For the detailed rating report, click here.

Scope Ratings GmbH has today affirmed Portugal’s BBB long-term issuer and senior unsecured local- and foreign-currency ratings, along with a short-term issuer rating of S-2 in both local and foreign currency. All Outlooks are Stable.

Rating drivers

The BBB rating is supported by Portugal’s euro-area membership, economic recovery, ongoing reduction of economic, fiscal and external imbalances, resilient debt structure and commitment to further structural reforms. Very high public, private and external debt levels, including elevated implicit liabilities, and comparatively low potential growth rates pose challenges. The Stable Outlook reflects Scope’s view that the upside potential from a continued reduction in economic, fiscal and external imbalances is balanced by the downside risk stemming from the elevated imbalances themselves, the unwinding of which, while ongoing, will require continued commitment by the Portuguese authorities.

After exiting the three-year economic adjustment programme in June 2014, Portugal’s economy has grown on average by around 1.8%, in line with the euro-area average, driven by the economy’s rebalancing towards the tradable sector, in particular tourism, strong private consumption due to the turnaround in the labour market, and a sustained rebound in investment. Portugal has also benefited from the ECB’s accommodative monetary policy as well as favourable external conditions, particularly in the euro area. Finally, the stabilisation of the banking system is also facilitating the efficient reallocation of resources, thus contributing to the investment recovery of the Portuguese economy. As a result, Scope expects Portugal’s economic expansion to continue over the next few years, albeit with less dynamism as the output gap closes in 2018-19, moderating economic growth from the growth level of 2.7% in 2017 to around 2.0% over the medium term.

Scope also notes that the increase in employment and economic stability has led to the resumption of investment and private consumption despite a marked decline in private-sector liabilities, which further supports the BBB rating. Since the crisis, the Portuguese private sector has significantly reduced its indebtedness to levels similar to those of its euro-area peers. Specifically, non-financial corporates have reduced their liabilities by EUR 30.9bn since Q1 2013. On the other hand, households have reduced their liabilities more gradually, given that most loans are long-term mortgages, but still by EUR 16.8bn over the same period. As a result, corporate sector indebtedness fell from 141.5% of GDP to 106.8% as of Q4 2017, slightly above the euro-area average of 101.7%, while household indebtedness decreased from 90.0% to 69.4%, above the euro-area average of 58.0%.

Similarly, Scope notes that the rebalancing of the Portuguese economy has resulted in minor current-account surpluses since 2013, which is a significant turnaround after a deficit of 12.1% in 2008, reflecting the greater openness of the Portuguese economy. Notwithstanding this credit-positive development, Scope is mindful that maintaining current-account surpluses for a sustained period is necessary to gradually improve Portugal’s significant net debt position, which remains markedly below its peers at around negative 106% of GDP as of Q4 2017.

Portugal’s BBB rating is further supported by the gradual fiscal consolidation. Portugal has successfully reduced its fiscal balance to 1.9% in 2016, down from 11.2% in 2010, which led to the country’s exit of the EU’s excessive deficit procedure in June 2017. Without one-off factors, the 2017 deficit stood at 0.8% of GDP. However, if taking into account the recapitalisation of Caixa Geral de Depósitos (CGD), which was considered by the European Commission as a market-based operation, the deficit reached 3.0% of GDP. Going forward, Scope expects the government to stay well within the Maastricht deficit criterion of 3%, with the IMF forecasting deficits to stay between 0.7% and 0.2% of GDP, alongside primary surpluses close to 3.0% of GDP for 2018-20.

As a result, Portugal’s general government debt level, which peaked in 2014 at 130.6% of GDP, has gradually declined to 125.7% in 2017, down 4.2 p.p. compared to 2016 (the biggest reduction in 20 years) and below the level of Italy (131.8%) but significantly above Spain’s (98.3%) and the 60% Maastricht criterion, which, in Scope’s opinion, constitutes a major rating constraint. Scope’s public-debt sustainability analysis, based on IMF forecasts and a combination of growth, interest-rate and primary-balance shocks, confirms that although Portugal’s debt trajectory still faces significant risks given the sizeable debt burden and elevated gross financing needs, a gradual decline is expected in the near future. On the basis of Portugal’s high debt level, the expected narrowing of fiscal deficits, and more moderate growth rates, Scope’s baseline scenario is for the debt-to-GDP ratio to fall to around 105% by 2023. Notably, this projection excludes Portugal’s implicit liabilities, including healthcare obligations which, according to the latest EC’s Ageing Report, remain among the highest in the euro area.

However, Scope highlights that Portugal’s active debt management – including accelerated early repayments to the IMF (EUR 10bn in 2017), bond buybacks and exchanges, and longer-term issuances – has smoothened the government’s redemption profile. Specifically, over 2018-20, Portugal’s sizeable cash buffer (EUR 7.7bn as of May 2018) will remain around 50% of the following year’s gross financing needs before dropping to around 28% in 2021 (for expected needs in 2022), limiting risks from refinancing this elevated debt burden. Scope also highlights the need for Portugal to maintain relatively high growth rates, sustain a significant level of fiscal consolidation and continue its implementation of structural reforms to reduce the public-debt burden over a multi-year period.

While Scope expects broad economic policy continuity, also after the scheduled elections in late 2019, which under current polls are likely to lead to another Socialist Party (PS)-led government, Scope notes that Portugal’s long-term economic growth prospects face considerable challenges. The IMF and European Commission estimate potential growth at around 1.0% to 1.5%, constrained by structural bottlenecks, including weak productivity growth, in part due to low investment levels, skill shortages and unfavourable labour force demographics. These constraints are reflected in Portugal having the third lowest potential GDP growth rate among euro-area members, just above Italy and Greece, according to EC data. Finally, Scope notes that the comparatively elevated, albeit declining, level of low-skilled and low-income jobs may weigh negatively on productivity and the tax base in the long run as well as increase the risk of sustained income inequality, poverty and social exclusion among vulnerable groups.

Core Variable Scorecard (CVS) and Qualitative Scorecard (QS)

Scope’s Core Variable Scorecard (CVS), which is based on the relative rankings of key sovereign credit fundamentals, provides an indicative ‘BBB’ (‘bbb’) rating range for the Portuguese 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 qualitative analysis. For the Portuguese Republic, the following relative credit strengths have been identified: i) economic policy framework and ii) market access and funding sources. Relative credit weaknesses are: i) macroeconomic stability and sustainability. The combined relative credit strengths and weaknesses generate no adjustment and indicate a sovereign rating of BBB for the Portuguese Republic. 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 Stable Outlook reflects Scope’s view that the upside potential from a continued reduction in economic, fiscal and external imbalances is balanced by the downside risk stemming from the elevated imbalances themselves, the unwinding of which, while ongoing, will require a continued, multi-year commitment by the Portuguese authorities. The rating could be upgraded if the sovereign: i) achieves sustained debt reduction, ii) implements additional reforms, raising the country’s medium-term growth potential, and/ or iii) improves its external balance sheet. Conversely, the rating could be downgraded if: i) public finances deteriorate due to a reversal of fiscal consolidation, ii) there is a fading commitment to or a reversal of structural reforms, leading to an adverse impact on the medium-term economic and fiscal outlook, and/ or iii) the already elevated external debt burden increases further.

Rating committee

The main points discussed by the rating committee were: i) Portugal’s growth potential; ii) macroeconomic stability and sustainability; iii) fiscal consolidation, contingent liabilities, public-debt sustainability, debt structure and market access; iv) external debt sustainability and vulnerability to external shocks; v) banking sector performance and private-sector deleveraging; vi) political developments; and vii) 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. 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 GmbH.
Rating prepared by Alvise Lennkh, 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 30.06.2017. The senior unsecured debt ratings as well as the short-term issuer ratings were last assigned by Scope on 30.06.2017.

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: Ministry of Finance of Portugal, the Bank of Portugal, the BIS, the European Commission, the European Central Bank, Instituto Nacional de Estatística Portugal, Portuguese Treasury (IGCP), the Statistical Office of the European Communities (Eurostat), the IMF, the 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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