Fitch Affirms Slovakia at 'A+'; Stable Outlook
KEY RATING DRIVERS
Slovakia's 'A+' ratings are supported by its proven ability to attract foreign investment, a solid banking sector and eurozone membership, which ensures a robust and credible economic and financial framework. The ratings are constrained by high external debt and relatively elevated GDP volatility reflecting sector concentration. Government debt, forecast at 53.9% of GDP at end-2016, is higher than the peer median (43.9%), but Fitch forecasts it will gradually decline in the coming years thanks to some fiscal tightening.
Slovakia's 'A+' IDRs reflect the following key rating drivers:
Real GDP grew 3.6% in 2015 and Fitch expects it will moderately slow to 3.1% in 2016, with growth of 3.3% in 2017 and 3.5% in 2018. Growth will primarily be supported by strong consumption in a context of an improving labour market (the unemployment rate was down to 9.8% in June 2016 from 11.4% a year ago). The expected slowdown reflects the EU funds cycle. Increasing private sector investment, notably in the automotive sector, will partially offset lower government investment.
The government deficit was just under 3% of GDP in 2015 and Fitch expects this will narrow in the coming years. This will primarily come from strong growth in government revenues supported by improved economic conditions. Expenditure will also decline as a result of lower government investment linked to the EU funds cycle. The agency expects the deficit will be 2.5% of GDP in 2016, 1.8% in 2017 and 1.6% in 2018. The budget for 2017, 2018 and 2019 will be submitted to the government by mid-August.
Fitch expects government debt will rise to 53.9% of GDP at end-2016 from 52.9% at end-2015 and will then gradually decline, consistent with lower deficits and medium-term growth of around 3%. The main risk to our debt forecasts would be lower than expected GDP growth or a failure to reduce fiscal deficits relative to 2015.
Fitch expects no major change in economic and fiscal policy following the 5 March general elections. The centre-left Smer party lost its parliamentary majority but Smer's Robert Fico remains prime minister, leading a four-party coalition. The coalition contains diverse interests, which makes major economic reforms less likely. There is broad agreement on the need to continue reducing government debt. The government's common platform includes balancing the budget by 2020.
After a few years of current account surpluses, the current account returned to deficit in 2015 (1.3% of GDP) and Fitch expects it to fluctuate close to that level, with a deficit of 1.6% in 2018. Major investment in the automotive industry will translate into increased foreign direct investment inflows over 2016-2018. Alongside some recovery in EU funds disbursements, this should support a decline in net external debt to 32% by 2018 from 39% of GDP in 2015 (according to Fitch's methodology).
Banks are well capitalised and liquid. The sector is predominantly foreign-owned (Austria and Italy) and funded locally by a stable deposit base. Fitch estimates bank lending to the private sector grew 11% yoy in 2015. Credit to households has grown rapidly in recent years and the household debt/income ratio is 55%. The central bank is introducing a new 0.5% countercyclical capital buffer from August 2017.
World Bank governance indicators on rule of law and control of corruption are weaker than the median for 'A' rated peers.
SOVEREIGN RATING MODEL (SRM) and QUALITATIVE OVERLAY (QO)
Fitch's proprietary SRM assigns Slovakia a score equivalent to a rating of 'A+' on the Long-term FC IDR scale.
Fitch's sovereign rating committee did not adjust the output from the SRM to arrive at the final LT FC IDR
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.
The Stable Outlook reflects Fitch's assessment that upside and downside risks to the rating are evenly balanced. The following risk factors could individually or collectively trigger negative rating action:
-Relaxation in the fiscal stance and/or failure to reduce the debt/GDP ratio in the medium term.
-An economic shock that would affect the automotive industry (39% of added value and 9% of employment including suppliers) and damage economic and fiscal stability.
The main factors that could trigger positive rating action are:
- A firm decline in government debt supported by a track record of lower government deficits.
- A decline in net external debt that reduces external vulnerabilities.
- Higher GDP growth potential, supported by economic reforms, that helps accelerate convergence towards EU income per capita levels.
Fitch assumes that under financial stress, support for foreign-owned Slovakian banks would be forthcoming from their parent banks.