Dagong Maintains the Sovereign Credit Ratings of Spain at BBB+ with a Stable Outlook
Dagong Global Credit Rating Co., Ltd.
April 13, 2018
Dagong Global Credit Rating Co., Ltd. (hereafter referred to as “Dagong”) has decided to maintain both local and foreign currency sovereign credit ratings of the Kingdom of Spain (hereafter referred to as "Spain") at BBB+, each with a stable outlook. Political fragmentation and local centrifugal forces increasingly hinder Spain’s fiscal consolidation and structural reform. However, alongside economic recovery, constrained fiscal spending, and an improved debt structure, the government debt burden declines slowly, thus allowing for stable government solvency in local and foreign currency.
The main reasons for maintaining the sovereign credit ratings of Spain are as follows:
First, political fragmentation and local centrifugal forces increasingly inhibit structural reform and the reshaping of banks. Given that the ruling party does not enjoy a parliamentary majority, the Rajoy administration, obstructed by the opposition party and popular anti-austerity sentiments, worryingly drags its feet over policymaking, thus resulting in slow progress in fiscal consolidation and structural reform. At the same time, Catalonia’s Independence Referendum testifies that Spain’s separatists incur increased political risks. In terms of credit environment, economic rebound and the asset restructuring of banks continue enhancing the soundness of financial system, thus improvements in banks’ capital strength, asset quality and liquidity. Profitability will still be eroded by the low-rate climate in the euro zone, however.
Second, growing domestic demand stimulates moderate economic growth in the short term, yet structural problems impede economic growth in the medium and long term. Thanks to a relaxed credit environment, an improved job market, increases in residents’ disposable income, as well as rises in tax preferences, private consumption and investment can sustain moderate growth. Nevertheless, given the mounting restraint upon domestic demand resulting from increasing political risks and constrained public expenditures, it is forecasted that 2018 and 2019 will witness Spanish growth slow down to 2.3% and 2.1%, respectively. In the medium and long term, numerous factors will cause Spain to continue structural adjustment to rebalance its economy, including a surge in structural unemployment, poor regional productivity, a private sector plagued by heavy debt, and significant external vulnerabilities, and therefore it is expected that economic growth will average 1.7% over this period.
Third, fiscal deficit slightly narrows, yet the relatively large fixed expenditure inhibits improvements in repayment sources. Through measures to broaden tax bases and cut government spending, amongst other factors, it is projected that the Spanish general government’s fiscal deficit will decline to 2.7% in 2018 and to 2.3% in 2019, raising the possibility of exiting the excessive deficit procedure, while the ratio of financing needs to GDP at the same period hits 20.6% and 19.9% - still a comparatively high level. In the medium and long term, government repayment resources face certain risks given several factors, including widespread anti-austerity sentiments, the independence campaign stifling initiatives to reduce deficits among regions, monetary policy normalization in the euro zone driving up Spain’s financing costs, as well as population aging causing mounting pressure from social welfare spending.
Fourth, the government debt burden declines gradually, thus government solvency is stable. Thanks to the initial results from continued recovery and fiscal consolidation, it is forecasted that the ratio of general government debt to fiscal revenues will decline to 249.4% in 2018 and 246.2% in 2019, characterized by slow declines in the medium term. Meanwhile, by means of debt swaps and extending maturities, government debt structure continues improving, thus eased repayment pressure and stable solvency.
In the short term, although stronger separatists among certain regions incur greater uncertainty over reform, the country’s improving domestic demand could continue to support moderate economic growth. Considering European Central Bank’s releasing sufficient liquidity and Spain’s fiscal consolidation, the country’s government debt burden declines slowly, thus debt structure continues improving and solvency remains stable. With all discussed above, Dagong assigns a stable local and foreign currency sovereign credit rating outlook for Spain in the following one to two years.