Prof Dušan Vujović, Finance Minister: Ratings important for both, international investors and Serbian authorities

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The continuation of reforms and sustainability of macroeconomic results is subject to usual domestic and exogenous risks. The Presidential elections confirmed with huge majority the orientation to continue the scope and content of reforms initiated in late 2014

On March 17, 2017 Moody’s finally upgraded Serbia’s rating from B1 to Ba3. A small but important step signaling an exit from the “highly speculative” territory to a promising “non-investment grade” zone. This is only two steps away from the investment grade (Baa3 for Moody’s and BBB- for S&P and Fitch), hopefully within reach in few years if:

  1. the present pace of reforms is owned and sustained with already established track record of overachievement in policy reforms and economic growth results;
  2. and (b) these reforms and real performance are properly recognized by international investors and rating agencies.

The significance of this change for international investors and Serbian authorities is at least twofold. It aligns key rating agencies at the same level with stable or positive outlook, and thus eliminates an evaluation bias (gap) and instability of ratings which both tend to be present in the initial stages of reform and greatly affect decisions of (institutional) investors. More importantly, this upgrade is earned. It is based on solid track record of fiscal consolidation, structural and institutional reforms which underpins Moody’s decision to wait a full year between indicating a “positive outlook” in March 2016 and confirming a rating upgrade now. Rating agencies should be consistently conservative and reserved in rendering their views, and firm in defending their decisions.

This was not always the case in the early years of transition. Many countries (including Serbia) have received higher ratings based on the introduction of legal and institutional reforms. The intention was to boost the capital flows to transition economies and accelerate the pace of economic growth, as well confirm the efficiency of market based democracy. Unfortunately, the necessary pace of reforms and economic performance could not always be sustained to justify the granted credit ratings. The resulting downgrades and changes in outlook (from “positive” to as low as “”negative watch”) eroded the credibility and stability of the suggest rating system.

The example of Serbia is telling. In March 2012 Serbia received an improved rating from Standard and Poor (from BB- to BB) only two months before the crucial elections and in the absence of an IMF program. The rating was adjusted back to BB- with negative outlook by early August, even before the new government took charge and could affect the economic and reform performance. By contrast, significant results in fiscal consolidation, macroeconomic stability, and external balance achieved since the last quarter of 2014 have yet to be properly recognized in the ratings.

Standard and Poor kept the BB- rating during the 30 months of reforms and only once changed the outlook from “negative” (April 2014) to “positive” (December 2016). This is really too little for the turnaround in economic growth from negative to positive during the austerity stage of the fiscal consolidation, and the significant reduction in twin deficits. Current account balance to 4 percent of GDP, and fiscal deficit of the general government to 1.4 percent of GDP (from -6.6 percent of GDP in 2014). Not to mention the turning point in debt to GDP ratio passed in late 2016.

Fitch started from a lower rating (B+) — downgraded from BB- in early 2014, but did two adjustments: from B+ stable to positive in December 2015, followed by an upgrade from B+ positive to BB- stable in June 2016. I would expect that the next review will fully recognize the quality and sustainability of results achieved thus far and reflect this in the ratings.

The markets have already done that to a large extent. On Eurobonds Serbia was faced with a 378-561 bps spread during the 2011-2013 period, which systematically declined to 200-300 bps in 2014-2017 period. Another illustrative market recognition of Serbia performance and investors perception during the reform period is the 3 percentage points reduction in the Government bonds issued in Euros between Q4 2014 and Q4 2016. Third illustration is the fall in the interest rates of the dinar denominated 7-year Government bonds. The interest rate went down from 12 percent annually to 5.83 percent (weighted average) in 2016, more than a 6 percentage points reduction.

Domestic markets and banks are already recognizing these trends and currently refinance loans to public utility companies at below 3 percent annually, a 3-4 percentage points below rates original negotiated 5-6 years ago.

Obviously, the continuation of reforms and sustainability of macroeconomic results is subject to usual domestic and exogenous risks. The Presidential elections confirmed with huge majority the orientation to continue the scope and content of reforms initiated in late 2014, with added emphasis on employment and shared prosperity through the creation of new jobs and greater public and private investment.

I expect that rating agencies will soon start another round of dialogue with us to fully understand and appreciate the content and commitment to reforms in Serbia.

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