March 23, (SeeNews) - Standard & Poor's said it affirmed Macedonia's long-term and short-term foreign and local currency sovereign credit ratings at BB-/B with a stable outlook.
"The stable outlook reflects the balance between the risks from Macedonia's rising public debt and remaining political uncertainty over the next 12 months, and the country's favorable economic prospects," the ratings agency said in a statement last week.
S&P also said in the statement:
"We could raise our ratings on Macedonia if reforms directed toward higher and broader-based economic growth led to a faster increase in income levels than in our base-case scenario, alongside improved effectiveness and accountability of public institutions and policymaking.
We could lower the ratings if major political tensions returned, impairing growth and foreign direct investment (FDI) inflows and undermining the country's longer-term growth prospects. We could also lower the ratings if large fiscal slippages or off-budget activities were to call into question the sustainability of Macedonia's public debt, raise the sovereign's borrowing costs, and substantially increase its external obligations, given the constraints of the exchange-rate regime.
RATIONALE
The ratings on Macedonia reflect our view of the country's relatively low income levels; comparatively weak checks and balances between state institutions, coupled with the still-fragile political environment; and limited monetary policy flexibility arising from the country's fixed-exchange-rate regime. The ratings are primarily supported by moderate--albeit rising--external and public debt levels and favorable growth potential.
Institutional and Economic Profile: Improved political stability and progress on the name dispute should support confidence and accelerate growth
In our view, political stability has improved in the aftermath of government formation in May 2017, and more recently there has been some progress in resolving the name dispute with Greece.
Nevertheless, downside risks to policy remain, including from the administration's narrow parliamentary majority and a lack of clear fiscal consolidation path. We expect economic growth to gradually accelerate toward 3% in 2019, primarily supported by recovering investments.
In our view, political stability improved in the aftermath of the formation of the government in May 2017. Previously, Macedonia endured a long-lasting period of volatility, culminating in early elections at the end of 2016, and a subsequent parliamentary gridlock. The new government is centered around the Social Democratic Union for Macedonia (SDSM) party and includes the Democratic Union for Integration (DUI)--the Albanian minority party. The coalition currently relies on 60 out of 120 MPs but is also supported by several other MPs giving it a slim majority. The central position of SDSM on Macedonia's political stage has been bolstered by the results of the October 2017 local elections, which saw a large swing of support toward SDSM and away from VMRO-DPMNE (Internal Macedonian Revolutionary Organization – Democratic Party for Macedonian National Unity), which previously governed Macedonia for over a decade.
In terms of policy direction, the new government has articulated a few key goals. Expediting the accession process to NATO and EU remains a priority. Closely related to this is the so called 3-6-9 plan, which outlines a set of important reforms, including in the areas of the judiciary and public administration. In addition, reforms to enhance the transparency of public finances and procurement procedures are planned.
We note that some progress in the aforementioned areas has already been achieved. For instance, the government took steps to improve the transparency of its fiscal accounts. The new administration also took a more dovish approach toward resolving the name dispute with Greece, which is central for Macedonia's NATO and EU accession. The disagreement between the two countries has lasted for decades and stems from Greece's objection to the use of the name "Republic of Macedonia" given the existence of a similarly-named region in Greece.
However, despite the aforementioned improvements, several risks remain. Specifically:
The administration's narrow parliamentary majority could constrain reform momentum. Previously, Alliance for Albanians (AA) exited the coalition, following some disagreements with SDSM. The government is now informally supported by several MPs outside the coalition, but the dynamics could change. Importantly, a two-thirds majority is required for passing several key legislative reforms, such as potential constitutional amendments related to resolving the name dispute. Given the opposition VMRO-DPNE's regular boycott of parliament, that may be difficult to achieve.
Although it appears to have reduced, the possibility of tensions between ethnic Macedonians and Albanians remains. This is particularly so as the government is moving forward with the Albanian language law. The law was passed on March 14, 2018, amid disagreements surfacing in parliament. It remains unclear whether the president will sign it.
The name dispute could still take time to resolve, despite notable recent progress. We note recent protests--both in Macedonia and in Greece--against the proposed approach, which could present an obstacle to a speedy resolution. In addition, it is not clear if the final deal will mean that Macedonia's constitution has to be amended, and how the required parliamentary majority for that will be reached.
We also believe that, despite the announced commitment to fiscal consolidation, precise measures are unclear and predominantly rely on improved revenue performance. This represents a downside risk to public finances.
Macedonia's recent episodes of political volatility have taken a toll on the economy. In 2016, growth slowed to 2.9% from 3.9% in 2015 and output stagnated in 2017. We expect growth will strengthen to 3% by 2019, driven by investments, both in private and public sector, following improved political stability. In addition, we expect a more upbeat dynamic of net exports benefiting from favorable foreign trade conditions and the gradual diversification of Macedonia's export basket.
Downside risks to our forecasts remain, not least if the political crisis intensifies again. With GDP per capita estimated at $5,800 in 2018, Macedonia remains a low-income economy. In recent years, the government has attempted to attract FDI to special free economic zones, capitalizing on the country's comparatively favorable tax regime, low labor costs, and proximity to European markets. In our view, were major political tensions to return, this could weigh on growth if a substantial portion of foreign investments are cancelled or postponed.
Political risks aside, we believe that the economy's long-term growth prospects could benefit from the expansion of free economic zones and their better integration into the local economy by using local suppliers. We note that, so far, most inputs for goods assembled by foreign companies have been imported. Consequently, the free zones' impact on the rest of the economy has been less than might be expected and largely confined to employment. Flexibility and Performance Profile:
Although the public debt burden remains moderate, leverage will continue rising in line with projected fiscal deficits
Macedonia's public debt burden remains moderate in a global context.
Nevertheless, the projected deficits will add to the country's debt stock, and we forecast net general government debt (including obligations of the Public Enterprise for State Roads [PESR]) will rise to 47% of GDP by 2021.
Although Macedonia's monetary flexibility is higher than that of other Balkan states, the denar's peg to the euro constrains the policies of the National Bank of the Republic of Macedonia (NBRM)."