August 26 (SeeNews) - Fitch Ratings said that it has affirmed Bulgaria's Long-Term Foreign-Currency Issuer Default Rating (IDR) at 'BBB' with a positive outlook.
Fitch forecasts average real gross domestic product (GDP) growth of 3.3% in the 2019-2021 period, which is broadly in-line with Bulgaria's five-year average and the 'BBB' median, the ratings agency said in a statement on Friday.
Fitch also said in its statement:
"KEY RATING DRIVERS
Bulgaria's ratings are supported by its sound external and public finances, credible policy framework aimed towards gradual accession to euro membership and stable growth prospects. The ratings are constrained by slightly lower income levels compared with the current 'BBB' median and unfavourable demographics, which could hinder growth and weigh on government finances over the long term. Governance indicators are in line with peers.
Bulgaria formally started the process to join the Exchange Rate Mechanism (ERM II) and the Banking Union in July 2018. Fitch believes the Bulgarian authorities and European partners remain commited to finalising the process by end-2019, with euro adoption in January 2023 at the earliest. The legal measures related to ERM II commitments have been approved or are expected to be finalised in the autumn once parliament reconvenes. The European Central Bank (ECB) has also published the results of its comprehensive assessment of banks where it identified capital shortfalls in two of the six institutions assessed. Follow up steps are now being taken. All else being equal, Fitch would likely upgrade the Long-Term Foreign-Currency IDR by two notches between admission to the ERM II and joining the euro.
Fitch forecasts average real GDP growth of 3.3% in 2019-2021, broadly in-line with its five-year average and the 'BBB' median. Economic performance surprised on the upside in 1H19, primarily due to a stronger-than-projected recovery of exports on the back of one-off factors and positive terms of trade. Private consumption has remained resilient, supported by strong average wage growth (up 12% in 1H19), positive labour dynamics and favourable financing conditions. However, growth momentum is expected to slow in the near term as the external environment becomes more challenging, given the weak economic outlook for key trading partners such as Germany and Turkey. On the upside, continued large inflows of EU funds (including over the next EU budget cycle) will serve as a cushion against adverse economic developments.
Bulgaria faces a number of structural challenges in order to spur faster potential growth (currently 3%) and accelerate income convergence with th EU. These include adverse demographics, skill shortages, inadequate infrastructure and governance issues. At end-2018, GDP per capita at purchasing power parity was only 50% of the EU average and 60% of the current 'A' median. While there has been limited success in reversing population decline (which has averaged 0.7% per year since 2007), the country has made progress in raising productivity and sustaining competitiveness. Improving the efficiency of public investment - particularly in regards to the EU fund cycle - would lift GDP growth in the near to medium term.
Inflation has picked up slightly in 2019, averaging 2.6% in the first seven months of the year, as a result of one-off factors affecting food prices (including a poor harvest and higher import prices). Planned electricity tariff hikes in 3Q will continue to put some upward pressure on inflation, but core inflation remains relatively stable. Like other countries in the region, there has been limited pass through from higher wages into prices and our expectation is for headline inflation to start falling by end-2019 and to remain relatively stable in 2020-2021 (averaging 2.5%). This should help maintain external competitiveness.
Adverse global trade conditions have yet to affect Bulgaria's strong external finance metrics. The current account surplus reached a record 6.9% of GDP in May on a 12-month rolling basis, bolstered by higher exports of goods and services and a narrowing of the primary income deficit. Although export growth is set to lose momentum, we expect Bulgaria will continue to post current account surpluses in 2019-2021 averaging 3.3% of GDP. Combined with strong capital transfers related to EU funds, this will lead to a further improvement in the country's net external creditor position, to 25.8% of GDP by 2021 compared with the current 'BBB' median net debtor position of 8.6%.
A favourable macroeconomic environment and cautious policies continue to support a strong fiscal position, with Fitch forecasting an average fiscal surplus of 0.2% of GDP in 2019-2021. In cash terms, the public sector had a surplus of 2.8% of GDP in 1H19, bolstered by a strong rise in revenue (16%). Expenditure growth was more muted but is set to accelerate by year-end, in line with higher capital spending and planned pension hikes. The authorities' decision in July to purchase eight military planes totalling BGN2.1 billion will have a net negative impact on the 2019 budget of 1.7% of GDP in cash terms. On an accrual basis, the budget will be impacted only once the aircraft are delivered (most likely in 2023). There is no effect on gross debt from the purchase of military aircraft, as this was made using cash from the Fiscal Reserve Fund (which stood at BGN11.6 billion in June, over 10% of GDP).
Fiscal risks are mitigated by a strong track-record of fiscal prudence (including during electoral cycles), high buffers and low and declining debt levels. Fitch forecasts general government debt to fall to 17.9% of GDP in 2021, compared with the current 'BBB' median of 39.4% and consistent with Bulgaria's Convergence Programme Targets. Entry into ERM II would also likely to serve as an aditional anchor for maintaining fiscal stability in 2019-2021.
The banking sector remains stable, supported by adequate capitalisation and strong liquidity, while asset quality continues to improve (the non-performing loan ratio fell to 7.4% in 1Q19, the lowest level in almost a decade). Credit growth has moderated somewhat to 6% yoy in 1H19 (from 8.4% in 2018) but growth rates in consumer loans (10.6%) and mortgages (11.8%) remain strong. To prevent an over-stretched credit cycle, the Bulgarian National Bank has increased the countercyclical capital buffer to 0.5% from October 2019 and to 1% from April 2020.
Bulgaria's governance indicators remain in line with its 'BBB' peers. Despite a history of unstable governments and various institutional constraints, there is broad-based political consensus in terms of macro-economic policy and in favour of integration with the eurozone.
ESG CONSIDERATIONS
Bulgaria has an ESG Relevance Score of 4 for Human Rights and Political Freedoms as World Bank Governance Indicators, which have the highest weight in Fitch's Sovereign Rating Model (SRM), are relevant to the rating and a rating driver.
Bulgaria has an ESG Relevance Score of 5 for Political Stability and Rights as World Bank Governance Indicators have the highest weight in Fitch's SRM and are highly relevant to the rating and a key rating driver with a high weight.
Bulgaria has an ESG Relevance Score of 5 for Rule of Law, Institutional & Regulatory Quality and Control of Corruption as World Bank Governance Indicators have the highest weight in Fitch's SRM and are therefore highly relevant to the rating and are a key rating driver with a high weight. Some of these issues have held back implementation of structural reforms and hindered medium-term growth potential.
Bulgaria has an ESG Relevance Score of 4 for Creditor Rights as willingness to service and repay debt is relevant to the rating and is a rating driver for Bulgaria, as for all sovereigns.
SRM and QUALITATIVE OVERLAY (QO)
Fitch's proprietary SRM assigns Bulgaria a score equivalent to a rating of 'BBB+' on the Long-Term Foreign-Currency (LT FC) IDR scale.
Fitch's sovereign rating committee adjusted the output from the SRM to arrive at the final LT FC IDR by applying its QO, relative to rated peers, as follows:
-Macroeconomics: -1 notch, to reflect Fitch's view that structural bottlenecks, particularly adverse demographic trends, constrain potential growth compared with peers.
Fitch's SRM is the agency's proprietary multiple regression rating model that employs 18 variables based on three-year centred averages, including one year of forecasts, to produce a score equivalent to a LT FC IDR. Fitch's QO is a forward-looking qualitative framework designed to allow for adjustment to the SRM output to assign the final rating, reflecting factors within our criteria that are not fully quantifiable and/or not fully reflected in the SRM.
RATING SENSITIVITIES
The main factors that could, individually or collectively, lead to positive rating action are:
- Progress toward eurozone accession, including formal admission into ERM II.
- An improvement in growth potential that leads towards faster convergence with income levels of higher rate peers without creating imbalances.
- Continued improvement in external and fiscal balance sheets.
The main factors that could, individually or collectively, lead to negative rating action are:
- Re-emergence of external imbalances and/or deterioration of external competitiveness.
- A sharp rise in public debt driven by fiscal easing or the materialisation of contingent liabilities on the sovereign's balance sheet.
KEY ASSUMPTIONS
- Fitch assumes the Bulgarian authorities will maintain continuity in economic and fiscal policies, and in relations with the EU.
- The global economy performs in line with Fitch's Global Economic Outlook.
The full list of rating actions is as follows:
Long-Term Foreign-Currency IDR affirmed at 'BBB'; Outlook Positive
Long-Term Local-Currency IDR affirmed at 'BBB'; Outlook Positive
Short-Term Foreign-Currency IDR affirmed at 'F2'
Short-Term Local-Currency IDR affirmed at 'F2'
Country Ceiling affirmed at 'A-'
Issue ratings on long-term senior unsecured debt affirmed at 'BBB'"