Dagong Upgrades the Sovereign Credit Ratings of Portugal to BB+ with a Stable Outlook
Dagong Global Credit Rating Co., Ltd.
August 16, 2017
Dagong Global Credit Rating Co., Ltd. (“Dagong”) has today decided to upgrade both the local and foreign currency sovereign credit ratings of the Portuguese Republic (“Portugal”) to BB+, each with a stable outlook. Improvements in both domestic and foreign demand have accelerated the country’s economic growth. An expansion of the primary fiscal surplus and a reduction in financing costs has improved the security of sources of debt repayment. The government’s debt burden has entered a downward channel. Therefore, government solvency in both local and foreign currencies has improved.
The primary reasons for upgrading the sovereign credit ratings of Portugal are detailed below:
1. The economic development strategy is being pursued, while the fragility of Portugal’s financial system is expected to improve. The center-left government continues to follow the development strategy of infrastructure construction in order to stimulate economic development, while committing itself to enterprise debt restructuring and encouraging scientific and technological innovation to enhance competitiveness. Economic reforms have begun to bear fruits and are expected to stimulate sustained economic recovery. As for the credit environment, the warming up of the real estate market and the country’s economic upswing are expected to reduce the level of non-performing loans in the banking sector. Actively promoted by the government, capital reorganization and sales of badly run banks will also enable banks to resist risks across the board.
2. In the short term, Portugal’s economic growth will rebound significantly, and the economy will be decreasingly vulnerable. Private sector deleveraging has produced remarkable effects and thereby significantly improved profitability and created conditions for investment growth. The rapid growth of investment in tourism and related construction industries, as well as the continued improvement in the labor market, has also laid the foundation for growth in consumption. Coupled with economic recovery in the euro zone boosting exports, in the first quarter of 2017, Portugal's economy has achieved a growth rate of 2.8%, which is beyond expectation. Dagon projects that Portugal’s economic growth rate will rise to 2.2% and 1.9%in 2017 and 2018, respectively. In the mid- to long-term, Portugal's aging population remains serious problem, and the country’s burden of private sector debt and net foreign debt remain heavy, although improvements have been made in private sector deleveraging and current account. As a result, Dagong expects that the average economic growth rate of Portugal in the next five years will hover around 1.3%.
3. Growth of the primary financial surplus and reduced financing costs has improved the security of government sources of debt repayment. Since fiscal expenditure in 2016 did not include the one-off banking bailout expense, and the financing cost declined, the general government primary fiscal balance recorded a2.2% surplus that year. In the short term, easing fiscal measures, such as restoring benefits and pension funds for civil servants, will increase the difficulty of fiscal consolidation, although an economic upswing will increase tax revenues. The general government primary fiscal surplus is likely to stay the same and stand at 2.2% for 2017. In 2018, the full implementation of easing policies such as restoring benefits, and the continuous implementation of the fiscal consolidation policies such as limiting the size of the civil service and improving the efficiency of government spending will likely push the primary fiscal surplus up to 2.3%.Moreover, reduced financing costs and the optimization of the government’s financing structure will help reduce the ratio of the government’s financing needs to GDP, which is expected to be 9.3% in 2018, thereby improving the security of government sources of debt repayment.
4. The government debt scale has entered a downward channel, which is conducive to government solvency. As the economy stabilizes and fiscal consolidation produces its effects, the general government debt burden has inched down to 130.4% of GDP as of the end of 2016, and is expected to further decline to 128.5% and 126.3% in 2017 and 2018, respectively. In the mid- to long-term, the government has optimized its debt structure by means of the early repayment of loans and increasing bond financing, which help to reduce short-term debt repayment pressure. However, the government’s debt burden continues to remain heavy. In the mid- to long-term, Portugal will continue to predominantly rely on the European Central Bank (ECB) for liquidity to roll over debts. The noticeable asset quality problem and inadequate capital in the banking system will pose a significant contingent liability risk to the government.
In the short run, Portugal’s economic upswing and gentle fiscal consolidation will help ease the government’s debt burden. The ECB’s bond-buying plan will sustain the government’s borrowing costs at a sustainable level. Government solvency in both local and foreign currencies will remain stable. As a result, Dagong has decided to maintain a stable outlook for both the local and foreign currency sovereign credit ratings of Portugal for the next one to two years.