 4.0

Real GDP per capita (%change)

20.7 22.2 6.3 11.3 10.9 0.0 9.1 5.5 5.3 2.9

General government balance(% of GDP)

(1.6) 7.7 14.8 11.1 8.9 (9.6) (0.5) 0.5 2.5 (3.9)

General government debt (% ofGDP)

39.4 20.9 13.3 17.5 25.3 24.3 18.3 16.5 12.2 41.0

Net general government debt(% of GDP)

33.7 12.8 (2.7) 3.9 8.0 16.6 13.7 11.1 7.0 32.0

General government interestexp. (% of revenues)

6.3 4.9 0.6 2.5 1.8 5.1 3.3 2.4 2.1 4.3

Domestic credit to privatesector & NFPEs (% of GDP)

5.9 5.9 8.0 10.7 13.5 18.6 15.4 15.7 16.2 31.3

Consumer price index (average;% change)

43.5 23.0 13.3 12.2 12.5 14.0 15.0 13.0 12.0 6.3

Gross ext. financing needs* (%of CARs and usable reserves)

111.4 87.1 75.7 72.9 84.0 93.8 86.4 83.8 79.9 106.7


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Table 1

Republic of Angola Selected Indicators (cont.)

Current account balance (% ofGDP)

3.5 17.6 23.7 16.6 7.6 (9.6) 1.9 3.4 4.3 (6.8)

Narrow net external debt (%of CARs)

46.2 22.5 (10.7) (7.7) (7.4) 7.2 9.0 7.3 0.8 58.0

*Gross external financing needs are defined as current account outflows plus short-term debt by remaining maturity. Narrow net external debt is defined as the stock offoreign and local currency public and private sector borrowings from nonresidents (including nonresident deposits in resident banks) minus liquid nonequity externalassets, which include official foreign exchange reserves, other liquid public sector foreign assets, and financial institutions' deposits with and lending to nonresidents. Anegative number indicates net external lending. f--Forecast. e--Estimate. NFPEs--Nonfinancial public sector enterprises. CARs--Current-account receipts.

Comparative Analysis

Unlike many peers, Angolan political structures have not yet weathered a peaceful leadership transition.

Economic governance compares poorly to peers.

Angola's human and physical indicators are less developed than many peers.

The economic and external outlook is more favorable than for peers.

Angola's closest peers in the 'B' rating category in Africa are Nigeria (B+/Stable/B; these and subsequent sovereign

ratings refer to foreign currency credit ratings), Ghana (B+/Negative/B), Uganda (B+/Stable/B), and Mozambique

(B+/Stable/B), and outside Africa, Cambodia (B+/Stable/B). Gabon (BB-/Stable/B) and Venezuela (BB-/Stable/B), both

oil economies in the 'BB' rating category, also provide useful comparisons.

Political risks are on par with the 'B' median

In our view, political risks in Angola are in line with most peers in the 'B' rating category, and are one of the key

constraints on the rating. Unlike Angola, both Nigeria and Ghana have witnessed peaceful handovers of power in

recent years and have established institutions that, while carrying weaknesses, have managed to assimilate political

views and voice them in the election and succession process. In comparison, Angola has yet to witness one peacetime

transition of power.

Although multiparty democracy was reintroduced in both Uganda and Mozambique in the past decade, both

countries are similar to Angola in that they lack a track record of smooth democratic transition, which puts a

question mark over risks to succession and policy continuity. Like Angola, Uganda, Mozambique, and Cambodia

have at varying times in the past suffered severe political dislocation or civil war, although Angola's civil war was

the most recent, having ended only in 2002. Counterbalancing these downside risks, Angola's relative homogenous

ethnic and religious population reduces the risk of tribal or religious violence when compared with Nigeria or

Uganda, in particular.

Despite a high GDP per capita, in some respects Angola is less developed than its peers

Angola's estimated per capita GDP of about $5,103 in 2010, while comparing very well to the 'B' median of only

$2,566, is distorted by huge income discrepancies, with some estimates suggesting that 70% of the population lives

on less than $2 a day. On a broader measure of development that includes health and education, the UNDP's

Human Development Index ranks Angola 143 out of 182 countries, below Cambodia, Gabon, and Venezuela, but

higher than Ghana, Nigeria, Uganda, and Mozambique. Life expectancy is only 47 years and well below the 'B'

median. In addition, compared to most African peers in the 'B' rating category, Angola lacks a long and constructive

engagement with donors and/or multilaterals (we consider Uganda and Mozambique as excelling in this area).

Furthermore, in the International Finance Corporation's Ease of Doing Business Survey, Angola ranks at a very low


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169 out of 183 countries, while Transparency International's Perceptions of Corruption ranks Angola at 162 out of

180 countries.

Chart 1

Economic and monetary policies are poorer than in peers

Although improving fast, we believe the quality of macroeconomic governance in Angola is poor compared to other

countries in the same rating category. Compared to Nigeria, Angola does not have a long track record of managing

an oil economy. Nigeria, Venezuela, and Gabon have all amassed significant reserves and have sovereign wealth or

reserve funds, the latter being something that Angola is only now planning to set up.

Angola's monetary policy has been weaker than many of its peers. In 2009, Angola attempted to maintain a de facto

peg against the U.S. dollar, only to resort to capital controls and then to abandon the peg altogether, causing a

major loss of confidence in macroeconomic policy. In addition, we believe efforts to contain inflation have been

sub-optimal, with inflation in 2009 at 14% compared to a 'B' median of 4.4% and a 'BB' median of 5.7%.


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Chart 2

Despite both political and economic management problems, Angola's vast oil endowment and relatively low

population bodes well for its future economic prospects. Both Nigeria and Angola produce roughly the same

amount of oil, but Nigeria has a population of 155 million compared with Angola's 19 million. While on economic

management Angola scores poorly, its vast natural endowment is a significant support for the rating. Angola has

about 13 billion barrels of proven oil reserves and an estimated 26 trillion cubic feet of gas, indicating to us that as

long as steady production is maintained, economic prospects should continue to be favorable.


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Chart 3

Strong external indicatorsAlthough it deteriorated in 2009, Angola's external position has been strong. With the revival of oil prices and the

repayment of arrears due to the Paris Club (the last tranche was paid in January 2010), the country's external

position is likely to strengthen once again and compares very well with peers. Nevertheless, Angola's reserve

position remains low compared with other oil economies like Nigeria and Gabon. The low level of reserves caused

problems for monetary policy in 2009 as a foreign exchange shortage forced it to abandon its de facto peg.


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Chart 4


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Chart 5

Political Environment: Firm Leadership Maintains Relative Stability

The longstanding president maintains a firm grip on power.

Succession to the president and the insurgency in Cabinda are risks.

Angola's ethnic and religious divisions are far less entrenched than in countries like Kenya or Nigeria. That said,

Angola has only recently emerged from a 27-year civil war that is estimated to have resulted in 500,000 casualties.

The lack of ethnic divisions juxtaposed against the backdrop of a very protracted civil war presents somewhat of a

paradox.

The war finally ended when Jonas Savimbi, the longstanding leader of the National Union for the Total

Independence of Angola (UNITA), died in an ambush in 2002. In our view, the population at large is unlikely toallow a return to conflict. In the post-war era, the ruling Popular Movement for the Liberation of Angola (MPLA),

the winner of the war, has consolidated its grip on power, and in the process achieved a level of political stability

that compares with countries in the 'B' rating category. Its rival, UNITA was completely destroyed as a military

force and an effective post-war reintegration program for ex-fighters has largely pacified what little remnants exist.

The most recent legislative elections that took place in 2008 fully cemented the MPLA as the ruling party of Angola,

with UNITA and other opposition parties gaining only 13% of the seats in parliament.


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Given the above factors, Angola presents a case of relative political stability. This stability is reinforced by the

presence of a strong state and strong military. Angola's standing army of 140,000 personnel is one of the largest in

Africa. In addition, we believe the MPLA maintains a strict policy against dissenters, and law and order, in urban

areas at least, has been firmly established.

However, owing to decades of war, institutional capacity has only recently been built up. During the war, the army

and the state oil company Sonangol were the only fully functional institutions with ministries and regional

governments operating a pro-forma role. This lack of institutional capacity is a constraint on the rating.

Furthermore, a return to conflict cannot be entirely ruled out. If the benefits of the oil economy do not spread to the

rural and provincial population, discontent could rise, aided by the high level of leftover light weaponry. Also, while

the government has relatively firm control of the cities and towns, in the countryside it is far less prevalent.

Jose Eduardo dos Santos emerged as the leader of the MPLA in 1979 after the death of his predecessor, Agostinho

Neto. He has remained leader of the party and President of Angola ever since, making him one of the longest serving

presidents in the world. But, while President Dos Santos remains firmly in power, he is 68 years old. This, combined

with the fact that he has not identified a successor, presents the risk of succession, which is ultimately a risk to the

sovereign rating.

The next presidential elections were scheduled for late 2010, but in January of this year the constitution was

amended, thereby delaying presidential elections until 2012 and extending President dos Santos's current term by

almost three years. The change also permits the president to run for another two five-year terms, which could in

theory allow him to remain in office until 2022. A further amendment to the constitution has also removed

presidential elections, so that from 2012 the party with the largest majority in the legislature chooses the president.

Under the old rules, separate elections were held for both parliament and the presidency. This move paves the way

for an intra-party succession. As a party the MPLA commands an extensive majority and in our view is highly likely

to win at the parliamentary level in the 2012 elections. Therefore, the next president is almost certainly going to

come from the MPLA. This near certainty adds some clarity to the political future and stability for the sovereign

rating.

The separatist movement in oil-rich Cabinda is a concern

One of Angola's political challenges is a separatist movement in the geographically detached region of Cabinda,

which produces an estimated 40%-50% of the country's oil (although this figure is set to fall in coming years as oil

production moves to areas off the mainland coast). Cabinda lies north of the mainland of Angola and is separated

from it by the mouth of the Congo River and a thin sliver of the Democratic Republic of Congo. Although in 2006

the government signed a memorandum of understanding with the largest faction of the rebel movement, the Front

for the Liberation of the Enclave of Cabinda (FLEC), promising to transfer about half of the oil revenues to Cabinda

in exchange for peace, other factions of FLEC have yet to approve the peace deal.

Nevertheless, we view the Cabinda issue as far less destabilizing than, for example, the Niger Delta conflict inNigeria. In addition, as the share of offshore Angolan oil production is large and increasing, we believe Cabinda's

relative importance as a source of oil production is likely to fade.


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Economic Prospects: Heavily Dependent On Oil

High oil prices should improve the outlook for Angola's oil-dependent economy.

Angola has a good reputation within the oil industry for maintaining contracts.

Diversification of the economy is proceeding slowly.

Skill levels remain low.

Table 2

Republic of Angola Economic & Financial Indicators

2004 2005 2006 2007 2008 2009 2010e 2011f 2012f

Nominal GDP (bil. $) 20 29 45 61 85 91 97 105 116

GDP per capita ($) 1,214 1,757 2,643 3,499 4,709 4,929 5,103 5,367 5,815

Real GDP (% change) 24.5 25.8 9.3 14.4 13.8 2.7 12.0 8.3 8.1

Real GDP per capita (% change) 20.7 22.2 6.3 11.3 10.9 0.0 9.1 5.5 5.3

Real domestic demand (% change) 24.0 33.2 3.9 14.1 5.5 19.0 6.6 9.2 7.4

Real investment (% change) (41.9) (49.7) 515.4 (37.2) 16.0 8.0 8.0 7.0 7.0Gross domestic investment (% of GDP) 5.5 3.7 6.5 5.5 5.0 5.4 5.4 5.3 5.3

Gross domestic savings (% of GDP) 9.0 21.3 30.2 22.1 12.6 (4.2) 7.2 8.8 9.6

Real exports (% change) 65.6 53.3 0.8 (0.8) 12.0 (5.1) 16.0 6.1 6.8

Consumer price index (% change) 43.5 23.0 13.3 12.2 12.5 14.0 15.0 13.0 12.0

Domestic credit to private sector & NFPEs (% change) 66.8 54.9 93.1 74.4 70.1 56.6 5.0 20.0 20.0

Domestic credit to private sector & NFPEs (% of GDP) 5.9 5.9 8.0 10.7 13.5 18.6 15.4 15.7 16.2

f--Forecast. e--Estimate. NFPEs--Nonfinancial public sector enterprises.

Economic structure

Following the civil war, Angola has emerged as Africa's third largest economy (after South Africa and Nigeria) and

one of its top two oil producers, with nominal GDP close to $100 billion. Abundant oil resources have helped

Angola to develop rapidly since the end of the civil war. Angola produced 1.87 million barrels per day (bpd) in late

2009, up from around 700,000 bpd in 2000. According to the Energy Information Administration (EIA), Angolan

production capacity is likely to rise to between 2 and 2.5 million bpd by 2015 as several new deepwater fields come

on stream. The country's proven reserves stand at 13 billion barrels, with speculative reserves estimated at around

27 billion barrels. In addition, it has an estimated 9.6 trillion cubic feet of gas reserves and is setting up a 5 million

ton liquefied natural gas (LNG) plant, due to become fully operational by 2012.

Crucially, Angola has a good reputation within the oil industry, primarily for maintaining existing oil contracts. Its

long track record of respecting the sanctity of the sector, even during the civil war, has led to a flow of foreign direct

investment (FDI) from numerous oil companies. The government's concessionaire is the state-owned company

Sonangol.

Oil makes up 95% of Angola's exports and more than half of its GDP. While such resource wealth is a significant

generator of revenues, our assessment of the economy's structure is constrained by its heavy reliance on this

commodity. The country's oil dependence has inhibited the development of the non-oil economy, as oil sector-driven

inflation has pushed the real effective exchange rate to a level that undermines non-oil export competitiveness.

In addition, we believe the country's oil wealth has yet to yield tangible benefits to the wider population. Although


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GDP per capita is relatively high, significant income inequalities exist and a large share of the population is believed

to live on less than $2 a day. Education levels are commonly assessed as poor, and the country is heavily dependent

on imported skilled labor. Another key structural deficiency of the economy is the poor standard of infrastructure,

which suffered severely from the civil war. The government is committed to the task of rebuilding, although we note

that some of its projects tend to be large-scale high-end developments that do not appear to us to have the most

effective long-term value for the development of the wider economy.

Positively, there are signs of a greater push toward economic diversification. The agriculture sector has seen rapid

improvement, and a de-mining program is increasing the amount of land that can be safely farmed (prior to

independence Angola was a global player in the coffee and cotton markets). In addition, diamond and copper

reserves are high and if diamond prices were to revive, this could also contribute to diversification.

Economic growth

Despite the narrow economic base and the general population's economic exclusion, Angola grew at a very high

average rate of just under 18% from 2004 to 2008 in real terms, fuelled by the timely combination of peace, a boom

in oil production, and high global oil prices. The oil price collapse in late 2008 led to a sharp fall in real GDP

growth rates in 2009, but we believe prospects for the oil sector and the economy as a whole are good. We expectAngolan growth to rebound to 12% in 2010 and 8.3% in 2011, after an estimated 2.7% growth in 2009. The

non-oil economy has also been growing strongly, albeit from a low base.

Fiscal Flexibility: Government Finances Set to Improve With Higher Oil Prices

The fall in oil prices and volumes led to a large fiscal deficit in 2009 and the amassing of trade arrears.

The presence of the IMF should help tighten fiscal policy and rein in expenditure.

We expect general government and contingent liabilities to remain low.

Table 3

Republic of Angola Fiscal Indicators

2003 2004 2005 2006 2007 2008 2009 2010e 2011f 2012f

(% of GDP)

General government revenues 38.3 37.3 42.7 46.4 45.1 50.5 32.4 40.5 41.8 41.0

General government expenditures 44.7 38.9 35.0 31.6 33.9 41.7 42.0 41.0 41.3 38.5

General government balance (6.5) (1.6) 7.7 14.8 11.1 8.9 (9.6) (0.5) 0.5 2.5

Of which local authorities 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0

General government primary balance (4.6) 0.8 9.8 1 5.1 1 2.3 9.8 (7.9) 0.8 1.5 3.3

General government balance (% of revenues) (16.9) (4.3) 18.1 31.9 24.7 17.5 (29.5) (1.2) 1.2 6.1

General gov't interest payments (% of revenues) 4.8 6.3 4.9 0.6 2.5 1.8 5.1 3.3 2.4 2.1

General government debt 0.0 39.4 20.9 13.3 17.5 25.3 24.3 18.3 16.5 12.2General government net debt (3.5) 33.7 12.8 (2.7) 3.9 8.0 16.6 13.7 11.1 7.0

f--Forecast. e--Estimate.

Revenues, expenditure, and balance performance

Government revenues are highly reliant on oil, with around 80% coming from oil- and oil-related activities. The

country ran healthy fiscal surpluses that averaged about 11% of GDP between 2005 and 2008. However, the

overall fiscal surplus during those years masked the deterioration of the non-oil fiscal deficit, which increased from


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22% of GDP in 2006 to 34% in 2009. Also, government fiscal figures are somewhat inconsistent.

A fall in oil revenues by around 35% in 2009 resulted in a fiscal deficit of 9.6% of GDP in 2009 (see table 3). This

was even after a mid-year supplementary budget that cut expenditure by around 17% (all new capital projects were

frozen with the exception of water and energy projects in rural areas). In 2010, owing to a recovery in the oil price,

an increase in volumes, and a prudent budget guided by the IMF Stand-by Agreement which Angola signed in 2009,

the deficit should fall. Under the aegis of the IMF, spending is set to decline. We expect that from 2011 higher oil

volumes should bring the fiscal accounts back into surplus.

Revenue flexibility is likely to remain low. Despite efforts as part of the IMF program to diversify the tax base,

simplify tax rules, and strengthen revenue collection, Angola still relies on oil taxes--the government earns about

90% of its tax from about 350 large taxpayers, the majority of which are in the oil sector. The system of oil taxes

and concession fees means that oil revenues are highly pro-cyclical, although revenue-to-GDP is high and oscillates

around 40% of GDP.

Limited flexibility is available on the expenditure side, as the country's vast rebuilding, schooling, and housing needs

have to be financed. But given the extremely high revenue-to-GDP ratio (by African standards), we believe Angola

should still be able to finance these vast needs and run a balanced budget, if there is the willingness to do so. One

major concern is the amassing of accounts payable to contractors and suppliers. The stock of accounts payable are

estimated to be around 9% of GDP in 2010, although with foreign pressure and IMF support there are plans to

begin repaying these.

Government debt and interest burden

General government debt is relatively low at around 18% of GDP, and interest stands at only 3.3% of government

revenues (see table 3). The domestic debt market is constrained as there is no secondary market in government

paper. Therefore, domestic debt is largely short term (one year or under).

With the turn from fiscal surplus to deficit in 2009 the government attempted to offer longer term bonds to finance

the deficit, but coupled with exchange rate turmoil, buyers stayed clear of these bonds and the government found

itself in funding difficulties. It ultimately financed the deficit by amassing arrears to suppliers, and by drawing down

cash balances held at domestic banks and the central bank.

External borrowing options have in the past been constrained by the fact that Angola defaulted on its Paris Club

obligations. The full payment of these arrears (the last tranche was paid in January 2010) has paved the way for

bilateral and multilateral funding. The comfort of an IMF program is also likely to assist in facilitating better terms

for external funding.

Off-budget and contingent liabilities

We estimate off-budget and contingent liabilities as moderate. Banking sector contingent liabilities are low,

primarily because the sector is small as a percentage of GDP. Under an assumption of gross problematic assets rising

to 75% of the entire domestic credit, we estimate the contingent liability to the government from a banking sector

crisis would be a moderate 11.6% of GDP. In addition, public sector banking assets constitute only 20% of the

entire banking sector.

Owing to Angola's socialist past, the country has over 200 state-owned enterprises (of which 100 are active), and

the government is in the process of organizing a privatization program. Many non-financial public enterprises are in


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poor shape, although the huge state-owned oil major, Sonangol, is hugely profitable, with a profit of $2.4 billion in

2009. Overall, owing to the oil sector's denominator effect on total GDP, we believe that, excluding Sonangol, the

size of the state-owned sector is small compared to GDP, and therefore is unlikely to pose a large contingent

liability.

Monetary Policy: Improvements Are Likely After A Difficult 2009

The central bank abandoned its attempts to defend the tightly managed exchange rate in 2009.

Inflation, although vastly improved, still remains high.

The banking sector has proved its resilience by surviving a difficult year in 2009.

Monetary conditions were extremely challenging in 2009, testing the National Bank of Angola's (NBA) capacity to

maintain confidence in the exchange rate of the kwanza, and the financial sector. From late 2004 to early 2009, the

NBA focused its efforts on maintaining a tightly managed nominal exchange rate vis--vis the U.S. dollar. Given a

history of very high inflation, and an environment of high oil prices and rising exports, this policy served it

reasonably well. The central bank managed to somewhat contain imported inflation (the country relies heavily onimports) and amass a small amount of U.S. dollar reserves, peaking at $18 billion (although it did not fully sterilize

its U.S. dollar purchases).

However, in late 2008 oil prices fell rapidly and OPEC cut its quotas, forcing Angola to reduce production by about

20%. The collapse in oil prices led to downward pressure on the currency, but the central bank maintained its de

facto peg by spending reserves. In mid-2009, it permitted a mild depreciation of about 4% but then again

maintained a fixed rate until October. As dollar reserves fell rapidly, the NBA shifted from a foreign currency

auction system to rationing. This led to a loss of confidence and the re-emergence of a wide gap between the parallel

exchange rate and the government rate. Eventually, by October, the central bank was forced to abandon its defense

of the peg.

Combined, these policies led to a fall in market confidence and contributed to severe macroeconomic instability and

inflation. Looking ahead, the forecast rise in the global oil price alongside the support of an IMF facility should

assist in restoring some confidence. In addition, the IMF is also recommending the creation of a sovereign wealth

fund, which would reduce the need for the central bank to sterilize foreign reserve inflows (as these would be used

directly to fund foreign asset purchases), and thereby help to restrain inflation.

Inflation averaged 12.5% in 2008, and rose to an average of around 14% in 2009 despite the economic slowdown.

In addition to fiscal expansion, monetary and credit aggregates rose very sharply (the latter by 70%). In late 2009

the authorities responded to this rise and the currency turmoil by tightening monetary policy aggressively. The NBA

raised reserve requirements for banks from 15% to 30% and increased its discount rate. Despite these efforts,

inflation is forecast to increase in 2010, primarily due to exchange rate depreciation and a lag from loose monetary

policy, but we expect it should be contained in subsequent years as tighter monetary and fiscal policies take effect.

The banking sector consists of 19 banks, including three public banks (which includes one development bank).

Foreign-owned banks account for just under 57% of assets and state-owned ones account for about 20%. The

economy is highly dollarized, with foreign exchange deposits and loans standing at 56% and 54%, respectively

(indicating minimal currency mismatch). Loan-to-deposit ratios are low at around 53%. In our view, the banking


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sector largely proved its resilience in 2009 as it attempted to manage the sharp hike in the reserve ratio and extreme

currency fluctuation.

External Finances: Current Account Should Recover In 2010 And Then Continue

To Strengthen Angola's current account should recover in 2010 as oil prices rise.

Angola's external finances are a key strength with usable reserves and current account receipts entirely covering

gross financing needs.

Table 4

Republic of Angola External Indicators

2003 2004 2005 2006 2007 2008 2009 2010e 2011f 2012f

(% of GDP)

Current account balance (5.2) 3.5 17.6 23.7 16.6 7.6 (9.6) 1.9 3.4 4.3

Trade balance 29.1 39.0 54.0 51.1 50.0 50.6 20.6 29.2 26.8 27.2

Net foreign direct investment 25.2 7.2 (5.2) (0.5) (2.9) (1.0) 2.0 2.0 2.3 2.0

(% of CARs)

Current account balance (7.3) 4.9 21.0 31.9 22.5 9.9 (23.1) 3.8 7.6 9.6

Net external liabilities 172.8 119.7 53.4 5.9 (8.6) (13.6) (1.4) (6.3) (13.8) (22.2)

Gross external debt 86.1 65.3 42.3 24.2 23.7 26.7 54.9 50.4 55.7 56.6

Narrow net external debt* 67.5 46.2 22.5 (10.7) (7.7) (7.4) 7.2 9.0 7.3 0.8

Net nonfinancial private sectorexternal debt

(0.3) (11.4) 3.6 (0.5) (3.1) (9.7) (12.7) (6.7) (4.0) (5.4)

Net financial sector external debt (11.3) (8.4) (6.2) (7.1) (4.2) (0.5) (0.8) (0.4) 0.0 0.8

Net investment payments 17.4 17.8 16.5 18.4 16.7 22.4 23.3 17.5 14.4 16.7

Net interest payments 0.0 0.0 0.0 2.0 2.5 19.7 0.6 1.1 1.3 1.3Reserves/CAPs (months) 0.4 0.6 0.9 1.7 2.9 2.3 4.6 3.5 3.9 4.5

Gross ext. financing needs (% ofCARs and usable reserves)

103.3 111.4 87.1 75.7 72.9 84.0 93.8 86.4 83.8 79.9

*Narrow net external debt is defined as the stock of foreign and local currency public and private sector borrowings from nonresidents (including nonresident deposits inresident banks) minus liquid nonequity external assets, which include official foreign exchange reserves, other liquid public sector foreign assets, and financialinstitutions' deposits with and lending to nonresidents. A negative number indicates net external lending. Gross external financing needs are defined as current accountoutflows plus short-term debt by remaining maturity. f--Forecast. e--Estimate. CARs--Current account receipts. CAPs--Current account payments.

External liquidity

Angola's external finances are strong and a key strength for the rating. At the same time, Angola's key vulnerability

on the external front is its heavy reliance on oil exports. Oil constitutes about 95% of exports, supports the

country's current account, and finances Angola's heavy imports of consumer goods, oil-sector-related goods, and

general machinery. The services account has traditionally been in a deficit position, reflecting the large use of foreign

services required for the oil industry. On the income account, repatriation of profits means this is usually in a large

deficit position, a trend that we expect to continue. Current transfers are only a small component of the balance of

payments, as Angola receives very little by way of official external grants. This situation may well change, however,

as Angola has settled outstanding debts with the Paris Club group of creditors and should start receiving some aid.

The fall in oil prices in 2009 saw a drastic reduction in current account receipts. The current account fell from a


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surplus of 7.6% of GDP in 2008 to an estimated deficit of 9.6% in 2009. In 2010 the current account is forecast to

post a surplus of 1.9% due to oil price increases, and from 2011 we forecast that the current account will run strong

surpluses.

Net external debt burden

In addition to a surplus on the current account, the financial account is likely to yield an ample supply of foreign

exchange in the years ahead. The financial account has seen rising public sector external borrowing from

commercial and bilateral lenders, but this has been complemented by rising net FDI. Our forecast assumes a

continuation of these trends. Usable reserves fell sharply in 2009 but we expect them to begin rising in 2010. Gross

external financing needs stood at 94% of usable reserves and current account receipts in 2009 (see table 4), a figure

we consider manageable.

Sonangol's acquisitions abroad contribute to outbound direct and portfolio investment. Private individuals also

contribute to outbound portfolio investment. If Angola were to face balance of payments stress, we think these

private external assets are unlikely to be available to alleviate pressures, given our view that the private sector would

attempt to build up additional foreign assets.

Angola's narrow net external debtor position, at a very low 9% of current account receipts in 2009, is a key

strength for the rating.

Priyanka Dixit provided research assistance for this report.

Related Criteria And Research

Sovereign Defaults And Rating Transition Data, 2009 Update, March 17, 2010

Sovereign Rating And Country T&C Assessment Histories, July 8, 2010

Sovereign Credit Ratings: A Primer, May 29, 2010

Ratings Detail (As Of August 4, 2010)*

Republic of Angola

Issuer Credit Rating B+/Stable/B

Issuer Credit Ratings History

19-May-2010 B+/Stable/B

Current Government

President Jose Eduardo dos Santos, of the Popular Movement for the Liberation of Angola, is head of state and government.

Election Schedule

ParliamentaryLast: September 2008

Next: September 2012*Unless otherwise noted, all ratings in this report are global scale ratings. Standard & Poor's credit ratings on the global scale are comparable across countries. Standard

& Poor's credit ratings on a national scale are relative to obligors or obligations within that specific country.

Additional Contact:Sovereign Ratings; [email protected]

Additional Contact:


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Sovereign Ratings; [email protected]


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