Research Update:

Bulgaria Ratings Lowered To

'BBB-/A-3' On Weak Reform
Environment; Outlook Stable
Primary Credit Analyst:
Aarti Sakhuja, London (44) 20-7176-7111; aarti.sakhuja@standardandpoors.com
Secondary Contact:
Felix Ejgel, London (44) 20-7176-6780; felix.ejgel@standardandpoors.com
Analytical Group Contact:
SovereignEurope; SovereignEurope@standardandpoors.com
Table Of Contents
Overview
Rating Action
Rationale
Outlook
Key Statistics
Related Criteria And Research
Ratings List
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Research Update:
Bulgaria Ratings Lowered To 'BBB-/A-3' On Weak
Reform Environment; Outlook Stable
Overview
Bulgaria's political environment continues to pose a challenge for the
implementation of reforms needed to tackle deep-rooted institutional and
economic problems, in our view.
Absent meaningful reform progress, we expect growth to remain lackluster
and unemployment high.
We are therefore lowering our long- and short-term sovereign credit
ratings on Bulgaria to 'BBB-/A-3' from 'BBB/A-2'.
The stable outlook balances the risks we see from policy complacency
against the fiscal flexibility afforded by relatively low government
indebtedness.
Rating Action
On June 13, 2014, Standard & Poor's Ratings Services lowered its long- and
short-term foreign and local currency sovereign credit ratings on the Republic
of Bulgaria by one notch to 'BBB-/A-3' from 'BBB/A-2'. The outlook is stable.
Rationale
The downgrade reflects our view of the structural impediments facing Bulgaria
which constrain institutional effectiveness and impede economic growth. They
matter all the more given Bulgaria's weak growth environment and high
unemployment.
Bulgaria's structural impediments are related to governance--addressing
corruption and strengthening the rule of law--and tackling the adverse
demographics of net emigration and an aging population. We view these factors
as inhibiting growth and believe that other disruptions--such as the procedure
launched by the state energy regulator to revoke the licenses of foreign
electricity distribution companies--add to business uncertainty and send
strong negative signals to potential investors. Further, apart from their
impact on the business environment, inefficiencies in the governance of
state-owned energy and railway companies could cause liabilities to
crystallize on the government's balance sheet, if unaddressed.
The volatile domestic political environment since early 2013 has complicated
the challenges policymakers face in implementing reform. For much of last
year, the ruling coalition of the Bulgarian Socialist Party (BSP) and the
Movement for Rights and Freedoms (DSP), which does not have a parliamentary
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majority, was under pressure to resign. Tensions seem to have resurfaced
following the result of the May European Parliamentary elections in which the
ruling BSP performed poorly. As a result, we expect that the political
landscape will remain volatile over the coming months and will likely not be
conducive to implementing potentially unpopular reforms.
Bulgaria's economic recovery has failed to gather pace. Real GDP growth
averaged less than 1% in 2010-2013 while net exports drove growth (with the
exception of 2012) but have not strengthened domestic demand or translated
into meaningful reductions in the 13% unemployment rate, materially above the
5.6% rate before 2008.
In our view, signs of a recovery in private consumption in the first quarter
of 2014 were likely due to increased social transfers and pension payments. We
believe that sustainable growth in domestic demand in Bulgaria will depend on
a substantial decline in unemployment, an increase in lending to the corporate
sector supported by foreign investment inflows, and a continued recovery in
key export markets. However, these factors are constrained by what we view as
Bulgaria's unaddressed economic and institutional structural impediments.
Bulgaria's pronounced deflationary trend primarily reflects several rate cuts
in state-set energy prices and lower imported inflation and, to some extent,
weak economic conditions domestically and in the eurozone.
The banking sector's liquidity appears high, supported by deposit growth
outstripping lending growth. Banks wound down their external debt positions by
$4.8 billion between 2008 and 2013 while also increasing their assets held
abroad by $6.6 billion over the same period (as international investment
position data shows). Cumulatively, the net outflows from the financial system
constitute more than 20% of 2014 GDP. In 2013, these outflows contributed to a
financial account deficit of 3.7% of GDP on the balance of payments, which was
not fully covered by the small current account surplus (1.9% of GDP) and
inflows on the capital account (1.2%). We expect that the financial account
will remain in deficit until end-2015 as direct investment inflows and
external borrowing by the government and nonbank private sectors will not
offset banking sector net outflows.
Despite a slight loosening of the fiscal stance in 2013, the general
government deficit and net general government debt remain rating strengths at
1.8% and 14.2% of estimated 2014 GDP. About 70% of Bulgaria's government debt
stock is denominated in foreign currencies. While contingent liabilities from
the financial sector and outstanding government guarantees are together
limited, the loss-making state-owned utilities and railways could also
represent additional claims on the government.
The currency board regime and high euroization (62% of loans are in foreign
currency) restrict the monetary flexibility of the Bulgarian National Bank and
limit its ability to act as a lender of last resort. Bulgarian policymakers
have suspended plans to join the European Exchange Rate Mechanism (ERM-II),
the precursor to eurozone entry, but remain committed to maintaining the
currency board regime. Credit growth, despite a recent pickup, has been
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Research Update: Bulgaria Ratings Lowered To 'BBB-/A-3' On Weak Reform Environment; Outlook Stable
anemic, reflecting banks' low risk appetite, poor demand from the corporate
sector (which continues to deleverage), high capital adequacy and liquidity
requirements, and group-level decisions by foreign parent banks. The
resolution of nonperforming loans (NPLs) has been slow; gross NPLs remain high
at about 17% of total loans.
Outlook
The stable outlook balances our view on the risks to growth from policy
complacency against the space afforded by relatively low government
indebtedness.
We could lower the ratings if contingent liabilities from state-owned
enterprises were to crystallize on the government's balance sheet, if we see
continued outflows in the financial account of the balance of payments, or if
there is a further deterioration in the policy environment that adversely
affects private investment flows and the economic recovery.
On the other hand, upward pressure on the ratings could build if supply-side
rigidities and governance issues are addressed effectively, boosting
Bulgaria's growth potential.
Key Statistics
Table 1
Republic of Bulgaria - Selected Indicators
2007 2008 2009 2010 2011 2012 2013e 2014f 2015f 2016f 2017f
Nominal GDP (US$ bil) 42 52 49 48 54 51 53 54 54 56 58
GDP per capita (US$) 5,561 6,893 6,504 6,431 7,266 7,002 7,277 7,474 7,474 7,811 8,164
Real GDP growth (%) 6.4 6.2 (5.5) 0.4 1.8 0.6 0.9 1.5 1.8 2.2 2.2
Real GDP per capita growth (%) 8.5 7.0 (4.8) 1.0 2.6 1.2 1.5 2.0 2.3 2.7 2.7
Change in general government
debt/GDP (%)
(1.4) (1.3) 0.7 2.1 1.1 2.7 1.1 1.4 1.8 1.4 1.3
General government
balance/GDP (%)
1.2 1.7 (4.3) (3.1) (2.0) (0.8) (1.5) (1.8) (1.5) (1.1) (1.0)
General government debt/GDP
(%)
17.2 13.7 14.6 16.2 16.3 18.4 19.5 20.8 22.0 22.6 23.0
Net general government
debt/GDP (%)
4.6 1.6 4.3 7.5 9.5 10.4 13.2 14.2 15.3 15.8 16.2
General government interest
expenditure/revenues (%)
2.9 2.2 2.1 2.1 2.2 2.5 2.1 2.3 2.7 2.9 3.0
Oth dc claims on resident
non-govt. sector/GDP (%)
62.6 71.6 75.4 74.0 71.9 71.3 71.5 71.3 70.4 70.1 69.8
CPI growth (%) 7.6 12.0 2.5 3.0 3.4 2.4 0.4 (0.5) 1.2 2.0 2.0
Gross external financing
needs/CARs +use. res (%)
151.6 155.3 155.6 135.4 123.4 121.9 116.4 118.6 119.7 120.3 118.9
Current account balance/GDP
(%)
(25.2) (23.1) (8.9) (1.5) 0.1 (0.8) 1.9 0.9 (0.6) (1.1) (2.2)
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Research Update: Bulgaria Ratings Lowered To 'BBB-/A-3' On Weak Reform Environment; Outlook Stable
Table 1
Republic of Bulgaria - Selected Indicators (cont.)
Current account balance/CARs
(%)
(38.1) (35.3) (16.4) (2.3) 0.1 (1.1) 2.4 1.1 (0.6) (1.2) (2.3)
Narrow net external debt/CARs
(%)
3.6 20.9 20.7 8.3 (2.3) (8.6) (12.3) (13.1) (14.0) (14.9) (15.0)
Net external liabilities/CARs (%) 131.8 142.2 193.6 149.5 108.0 106.8 96.9 87.4 83.7 76.8 71.8
Other depository corporations (dc) are financial corporations (other than the central bank) whose liabilities are included in the national
definition of broad money. Gross external financing needs are defined as current account payments plus short-term external debt at the end of
the prior year plus nonresident deposits at the end of the prior year plus long-term external debt maturing within the year. Narrow net external
debt is defined as the stock of foreign and local currency public- and private- sector borrowings from nonresidents minus official reserves minus
public-sector liquid assets held by nonresidents minus financial sector loans to, deposits with, or investments in nonresident entities. A negative
number indicates net external lending. CARs--Current account receipts.
The data and ratios above result from S&Ps own calculations, drawing on national as well as international sources, reflecting S&Ps
independent view on the timeliness, coverage, accuracy, credibility, and usability of available information.
Related Criteria And Research
Related Criteria
Sovereign Government Rating Methodology And Assumptions, June 24, 2013
Methodology For Linking Short-Term And Long-Term Ratings For Corporate,
Insurance, And Sovereign Issuers, May 7, 2013
Criteria For Determining Transfer And Convertibility Assessments, May 18,
2009
Related Research
Sovereign Defaults And Rating Transition Data, 2013 Update, April 18,
2014
Emerging Europe Sovereign Ratings Remain Vulnerable To Political And
Fiscal Pressures, Sept. 11, 2013
Emerging Market Sovereigns In Europe Could Be Most At Risk In A Liquidity
Squeeze, July 4, 2013
In accordance with our relevant policies and procedures, the Rating Committee
was composed of analysts that are qualified to vote in the committee, with
sufficient experience to convey the appropriate level of knowledge and
understanding of the methodology applicable (see 'Related Criteria And
Research'). At the onset of the committee, the chair confirmed that the
information provided to the Rating Committee by the primary analyst had been
distributed in a timely manner and was sufficient for Committee members to
make an informed decision.
After the primary analyst gave opening remarks and explained the
recommendation, the Committee discussed key rating factors and critical issues
in accordance with the relevant criteria. Qualitative and quantitative risk
factors were considered and discussed, looking at track-record and forecasts.
The chair ensured every voting member was given the opportunity to articulate
his/her opinion. The chair or designee reviewed the draft report to ensure
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Research Update: Bulgaria Ratings Lowered To 'BBB-/A-3' On Weak Reform Environment; Outlook Stable
consistency with the Committee decision. The views and the decision of the
rating committee are summarized in the above rationale and outlook.
Ratings List
Downgraded; CreditWatch/Outlook Action
To From
Bulgaria (Republic of)
Sovereign Credit Rating BBB-/Stable/A-3 BBB/Negative/A-2
Transfer & Convertibility Assessment A- A
Senior Unsecured BBB- BBB
Short-Term Debt A-3 A-2
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Research Update: Bulgaria Ratings Lowered To 'BBB-/A-3' On Weak Reform Environment; Outlook Stable
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