Scope Ratings AG today confirms the Kingdom of Spain’s long-term local-currency issuer rating at A-, following the release of its revised sovereign rating methodology, and converts its status from subscription to public. The agency also assigns a long-term foreign-currency issuer rating of A-, along with a short-term issuer rating of S-1 in both local and foreign currency. The sovereign’s senior unsecured debt in both local and foreign currency was also rated at A-. All Outlooks are Stable.

Rating drivers

The A- rating is underpinned by Spain’s euro area membership with a large common market, a strong reserve currency, an independent European Central Bank effectively acting as a lender of last resort, and an economic governance, stability and macro prudential framework that supports credible macroeconomic policies and provides access to financial facilities from European institutions thus increasing the sovereigns‘ ability to withstand economic and financial shocks.

Scope believes these are important elements that reflect better protection of the euro area from adverse shocks, underpinning sovereign creditworthiness of member states.

Spain’s ratings are supported by the size and diversity of its economy – the fourth largest in the euro area. Economic activity has become more sustainable through a domestic and foreign growth pattern that is more balanced now than before the global crisis. The unemployment rate remains very high at 18.7% in 2017Q1 (down from 22.1% in 2015) with the rate set to continue its decline. Scope believes that the improved macroeconomic outlook and the recovery of core inflation can pave the way for further reductions in the budget deficit and the public-debt ratio.

Since 2014 the economy has recovered from a period of economic recession that started with the global crisis. The external shock revealed heavy imbalances in the Spanish economy and employment, triggering sharp corrections and forcing economic and regulatory reforms. Through wage moderation, greater labour market flexibility and less restrictive market regulations for products and services the Spanish economy has become more competitive and resilient. The economy is benefitting not only from the government’s structural reform efforts but also from tailwinds such as low interest rates, a weaker euro, low oil prices, and economic recovery of Spain’s main European trading partners.

Scope expects GDP to continue in coming years, despite an anticipated slow-down in both 2017 and 2018, to average growth rates of around 3% and 2.5% respectively outperforming most other euro area members. After a period of recovering domestic demand and expansionary fiscal policies tailwinds have gradually abated. Persisting structural weaknesses will need to be addressed to make the recovery sustainable.

Spain’s financial sector is now leaner, more efficient and better capitalised. It is also better-equipped to handle non-performing loans. The exposure ratio declined further to 5.7% in 2016, and the coverage ratio of doubtful loans to households and corporates has increased from 29% in 2008 to around 45% by the end of 2016. There has also been further improvement in the equity-to-asset ratio and the funding gap.

Scope considers the Spanish economy to be more resilient now, but important challenges remain. Spain’s construction boom-and-bust cycle, which echoed the burst of the global credit bubble, has severely damaged the labour market and left the sovereign with a public-debt burden that nearly equals nominal GDP.

Spain’s still negative net international investment position is high at around 86% of GDP in 2016. This means the sovereign is exposed to shocks or sudden shifts in market sentiment, with net marketable debt accounting for about 77% of GDP in 2016. However, since 2013, Spain has registered four consecutive years of current-account surpluses, but the trade balance in goods remains negative.

Spain’s general government budget imbalances are still large. With the outbreak of the global crisis Spain’s deficit ratio turned double digit and averaged around 10% during 2009-2012. Since then the deficit has remained largely above the Maastricht 3% ceiling, moving from 7% in 2013 to still 4.33% in 2016. Moreover, the Spanish government’s structural deficit has increased to around 3.5% of GDP in 2016 due to recent expansionary fiscal policies. It is set to improve marginally in 2017 before stabilising in 2018.

Spain’s government debt ratio remains vulnerable to cyclical changes of the economy. It has remained high despite a strong cyclical recovery and very moderate refinancing costs. Scope expects the ratio to decline only gradually to 98.5% of GDP by 2018, as a result of relatively strong nominal GDP, the primary deficit turning into a small surplus and as long as there are no adverse economic and financial shocks. In the meantime, the relatively long debt maturity profile of 7.04 years in June 2017 helps to reduce rollover risk.

After a 10-month period of political paralysis, including two inconclusive general elections and important political upheavals the recent formation of a new government has reduced political risk in Spain. The leader of the conservative People’s party (PP), Mariano Rajoy, was returned to office, even though he failed to win an outright majority with 170 seats in Spain’s 350-seat congress of deputies. Scope believes that the current minority government has less room for manoeuvre. As a consequence, it may be challenging for the government to formulate and implement further substantial reforms in the current legislative period.

The prospect of Catalonia’s independence from the Kingdom of Spain continues to challenge the country’s political environment and outlook. Ongoing political tensions could lead to an abrupt separation from Spain or the withdrawal of state support over the medium term, specifically in the light of the potential referendum on Catalan independence scheduled for 1st October 2017 according to the regional government's roadmap plan. Scope does not expect a one-sided secession given the constitutional safeguards in place. A settlement between the national and the Catalan regional government on regional reform and greater autonomy for Catalonia within Spain is increasingly likely to emerge. Reaching an agreement on these points will, nevertheless, prove challenging.

Sovereign rating scorecard (CVS) and qualitative scorecard (QS)

Scope’s Core Variable Scorecard (CVS), which is based on relative rankings of key sovereign credit fundamentals, signals an indicative “a” rating for the Spanish sovereign. This indicative rating can be adjusted by the Qualitative Scorecard (QS) by up to 3 notches depending on the size of relative credit strengths or weaknesses versus peers based on analysts’ qualitative analysis. For Spain the QS signals relative credit weaknesses for the following analytical categories: 1) macroeconomic stability and imbalances; 2) fiscal performance; 3) vulnerability to short-term shocks; 4) financial sector performance.

The QS does not signal relative credit strengths against peers. Combined relative credit strengths and weaknesses generate a downward adjustment and signal a sovereign rating at A- for Spain.

The results have been discussed and confirmed by a rating committee.

For further details, please see the Appendix 2 of the rating report.

Outlook and rating-change drivers

For Spain the reduction in economic and fiscal imbalances will largely depend on building a durable and hence sustainable growth model that generates potential growth and further room for fiscal adjustment in order to turn around the public debt ratio. As a consequence, 1) a substantial weakening of the medium-term growth outlook, 2) fading political commitment or room for fiscal adjustment and 3) rising tensions between Catalonia and central government would be seen as credit-negative, putting downward pressure on the ratings. Conversely, 1) structural reforms that reduce GDP growth volatility and 2) further fiscal consolidation that increases the resilience of public finances by substantially improving deficit and debt dynamics could put upward pressure on the ratings.

For the detailed research report please click HERE.

Rating committee

The main points discussed during the rating committee were: (1) sustainability of the economic growth model, (2) fiscal consolidation performance and outlook, (3) vulnerability to external shocks, (4) banking sector performance and outlook, (5) political outlook, (6) peers consideration.

Methodology

The methodology applicable for this rating and/or rating outlook “Public Finance Sovereign Ratings” is available on www.scoperatings.com.

Historical default rates of Scope Ratings can be viewed in the rating performance report on https://www.scoperatings.com/governance-and-policies/regulatory/esma-registration. Please also refer to the central platform (CEREP) of the European Securities and Markets Authority (ESMA): http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. A comprehensive clarification of Scope’s definition of default, definitions of rating notations can be found in Scope’s public Credit Rating methodologies on www.scoperatings.com.

The rating outlook indicates the most likely direction of the rating if the rating were to change within the next 12 to 18 months. A rating change is, however, not automatically ensured.

Regulatory disclosures

This credit rating and/or rating outlook is issued by Scope Ratings AG.
Rating prepared by Dr Giacomo Barisone, Lead Analyst
Person responsible for approval of the rating Dr Stefan Bund, Chief Analytical Officer
The ratings /outlook was first assigned by Scope as subscription rating on January 2003. The subscription ratings/outlooks were last updated on 05.05.2017.
The senior unsecured debt ratings as well as the short term issuer ratings were assigned by Scope for the first time.
As a "sovereign rating" (as defined in EU CRA Regulation 1060/2009 "EU CRA Regulation"), the ratings on the Kingdom of Spain are subject to certain publication restrictions set out in Art 8a of the EU CRA Regulation, including publication in accordance with a pre-established calendar (see "Sovereign Ratings Calendar of 2017" published on 30.06.2017 on www.scoperatings .com). Under the EU CRA Regulation, deviations from the announced calendar are allowed only in limited circumstances and must be accompanied by a detailed explanation of the reasons for the deviation. In this case the deviation was due to the recent revision of Scope’s Sovereign Rating Methodology and the subsequent putting the ratings under review, in order to conclude the review and disclose these ratings in a timely manner, as required by the Article 10(1) of the CRA Regulation¹.

¹ Editor's note: The above paragraph was corrected on 17 July 2017 following the publication of the credit rating action on 30 June 2017. The original wording was: Deviation of the publication of sovereign ratings or related rating outlooks from the calendar shall only be possible where necessary for the credit rating agency to comply with its obligations under Article 8(2), Article 10(1) and Article 11(1) and shall be accompanied by a detailed explanation of the reasons for the deviation from the announced calendar. It was replaced with the following: As a "sovereign rating" (as defined in EU CRA Regulation 1060/2009 "EU CRA Regulation"), the ratings on the Kingdom of Spain are subject to certain publication restrictions set out in Art 8a of the EU CRA Regulation, including publication in accordance with a pre-established calendar (see "Sovereign Ratings Calendar of 2017" published on 30.06.2017 on www.scoperatings .com). Under the EU CRA Regulation, deviations from the announced calendar are allowed only in limited circumstances and must be accompanied by a detailed explanation of the reasons for the deviation. In this case the deviation was due to the recent revision of Scope’s Sovereign Rating Methodology and the subsequent putting the ratings under review, in order to conclude the review and disclose these ratings in a timely manner, as required by the Article 10(1) of the CRA Regulation.

Solicitation, key sources and quality of information
The rating was initiated by Scope and was not requested by the rated entity or its agents. The rated entity and/or its agents did not participate in the ratings process. Scope had no access to accounts, management and/or other relevant internal documents for the rated entity or related third party.
The following material sources of information were used to prepare the credit rating: public domain and third parties. Key sources of information for the rating include: The Ministry of Finance, Bank of Spain, Instituto Nacional de Estadística, Spanish Treasury, European Commission, AMECO, Eurostat, Interational Monetary Fund (IMF), Haver Analytics.
Scope considers the quality of information available to Scope on the rated entity or instrument to be satisfactory. The information and data supporting Scope’s ratings originate from sources Scope considers to be reliable and accurate. Scope does not, however, independently verify the reliability and accuracy of the information and data.
Prior to publication, the rated entity was given the opportunity to review the rating and/or outlook and the principal grounds upon which the credit rating and/or outlook is based. Following that review, the rating was not amended before being issued.

Conditions of use / exclusion of liability
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