Belarus Long-Term Ratings Raised To 'B' On Stronger Growth And Secured External Financing; Outlook Stable
Oct. 6, 2017
(The following statement was released by the rating agency)
- We expect Belarus' GDP growth to average close to 2% annually in 2017-2020.
- Through Eurobond issuance and official loans, Belarus has secured the majority of its financing needs for 2018.
- We are therefore raising our long-term ratings on Belarus to 'B' from 'B-'.
- The stable outlook reflects our expectation that Belarus' external imbalances will reduce moderately while the fiscal stance remains comparatively tight over the next 12 months. It is also based on our expectation that the government will be able to successfully implement refinancing plans for debt falling due beyond 2018.
On Oct. 6, 2017, S&P Global Ratings raised its long-term local and foreign currency sovereign credit ratings on the Republic of Belarus to 'B' from 'B-'. At the same time, we affirmed the local and foreign currency short-term ratings at 'B'. The outlook on the long-term ratings is stable.
The stable outlook reflects our expectation that Belarus' external imbalances will reduce moderately while the fiscal stance remains comparatively tight over the next 12 months. It is also based on our expectation that the government will be able to successfully implement refinancing plans for debt falling due beyond 2018.
We could consider lowering the ratings if the government's refinancing plans came under threat in the future, for example due to a reversal of political and economic support from Russia. We could also take a negative rating action if contingent fiscal risks from the banking or public enterprise sectors were to crystalize at higher levels than we expect on the sovereign balance sheet.
We could consider an upgrade if Belarus implemented a credible reform program that resulted in a substantial reduction of the country's external vulnerabilities, and addressed weaknesses in the public enterprise and bank sectors.
The upgrade reflects Belarus' economic growth exceeding our expectations. Although the expansion of output throughout 2017 is mainly due to cyclical rather than structural factors, we believe it is nevertheless positive for sovereign creditworthiness. In our view, the stronger growth forecast over the next four years will support better fiscal performance and the standing of the banking system.
In addition, the upgrade takes into account Belarus' securing of foreign financing, which should allow it to meet the upcoming external public debt payments in 2018. Through two Eurobond issues amounting to a combined $1.4 billion in June this year, Belarus has also managed to beef up its gross foreign exchange reserves, providing a short-term balance-of-payments buffer.
Our ratings on Belarus are primarily supported by the potential for financial assistance from the Russian government, which has been extended multiple times in the past despite occasional disputes between the two countries.
Still, the ratings are constrained by the country's low institutional effectiveness, vulnerable fiscal and balance of payments positions, and the limited effectiveness of the monetary policy conducted by the National Bank of the Republic of Belarus (NBRB; the central bank).
Institutional and Economic Profile: Growth set to moderately strengthen as trade partners' economic performance firms up
- We expect a cyclical strengthening in Belarus' economy, largely reflecting the better anticipated performance of key trade partners.
- Growth is also supported by a normalization of relations with Russia following the resolution of the gas price dispute.
- The domestic institutional environment remains weak, characterized by high centralization of power and limited checks and balances between state institutions.
According to official estimates, the economy of Belarus expanded by 1.6% over the first eight months of 2017 in year-on-year terms. Having previously forecast no growth, we now anticipate full-year growth of 1.8%. In our view, several factors underpin the stronger macroeconomic dynamics.
First, we believe headline growth has been supported by the normalization in the bilateral relations between Russia and Belarus. A dispute previously arose after Belarus unilaterally reduced the price it pays for Russian gas, after which Russia responded by lowering the amount of duty-free oil supplied to Belarus' export-oriented refineries. We understand that following its apparent resolution earlier in April, the supplies of oil have picked up, contributing to growth in industrial output of over 6% year-on-year through August. Our baseline forecast is that bilateral relations will remain stable over the medium term, although they have tended to be volatile in the past and the emergence of new disputes cannot be ruled out.
Second, we consider that the economic performance of Belarus' trade partners is gradually strengthening. Russia plays an important role here as well, as a key market where close to 50% of Belarus' goods are exported. We forecast that growth in Russia will average close to 2% over 2017-2020 following two years of recession. Firmer growth in the EU should also favor cyclical recovery in Belarus.
Nevertheless, beyond cyclical developments, we see limited potential for structural growth improvements. Belarus issued a Eurobond in June and, following the warming of relations with Russia, was able to receive a $700 million bilateral loan. Furthermore, financing from the Eurasian Fund for Stabilization and Development (EFSD) resumed. We estimate that these resources should allow the government to meet its debt repayments in 2018. As such, the need to engage in a funded IMF program has diminished and, consequently, the incentives to implement major structural reforms have also likely reduced.
In our view, over the last few years the authorities have taken several important policy steps, including adhering to a tighter fiscal policy and transitioning to a more flexible exchange rate arrangement. Nevertheless, we believe that several fundamental weaknesses are still characteristic of Belarus and as such constrain the country's development prospects. These include the state's pervasive role in the economy, which ultimately results in an inefficient allocation of resources and the existence of a multitude of lossmaking public enterprises. Consequently, although strengthening, Belarus' growth rates would still remain below those of countries with a similar level of economic development.
More broadly, Belarus' institutional effectiveness remains weak, with President Alexander Lukashenko controlling the government's branches of power. High centralization of power makes policymaking difficult to predict and we believe there are only limited checks and balances in place between various state institutions. The so-called "unemployment tax" sparked public protests at the beginning of the year, but they have since subsided. We do not anticipate any major changes in Belarus' political arrangements over the next few years.
Flexibility and Performance Profile: Balance-of-payments vulnerabilities remain a key risk
- Balance-of-payments risks remain a key factor constraining the sovereign ratings.
- Although fiscal policy will remain tight, public debt will continue to grow, reflecting the projected moderate currency weakening and crystallizing contingent liabilities.
- Monetary flexibility is constrained owing to the limited independence of the National Bank of Belarus, underdeveloped local capital markets and high levels of dollarization.
Belarus' balance of payments vulnerabilities remain the key constraint on our sovereign ratings. Although the headline current account deficits are comparatively modest (averaging around 4% of GDP over the last three years), the economy's external debt net of liquid public and financial sector foreign assets is high at a projected 83% of current account receipts in 2017. Belarus consistently faces elevated external financing requirements. The bulk of the country's gross external debt pertains to the public sector and is characterized by a heavy and uneven debt service profile with repayment peaks every few years.
Following the resolution of disputes with Russia, Belarus managed to secure a $700 million bilateral loan and received further disbursements from the EFSD. The government also issued two Eurobonds amounting to $1.4 billion in total, with maturities of five and 10 years. As such, we estimate that the liquidity at hand will cover the majority of public external debt payments for 2018. Beyond that, attracting additional resources will be required given the additional repayments coming up in 2019.
Absent foreign financing, we view Belarus' own external buffers as weak. We note that as of September 2017, NBRB's gross foreign exchange (FX) reserves totaled about $7 billion. However, the NBRB has FX obligations to domestic banks of about $2 billion and a government FX deposit of around $4 billion, underpinned by a recent bond issuance. The government will draw on its deposits with NBRB to meet the Eurobond $800 million payment in January 2018.
Beyond that, we believe the government may not be able to deploy its resources at the NBRB in full, given the necessity to maintain a balance of payments buffer. We also note that in addition to the obligations highlighted above, NBRB has external debt of around $1.4 billion booked on its balance sheet.
In our view, continued support from Russia remains central to Belarus' ability to service its commercial debt. By support we primarily mean favorable trade conditions, such as continued supply of hydrocarbons at attractive prices, and the willingness to refinance existing debt. We note that as of end-2016 Russia accounted for around 50% of Belarus' total public sector external debt. We currently expect bilateral relations to remain stable over the medium term, although downside risks exist.
We believe Belarus' fiscal position remains weak. Although the general government sector has posted headline surpluses averaging an estimated 1% of GDP over the past five years, debt has been increasing at a considerably faster pace, averaging over 6% of GDP annually over the same time period. This has been primarily due to the depreciation of the local currency (given that over 90% of government debt is denominated in foreign currency) as well as some contingent liabilities materializing. We note that the government cleaned up the balance sheets of several banks throughout 2015 and 2016 by swapping nonperforming loans in the wood processing and agricultural sectors for central and local government bonds. We estimate that the gross government debt reached 41.5% of GDP in 2016.
In our view, the domestic banking system remains strained and consequently it poses a moderate contingent liability for the government, which may need to undertake more balance sheet clean-ups in the future (see "Banking Industry Country Risk Assessment: Belarus," published on May 18, 2017, on RatingsDirect). Coupled with a projected further moderate weakening of the currency, we believe general government debt will continue to increase faster than the headline fiscal deficits imply even given the relatively tight fiscal stance.
Our ratings on Belarus remain constrained by the limited effectiveness of the country's monetary policy. Although transitioning to a more flexible exchange rate arrangement has allowed NBRB to relieve some external pressures, its ability to influence domestic economic conditions remains restricted. In our view, the institution still lacks independence in key decisions while the weak position of the banking system and very high deposit and loan dollarization inhibit the monetary transmission channel.