Scope Ratings AG has today upgraded the Republic of Slovenia’s long-term local-currency rating to A- from BBB, following the release of its revised sovereign rating methodology, and has converted its status from subscription to public. The agency has also assigned 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 local and foreign currency was also rated at A-. All Outlooks are Stable.

Rating drivers

The ratings are underpinned by Slovenia’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 and macro prudential framework which supports credible macroeconomic policies. Scope believes that these are important elements which reflect better protection of the euro area from adverse shocks, underpinning sovereign creditworthiness of member states.

The rating upgrade is driven by strong improvements in Scope’s ‘domestic economic risk’ and ‘fiscal risk’ analysis categories and reflects: i) improving macroeconomic performance and strengthening external balance position; ii) progress in fiscal consolidation and the fiscal framework; and iii) improvements in the banking sector following extensive government measures to recapitalise banks and restructuring.

Slovenia has entered a fourth year of steady broadly-based economic recovery with cumulative GDP growth of almost 8% between 2014 and 2016. Growth increased in 2016 by 2.5% and is expected to exceed 3% in 2017, reflecting a return of domestic demand, with employment increasing from 2014 to 2016 by a cumulative 3.6% and wages increasing by a cumulative 4%. Unemployment also declined from 10.1% in 2013 to 7.1% in 2016. Investments are expected to grow strongly in both 2017 and 2018 (5.6% and 4.5% respectively) as the absorption of EU structural and cohesion funds picks up. As a small open economy, Slovenia is, however, vulnerable to external shocks and structural challenges, including demographic constraints on growth. Both factors will continue to constraint Slovenia's rating.

The rating upgrade is also underpinned by Slovenia’s strengthening external balance position. The current account balance has risen from a deficit of 4.1% of GDP in 2007 to a sizeable surplus of 5.3% of GDP in 2016. This robust performance is the result of sustained positive trade balances, helped as well by gains in export competitiveness, corporate deleveraging, lower energy prices, subdued investment, and elevated savings. Slovenia’s net international investment position remains negative at -35% of GDP in 2016. However, the anticipated sizable current account surpluses over the medium term are expected to lead, according to IMF estimates, to a balanced position by 2022. The economy, however, is vulnerable to short-term shocks due to the large dependence on exports, as a sharp economic downturn for major trading partners would negatively affect Slovenian growth.

The rating upgrade is also supported by substantial achievements in fiscal consolidation after the 2012-13 crisis, with Slovenia exiting the European Commission’s Excessive Deficit Procedure in 2015. The government has successfully consolidated finances with the headline deficit declining to 1.8% of GDP in 2016 from 15.1% in 2013. Scope expects the steady fiscal adjustment to continue in 2017 and 2018, with Slovenia’s budget deficit, according to the Ministry of Finance, are forecast to decline to around -0.8% and -0.2% of GDP, respectively. Government contingent liabilities remain relatively high, largely due to state guarantees to the large nonfinancial sector of around 17.1% of GDP in 2016 but have been declining from the total amount of guarantees of around 18% of GDP in 2015.

The Slovenian rating is constrained by the country’s high level of public debt, which rose significantly as a consequence of the banking/sovereign crisis, from 21.8% in 2008, peaking at 83.1% of GDP in 2015. More recently, steady economic recovery and lower deficit targets should support positive developments on the public debt dynamics. General government debt remains high compared to its peers, but has declined to 79.7% in 2016. Scope expects the debt-to-GP ratio to fall to 78% in 2017, supported by the recovery and the reduction in government precautionary cash buffers (end 2016: 13% of GDP), rather than issuance of debt. The continued buy-back programme since 2016 underscores the government’s commitment to reduce external debt. The replacement of high-cost US-dollar based debt with more favourable euro-based debt and the restructuring of debt to longer maturities and lower interest payments also leads to improvements in the government debt structure, reducing refinancing risks. However, slower growth rates and to a lesser degree the realisation of contingent liabilities through guarantees remain key risks to Slovenian debt sustainability.

Scope takes a positive view of the improvements in the policymaking environment. These included swift action to repair the banking system and the implementation of fiscal policies to contain the effects of the financial crisis in support of the recovery. They also comprised reforms aimed at increasing the use of multi-year financing for government expenditures and debt repayment.

The banking sector has improved markedly as a result of restructuring and extensive government measures to recapitalise banks after the banking/sovereign crisis in 2012-2013. This situation has been largely resolved by transferring non-performing loans from the banks to the Bank Asset Management Company (BAMC), with overall risks assessed for banks declining and macro-prudential instruments put into place to help avoid future problems. Government recapitalisation of the three largest banks decisively restored confidence in the weakened financial system. The total cost of the banking crisis to taxpayers was around 13% of GDP, including bank recapitalisation and increase in BAMC debt, mitigated by the bailing-in of private investors during recapitalisation. Bank profitability has returned, with return on equity reaching 8.77% in 2016 and return on assets 1.09%. Asset quality has been steadily improving with the non-performing loan ratio falling from a high of 14.4% in 2012 down to 5.8% in 2016.

Despite these strengths, challenges remain for Slovenia. These include the implementation of plans aimed at the improvement of the functioning of the labour market, accelerating privatisation and reforming of the large state-owned enterprises. In addition, substantial reforms of the pension system are needed to maintain long-run fiscal sustainability. Age-related pension, education, health-care and long-term care related expenditures are expected to cost an additional 1.9% of GDP to 26.1%, up from 24.2% in 2016. With the drastic increase of the elderly (over 80 years) from 4% of the population in 2010 to almost 11% in 2050, the government is facing potential and largely unfunded increases in these age-related expenditures to 31.5% of GDP, an increase of 7.3 percentage points from 2010.

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 (a) rating range for the Republic of Slovenia. This indicative rating range can be adjusted by the Qualitative Scorecard (QS) by up to three notches depending on the size of relative credit strengths or weaknesses versus peers based on qualitative analysis. For the Republic of Slovenia, the following relative credit weaknesses are: i) growth potential of the economy and ii) vulnerabilities to short-term shocks. The combined relative credit strengths and weaknesses indicate a sovereign rating of A- for Slovenia. A rating committee has discussed and confirmed these results.

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

Outlook and rating-change drivers

The assignment of the Stable trend reflects Scope’s view that risks to the ratings remain broadly balanced.

The ratings could be downgraded upon: i) a sharp deterioration in the economic outlook; ii) a reversal of government fiscal consolidation plans; and/or iii) a reversal of structural reforms. The rating could be upgraded if: i) SOEs are privatised; ii) there is a greater than anticipated reduction in debt; and/or iii) successful reforms that address ageing issues are implemented.

For the detailed research report, please click HERE.

Rating committee

The main points discussed by the rating committee were: i) Slovenia’s growth potential, ii) macroeconomic stability and imbalances, iii) economic structure, iv) external position, v) vulnerability to shocks, vi) examination of state-owned enterprises and financial guarantees from the sovereign, vii) financial sector performance and structural challenges, viii) macro-financial vulnerabilities, ix) peers consideration.

Methodology

The methodology applicable for this rating and/or rating outlook, ‘Public Finance Sovereign Ratings’, is available at www.scoperatings.com.

The historical default rates used by 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 and definitions of rating notations can be found in Scope’s public credit rating methodologies at www.scoperatings.com.

The rating outlook indicates the most likely direction in which a rating may change within the next 12 to 18 months. A rating change is, however, not automatically a certainty.

Regulatory disclosures

This credit rating and/or rating outlook is issued by Scope Ratings AG.

Rating prepared by John F. Opie, Lead Analyst
Person responsible for approval of the rating Dr Giacomo Barisone, Managing Director

The ratings/outlook were first assigned by Scope as a subscription rating in January 2002. 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 Republic of Slovenia 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 21.07.2017 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 placement of the ratings under review, in order to conclude the review and disclose these ratings in a timely manner, as required by 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: the Ministry of Finance of the Republic of Slovenia, Bank of Slovenia, Institute for Macroeconomic Analysis and Development (IMAD), European Commission, European Central Bank, Statistical Office of the European Communities, IMF, OECD, and 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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