October 2 (SeeNews) - Moody's Investors Service has changed the outlook on Montenegro's B1 long-term issuer and senior unsecured debt ratings to stable from negative.
The key drivers of the upgrade are the Montenegrin government's consolidation measures, the large investment projects in transportation, tourism and energy, as well as the progress in EU accession negotiations and the country's NATO membership, Moody's said in a statement late on Friday.
The affirmation of Montenegro's B1 sovereign ratings reflects its relatively high wealth compared to similarly rated peers, its EU accession prospects, moderate institutional strength, debt-funded growth strategy and moderate event risk, driven by banking sector risk and to a lesser extent, the economy's dependence on foreign funding, Moody's noted.
Montenegro's long-term foreign currency bond and deposit ceilings were maintained at Ba1 and B2, respectively. The short-term foreign currency bond and deposit ceilings remain Not Prime.
The ratings agency also said:
"RATINGS RATIONALE
RATIONALE FOR STABLE OUTLOOK
FIRST DRIVER: CONSOLIDATION MEASURES LIKELY TO STABILIZE FISCAL POSITION
The first driver for changing the outlook to stable from negative relates to Moody's greater confidence that the authorities' fiscal consolidation plans will stabilize and then begin the reverse the recent deterioration in the government's debt metrics. Significant fiscal consolidation measures comprising higher revenue generation and expenditure cuts were adopted in June 2017, which came on top of measures taken to tackle pension and public-sector wages towards the end of 2016. The latest adjustments aim to reduce fiscal risks by rolling back the pro-cyclical fiscal policy that had eroded the government's fiscal space in recent years, resulting in a greater than twofold rise in the debt-to-GDP ratio to 68% in 2016 from 28% in 2008.
In our view, regaining fiscal space is especially important in Montenegro's case due to the full euro-ization of the economy, which leaves fiscal policy as its main macro tool. The recent tightening of the fiscal policy stance and the commitment of the government to reduce government debt and contingent liabilities are expected to help stabilize Montenegro's fiscal position. According to the authorities, the accumulated fiscal consolidation measures taken together will amount to almost 3% of GDP between 2017 and 2020, with the largest effect coming in 2018. Together with robust economic growth, we expect the fiscal deficit to narrow in the coming years and the debt-to-GDP ratio to start to decline after peaking at around 75% in 2019.
The main risk to the fiscal outlook remains the costs of constructing the priority section of the Bar-Boljare highway until its completion in 2019. Highway-related fiscal risks include possible delays to implementation and the foreign currency risks associated with the dollar-denominated loan taken from China in 2014. Additionally, while the authorities hope to attract private investors to build the remaining legs of the highway project, Moody's believes that risks persist that the government would eventually be exposed to some form of risk sharing to complete the project.
SECOND DRIVER: STRONGER MEDIUM-TERM GROWTH POTENTIAL SUPPORTED BY LARGE INVESTMENT PROJECTS
The second driver for changing Montenegro's rating outlook to stable is Moody's expectation that the large public and private projects currently underway in the transportation, tourism and energy sectors will strengthen Montenegro's medium-term growth potential and the economy's resilience to shocks. These investments are likely to reduce Montenegro's infrastructure bottlenecks, which have been problematic, as reported also by the World Economic Forum's Executive Opinion Survey. Moody's expects potential growth to rise to around 3%, an acceleration from the average growth rate of 1.7% between 2008 and 2016.
The continued expansion of capacity in the tourism sector to attract wealthier tourists is supporting an increase in Montenegro's potential growth. In 2016, 20 new large hotels were opened out of which 42% were 4- or 5-star hotels. Additionally, new flight routes are being opened to more Western European locations, although the capacities of the airports remain a constraint.
Large energy projects now under construction will both support investment and Montenegro's export potential. The most important of these is an undersea power cable connecting Montenegro and Italy -- a link of the 400 kV Trans-Balkan Electricity Corridor connecting Serbia, Bosnia and Montenegro to the EU grid -- that will be completed this year. This project is expected to make Montenegro an important energy hub in the region, increasing the country's competitiveness and encouraging investments in new energy sources, particularly renewables.
THIRD DRIVER: PROGRESS IN EU ACCESSION PLUS NATO MEMBERSHIP STRENGTHEN INSTITUTIONS
The third driver for stabilizing Montenegro's rating outlook is the further progress that has been made on strengthening institutions in the country as the government continues its determined pursuit of EU accession. While Moody's does not expect Montenegro to join the EU earlier than 2020, the ongoing success achieved in bringing the legal and operational framework into line with EU norms enhances local operating conditions and the country's attractiveness to foreign direct investment (FDI).
28 out of the 35 total EU negotiation chapters have been opened and three chapters (chapter 25: science and research, chapter 26: education and culture and since 20 June chapter 30: external relations) are provisionally closed. Montenegro is thus a front-runner in EU accession negotiations compared to peers such as Serbia (8 chapters opened since 2014) and Albania (no chapters opened since 2014). In addition, Montenegro benefits from EU assistance amounting to around 1% of GDP per year under the Second Instrument for Pre-accession (IPA2) for the period 2014-2020, which aims to support the implementation of key reforms.
Additionally, Montenegro officially became the 29th NATO member on 5 June 2017. Both the progress in the EU negotiation process and NATO membership support the country's investment climate and mitigate Montenegro's external vulnerability risks, which is primarily driven by its large current account deficits and the associated dependence on foreign funding.
RATIONALE FOR AFFIRMATION OF THE B1 RATING
The factors supporting the rating affirmation include Montenegro's higher wealth and stronger institutions compared to similarly rated peers. Montenegro's position in the Worldwide Governance Indicators compares favorably to regional peers: Montenegro fares better compared to Serbia, Albania, Bosnia and Herzegovina and Moldova in the key categories, including rule of law, government effectiveness and control of corruption. Balanced against these strengths are Montenegro's small scale and limited economic diversification, the government's relatively high debt-to-GDP levels and the economy's heavy reliance on foreign funding.
WHAT COULD CHANGE THE RATING UP/DOWN
Positive pressure on Montenegro's credit profile would emerge should the planned fiscal consolidation effort place the government's debt trajectory on a sustainable downward path. Also positive would be the completion of a majority of the EU's acquis communautaire, which would support progress towards EU accession. Equally, a reduction in contingent liabilities, stemming from a combination of materially lower government guarantees and lower risks posed by banks and SOEs, would also be credit positive. Finally, further improvements in external competitiveness gained from the implementation of FDI-funded projects in the tourism and renewable energy sectors, as well as a material reduction in external vulnerability, would support Montenegro's sovereign credit profile.
Downward pressure on Montenegro's credit profile would develop should the government's debt metrics and contingent liabilities continue to deteriorate substantially above our baseline expectations and/or fail to shift to a downward trajectory, possibly related to the Bar--Boljare highway project. Other negative factors would be a weakening of Montenegro's external position, likely reflecting the failure of efforts to gain competitiveness and grow tourism and other export-oriented industries."