Dagong Global Credit Rating Co., Ltd.
March 23, 2018
Dagong Global Credit Rating Co., Ltd. (hereafter referred to as “Dagong”) has decided to maintain the local and foreign currency sovereign credit ratings of the Republic of Turkey (hereafter referred to as “Turkey”) at BB and BB-, respectively, each with a negative outlook. Although Turkey’s domestic political situation tends towards stability, yet growing geopolitical risks undermining the repayment environment,slow economic growth, a widening fiscal deficit, and rising financing costs have altogether compromised the security of government repayment sources. As a result, government solvency faces downward pressure.
The key reasons for maintaining the negative outlook of sovereign credit ratings of Turkey are laid out below:
First, given the increasing geopolitical risks and highly vulnerable credit system, Turkey’s debt repayment environment faces downward pressure. At the beginning of 2018, Turkey’s “Operation Olive Branch” in Afrin of northwestern Syria will continue, thus increasing geopolitical risks thereafter will constrain domestic economic development and financial consolidation. In terms of credit ecology, high inflation, lira depreciation, and the tightening of global liquidity have significantly reduced the scope for central bank to tweak monetary policy. Thus, Turkey’s credit policy is expected to be tight in the short term, which is not conducive to credit supply. At the same time, heightened geopolitical risks undermining the country’s investment environment might put pressure on the quality of banking assets, and aggravate the mismatch of financing structure of the banking industry, incurring increasing liquidity risk.
Second, economic growth has slowed down, and structural problems constrain growth in the medium and long term. In the short term, a tightening monetary policy and rising geopolitical risks will worsen the Turkish business environment, dampen investment, and erode consumer confidence. Turkey's economic growth is expected to slow to 3.5% in 2018 and 2019. In the medium and long term, economic growth will be constrained by problems, including secular and religious strife, a growth model heavily dependent on foreign funds, as well as insufficient energy infrastructure. Turkey's economic growth is expected to average around 3.6% in the medium and long term.
Third, "Operation Olive Branch" and domestic purges impede the implementation of fiscal consolidation, and the security of repayment sources comes under pressure. In the short term, slow economic growth, “Operation Oliver Branch” and ongoing purges at home will render it difficult for government to achieve budgetary targets. The primary fiscal deficit of the Turkish general government in 2018 and 2019 is expected to be 1.6% and 1.3% while the ratio of financing needs to GDP will be 4.1% and 2.9%, respectively. At the same time, the tightening of global monetary policy and increasing geopolitical risks will push up financing costs in Turkey. As of March 9, 2018, the yield on Turkish 10-year government bonds was as high as 12.03%. The government’s debt financing capacity has declined, and the government’s repayment security is under pressure.
Fourth, inadequate international reserves and devaluation pressure on the local currency have increased the risks of external debt repayment. Due to a growing current account deficit and lira devaluation, Turkey’s total foreign debt burden rose by 2.9 percentage points to 50.2% in 2017; meanwhile the coverage of international reserves on the aforementioned debt fell by 1.8 percentage points to 24.3% and the coverage on short-term foreign debt was 97.2%. Thus, external liquidity risks are rising, and government solvency in foreign currency faces downward pressure.
The key reasons for maintaining the sovereign credit ratings of Turkey are laid out below: First, the passage of the constitutional amendment will allow Turkey to adopt its new presidential system following the presidential and parliamentary elections in 2019, which provides President Erdogan with an increasingly sound legal basis, thus allowing the continuity of policies adopted to promote inclusive economic growth and strengthen fiscal discipline in the short term. Second, although military operations will increase the burden of government fiscal expenditure, the ratio of general government debt to fiscal revenues in 2018 and 2019 is projected to be 102.0% and 103.9%, respectively, with a slight upward trend in the medium and long term. Nevertheless, government debt is relatively low across the board with a certain fiscal cushion. Dagong will continue to follow changes in Turkish risk factors and make timely adjustments of its sovereign credit rating.