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      FRIDAY, 23/02/2018 - Scope Ratings GmbH
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      Scope affirms Slovakia’s credit rating of A+, Outlook remains Stable

      Euro area membership, robust economic performance, moderate public debt and a commitment to fiscal consolidation support the rating. External vulnerabilities, adverse demographics, rising household debt and shortages of skilled labour pose challenges.

      For the detailed rating report, click here.

      Scope Ratings has today affirmed Slovakia's A+ long-term issuer and senior unsecured local-and foreign currency ratings, along with the short-term issuer rating of S-1+ in both local and foreign currency. All Outlooks are Stable.

      Rating drivers

      The A+ rating is underpinned by Slovakia’s euro area membership within 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 macroprudential framework that supports credible macroeconomic policies. Scope believes that these are important elements reflecting enhanced euro area protection from adverse shocks and underpinning the sovereign creditworthiness of member states.

      The rating also benefits from Slovakia’s strong macroeconomic performance at a projected 3.4% in 2017 (3.3% in 2016). The main drivers of this growth have been household consumption expenditure buoyed by favourable labour market developments, and a recovery in investment supported by private investments in the automobile industry. Favourable financial conditions, backed by the European Central Bank’s accommodative stance, have also contributed by facilitating private-sector credit growth. Scope expects Slovakia’s GDP to continue growing vigorously at 4% in 2018 and 4.2% in 2019, driven by strong private consumption and a pick-up in investment activity due to new infrastructure projects, such as the Bratislava ring road, and planned investments in the automotive industry. Slovakia is a major beneficiary of EU funds and is eligible to receive up to EUR 15.3bn from the European Structural and Investment Funds by 2020, aimed at strengthening areas including transport and energy infrastructures, environmental protection and research & innovation. However, the relatively low absorption of EU funds under the current programming period (2014-2020) remains an important challenge.

      Slovakia progressed with fiscal consolidation in 2017. Scope estimates the headline fiscal deficit to have fallen to 1.3% of GDP in 2017, an almost 1 pp improvement on 2016 driven mostly by a reduction in expenditure, reflecting savings in interest expenses, as well as a decline in social benefits. On the revenue side, favourable developments in the labour market have helped to increase social contributions. Scope anticipates the headline deficit to decrease further to 0.9% of GDP in 2018 driven by budget consolidation efforts.

      Slovakia benefits from a moderate public debt burden which is projected to have fallen to below 51% as a share of GDP in 2017, well under the Maastricht criterion. Scope expects the debt to decrease steadily over the medium term, to around 43% of GDP in 2022, supported by robust economic growth and favourable financing costs. The current level of public debt is slightly over the national limit of 50% of GDP, set by the Fiscal Responsibility Act, but within a ‘tolerance’ band of up to 55%. At present, the authorities are considering revisions to the Act which would include shifting debt ceilings from a gross to a net debt basis and supporting higher infrastructure spending to reduce regional disparities. It is Scope’s view, that an adoption of a higher but still conservative debt limit will provide the government with greater financial flexibility.

      Slovakia benefits from a healthy and well-capitalised banking sector. The share of non-performing loans in total loans declined further in 2017 to around 3.3%, driven by a drop in non-financial corporations’ non-performing loans. A rise in retained earnings allowed banks to further improve their capital positions in 2017, as reflected in increasing total capital and Tier 1 ratios in the first half of 2017 to 18.6% and 16.1% respectively.

      Despite these strengths, Slovakia faces a number of challenges, including external vulnerabilities. As a small, open economy that is focussed on the automotive industry, Slovakia is reliant on external demand and vulnerable to external shocks, such as increased political uncertainties in its main destination markets and global protectionist policies in the automobile sector. Slovakia’s current account deficit is estimated to have widened to 1.9% of GDP last year from 1.5% in 2016, partly driven by the expansion of production capacities in car manufacturing plants. Net external debt relative to GDP of 32% remains one of the highest among central and eastern European economies, increasing sensitivity to adverse effects. However, most of external debt is denominated in euro, reducing exchange rate risks, and nearly 25% comes from intercompany lending, securing stable external funding.

      Long-term challenges to debt sustainability remain due to unfavourable demographics. According to the European Commission, both pension and healthcare expenditure is projected to experience one of the biggest upswings in the EU, by around 2 pp of GDP each. Since 2012, however, the government has undertaken significant reforms to the pension system, including indexing pension hikes to consumer prices and linking the retirement age to life expectancy.

      A robust economic performance, the low interest rate environment and changes in market expectations drove strong growth in consumption and housing credit, which both accelerated to an annual rate of 12% in 2017. As a result, household debt has continued to increase steadily, reaching 42.3% in Q3 2017. If left unchecked, Scope believes that the rapid expansion in credit growth and indebtedness will raise household exposure to changes in market sentiment. Scope notes that the National Bank of Slovakia has adopted several macroprudential policy measures. The most important of these was its raising of counter-cyclical capital buffers, from zero to 0.5% with effect from 1 August 2017, and a further increase to 1.25% effective from 1 August 2018.

      The continued tightening of the labour market, as reflected in a share of employees in the labour force above 90%, is pushing nominal wage growth up, which jumped to 5.2%in the third quarter of 2017. Going forward, skilled labour shortages (particularly in manufacturing) will put pressure on the labour market and drive the upward trend in the wage growth and inflation further, in Scope’s view.

      Though risks to political stability in Slovakia remain low, some intra-coalition disputes and the outcome of regional elections, in which Smer-SD, Slovakia’s centre-left governing party under Prime Minister Robert Fico, lost four of the six regional governorships it had held, could weaken the current multi-party coalition, potentially leading to new elections. Scope expects the present government to continue to pursue policies similar to those of the previous regime.

      Core Variable 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 Slovak Republic. 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 analysts’ qualitative analysis.

      For Slovakia, the QS signals relative credit strengths for the following analytical categories: i) growth potential of the economy; and ii) market access and funding sources. On the other hand: i) current-account vulnerabilities constitute a relative credit weakness.

      The combined relative credit strengths and weaknesses generate an upward adjustment and signal an A+ sovereign rating for Slovakia.

      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

      The Stable Outlook reflects Scope’s view that the challenges faced by Slovakia remain broadly balanced.

      The ratings could be upgraded if: i) the implementation of structural reforms leads to a material reduction in structural challenges; and/or ii) pension reforms are implemented in full, leading to improvements in debt sustainability.

      The ratings could be downgraded upon: i) a reversal of political commitment to reforms and the debt brake rule; ii) a loosening of fiscal policy that leads to a higher-than-expected debt ratio; and/or iii) weaker-than-expected economic performance due to adverse external shocks or low productivity growth.

      Rating committee 

      The main points discussed by the rating committee were: i) the Slovak Republic’s growth potential; ii) macroeconomic stability and imbalances; iii) fiscal performance; iv) public debt sustainability; v) the debt brake mechanism; vi) market access and funding sources; vii) recent political developments; and viii) peers.

      Methodology

      The methodology applicable for this rating and/or rating outlook, ‘Public Finance Sovereign Ratings’, is available on 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 on 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 Levon Kameryan, 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 2003. The ratings/outlooks were last updated on 01.09.2017. The senior unsecured debt ratings as well as the short-term issuer ratings were last assigned by Scope on 01.09.2017.

      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 National Bank of Slovakia, the Statistical Office of the Slovak Republic, the European Commission, Eurostat, the ECB, the IMF, the WB 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
      © 2018 Scope SE & Co. KGaA and all its subsidiaries including Scope Ratings GmbH, Scope Analysis GmbH, Scope Investor Services GmbH and Scope Risk Solutions GmbH (collectively, Scope). All rights reserved. The information and data supporting Scope’s ratings, rating reports, rating opinions and related research and credit opinions 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. Scope’s ratings, rating reports, rating opinions, or related research and credit opinions are provided ‘as is’ without any representation or warranty of any kind. In no circumstance shall Scope or its directors, officers, employees and other representatives be liable to any party for any direct, indirect, incidental or other damages, expenses of any kind, or losses arising from any use of Scope’s ratings, rating reports, rating opinions, related research or credit opinions. Ratings and other related credit opinions issued by Scope are, and have to be viewed by any party as, opinions on relative credit risk and not a statement of fact or recommendation to purchase, hold or sell securities. Past performance does not necessarily predict future results. Any report issued by Scope is not a prospectus or similar document related to a debt security or issuing entity. Scope issues credit ratings and related research and opinions with the understanding and expectation that parties using them will assess independently the suitability of each security for investment or transaction purposes. Scope’s credit ratings address relative credit risk, they do not address other risks such as market, liquidity, legal, or volatility. The information and data included herein is protected by copyright and other laws. To reproduce, transmit, transfer, disseminate, translate, resell, or store for subsequent use for any such purpose the information and data contained herein, contact Scope Ratings GmbH at Lennéstraße 5 D-10785 Berlin.


      Scope Ratings GmbH, Lennéstrasse 5, 10785 Berlin, District Court for Berlin (Charlottenburg) HRB 192993 B, Managing Director(s): Dr. Stefan Bund, Torsten Hinrichs. 

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