January 15 (SeeNews) - Fitch Ratings said it has upgraded Croatia's long-term foreign- and local-currency issuer default ratings (IDRs) to 'BB+' from 'BB', with a stable outlook.
The upgrade of Croatia's IDRs reflects, among other things, strengthening tourism revenues, a current account surplus, and stronger consumption and investments, the ratings agency said in a statement late on Friday.
Fitch also said:
"Strengthening tourism revenues have underpinned a sustained improvement in Croatia's external position. The current account moved into surplus in 2013 and is forecast by Fitch to remain in surplus throughout the forecast period to 2019. A record tourism season and lower profit remittances from foreign-owned banks is estimated to have lifted the current account surplus to 3.9% of GDP in 2017, from 2.7% in 2016. The import-dependence of much economic activity means the strengthening consumption and investment projected over the forecast period will narrow the surplus to 2% of GDP in 2019.
Current account surpluses and solid inflows of non-debt capital are supporting a marked reduction in net external debt. Fitch projects net external debt to drop to 16% of GDP at end-2019 from an estimated 26% at end-2017 and 52% at end-2014, taking it towards the 'BB' median of 12%. The non-bank private sector is expected to be the main source of deleveraging in 2018, reflecting rising corporate profits being used to pay down external debt and the restructuring of Agrokor. The sovereign's estimated move to a net external creditor position in 2017 was supported by exchange rate effects and periodic purchases of FX to alleviate upwards pressure on the kuna.
Medium
Fiscal outturns have outperformed the budget for the second consecutive year, with a general government surplus recorded in 2017 (the first under ESA2010 methodology) compared with a targeted deficit of 1.3% of GDP. A cyclical improvement in revenues and ongoing spending restraint has been complemented by reforms that reduce the complexity of the tax system. Fitch expects a return to deficit in 2018 (a deficit of 0.5% is budgeted) reflecting modest increases in public-sector pay, higher co-financing for EU-funded projects and less likelihood of upside revenues surprises. Nonetheless, fiscal performance will remain much strong than in recent years. The general government deficit is projected to average 0.4% between 2016 and 2019 compared to 4.7% in the previous four years.
Primary surpluses and a return to growth have pulled down general government debt/GDP from a peak of 85.8% at end-2014 to around 78% of GDP at end-2017. Exchange rate moves supported the near 6pp fall during 2017, but are a source of vulnerability, as around 75% of general government is foreign currency-denominated, although the government's commitment to a euro adoption strategy partly mitigates some of this risk. Liability management operations are reducing debt servicing costs. Re-profiling of expensive road company debt that falls within the general government perimeter (totalling 10.5% of GDP) began in 2017.
With primary surpluses expected in 2018 and 2019, debt/GDP will continue to fall, to a forecast 70.9% of GDP by end-2019, although this will remain well in excess of the projected 'BB' median of 45%. In contrast, debt/revenue is now in line with the peer median, at 166% at end-2017, reflecting the broad and deep revenue base.
Croatia's 'BB+' IDRs also reflect the following key rating drivers:-
Economic growth stayed at 3% in 2017 as Croatia benefited from a strong cyclical position, rising EU fund disbursements, buoyant tourism and tax reforms. Growth should remain around this level over the forecast period due to solid labour market dynamics and higher EU fund disbursements being offset by rising imports. Signs of overheating are not expected to emerge and inflation should stay low. Despite the improvement in growth, it remains sluggish relative to peers (a five-year average of 1.5% compares with the 'BB' median of 3.5%) reflecting structural economic weaknesses including high private sector debt, low investment and adverse demographics. 2017 marks the first year that nominal GDP exceeded its 2008 peak.
Financial problems at Agrokor, the country's largest private sector company by revenues and employment, have not had a significant macroeconomic impact and have been weathered by the banking sector, although risks remain. Fitch's base case is that Agrokor restructuring will not cause major disruption to the economy or financial sector, but challenges remain, including legal issues.
Bank profits have been hit by Agrokor provisioning. However, the 90% foreign-owned sector has remained profitable and sector-wide capital adequacy remains strong, at 22.6% at end-September. NPLs for corporates remain high, at 28.3%, but are falling due to rising NPL sales; total NPLs were 13.2%. Consumer lending is rising after a multiyear retrenchment. Lending to corporates should pick up when Agrokor-related uncertainty diminishes.
Croatia's structural features compare very favourably with 'BB' medians. GDP per capita is more than twice the median; governance indicators, human development index and doing business indicators are also stronger than peers, supported by EU membership. The coalition government, installed in June 2017, has worked smoothly despite its small majority.
SOVEREIGN RATING MODEL (SRM) and QUALITATIVE OVERLAY (QO)
Fitch's proprietary SRM assigns Croatia 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:
- Macro: -1 notch to reflect weak medium-term growth potential
- Public Finances: -1 notch, to reflect the non-linearity of public debt at high levels not captured in the SRM and the large related refinancing needs
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, individually or collectively, could lead to positive rating action are:
- Continued reduction in public debt/GDP
- Strengthening of growth prospects and competitiveness, including through the implementation of structural reforms
The main factors that, individually or collectively, could lead to negative rating action are:
- A reversal of fiscal consolidation leading to a rise in public debt/GDP
- Deterioration in growth prospects
KEY ASSUMPTIONS
Fitch expects Croatia's track record of monetary and exchange rate policy stability to continue, minimising the risk of household, corporate and government balance sheets, all of which are heavily euroised.
Fitch assumes that the eurozone will grow by 2.2% in 2018 and 1.7% in 2019
The full list of rating actions is as follows:
Long-Term Foreign-Currency IDR upgraded to 'BB+' from 'BB'; Outlook Stable
Long-Term Local-Currency IDR upgraded to 'BB+' from 'BB'; Outlook Stable
Short-Term Foreign-Currency IDR affirmed at 'B'
Short-Term Local-Currency IDR affirmed at 'B'
Country Ceiling revised to 'BBB' from 'BBB-'
Issue ratings on long-term senior unsecured foreign-currency bonds upgraded to 'BB+' from 'BB'
Issue ratings on long-term senior unsecured local-currency bonds upgraded to 'BB+' from 'BB'
Issue ratings on short-term senior unsecured foreign-currency bonds affirmed at 'B'
Issue ratings on short-term senior unsecured local-currency bonds affirmed at 'B'"