— Greater policy stability should support Greece’s economy and its banks, while enabling the government to service its moderate stock of commercial government debt.
— We think large public infrastructure projects will catalyze private investment in tourism and logistics, improving Greece’s growth projections.
— We are revising our outlook on Greece to positive, and affirming our ‘B+/B’ ratings.
— The positive outlook reflects a possible upgrade if the authorities unlock Greece’s growth potential by boosting competition in product markets, bolstering property rights, simplifying bankruptcy procedures, and improving the enforcement of contracts.
RATING ACTION
On July 20, 2018, S&P Global Ratings revised the outlook on its foreign and local currency long-term sovereign credit ratings on Greece to positive from stable. At the same time, we affirmed our ‘B+’ foreign and local currency long-term ratings on Greece, as well as our ‘B’ foreign and local currency short-term sovereign credit ratings.
OUTLOOK
The positive outlook on Greece reflects the likelihood of an upgrade should the government implement reforms to broaden the tax base and improve the business environment, leading to a stronger economic recovery. Another potential trigger for an upgrade would be a marked reduction in nonperforming assets in Greece’s impaired banking system, alongside the elimination of all remaining capital controls. Healthier banks could provide credit to the more productive parts of Greece’s critically important small and midsize enterprise (SME) sector.
We could revise the outlook back to stable if, contrary to our expectations, there are reversals of previously implemented reforms, or if growth outcomes are weaker than we expect, restricting Greece’s ability to continue fiscal consolidation, debt reduction, and financial sector restructuring.
RATIONALE
The positive outlook reflects our opinion that Greece’s policy predictability is improving, as are its economic prospects. During 2016 and 2017, the government ran primary fiscal surpluses while the multiyear recession ended last year. However, in our view growth policies rather than additional fiscal measures will be the key determinants of long-term debt sustainability for Greece. Over the next three years, we project real GDP growth of 2.0%-2.5%. However, we see potential for stronger outcomes if the government does more to improve the business environment so as to attract stronger investment inflows from abroad.
Over the near term, there is room for optimism. We think planned increases to public spending on key infrastructure projects in transport, including ports and airports, could contribute to stronger growth by galvanizing private investments in Greece’s most competitive sectors including tourism, shipping, and logistics. Other sectors such as pharmaceuticals and food processing are also increasingly shifting their focus to export markets, seen in last year’s 13.5% year-on-year increase in exports in euro terms (excluding the value of ships) versus three consecutive annual declines between 2013 and 2016. Over the long-term, however, in the absence of reforms to the business environment, the ability of GDP growth to exceed 3% on a sustained basis appears constrained, not least by administrative burdens and anti-competitive behavior across the economy–particularly concentrated in the services sector.
In June, Greece’s official creditors agreed to extend maturities and defer interest payments on EUR96.9 billion of European Financial Stability Facility (EFSF) debt (about one-third of Greece’s debt stock) for another decade (see “Long-Term Ratings On Greece Raised To ‘B+’ On Reduced Sovereign Debt Servicing Risks; Outlook Stable,” June 25, 2018). The Eurogroup also made a conditional promise to consider further debt relief measures in 2032, subject to Greece’s fiscal progress. In terms of maturity and average interest costs, Greece has one of the most advantageous debt profiles of all our rated sovereigns. Our rating pertains to the commercial portion of Greece’s central government debt, which is less than 20% of total Greek debt, or less than 40% of GDP.
The final program disbursement will also provide Greece with a sizable cash buffer, which we estimate will meet central government debt servicing into 2022. We project that Greece’s debt-to-GDP ratio will decline from 2019 onward, aided by a recovery in nominal GDP growth. Even so, given our growth expectations and our assumption that the primary surplus is likely to settle at around 2% of GDP by 2023, we don’t project gross general government debt to decline below 100% of GDP until 2030–except under the scenario of outright debt write-offs.
Were official lenders to consider additional debt relief, for example in the event of far weaker growth leading to underperformance on fiscal targets, they could potentially call for private sector involvement (PSI). In our opinion, this theoretical risk of PSI may limit the maturity of new commercial financing available to Greece to bonds that expire before 2033 and 2034 that is, before the EFSF and European Stability Mechanism (ESM) official loans begin to amortize respectively. Even so, the current refinancing schedule does not look strenuous, with no single year’s redemptions exceeding EUR11.8 billion or 6.3% of GDP, excluding Treasury bills. Once Greece graduates from the third economic adjustment program (the program or the ESM program) in August, it will also be free to increase the outstanding amount of treasury bills, a potential source of additional liquidity over and above its sizable cash buffer.
Institutional and Economic Profile: Greece will exit the ESM program this year, with an improving growth and labor market outlook
— Greece graduates from its ESM program in August 2018, having secured further debt relief and a sizable cash buffer.
— Enhanced post-program surveillance will incentivize reform, albeit on a less ambitious scale than before.
— We project that the economy will grow by 2.3% on average over 2018-2021, with risks to the upside.
Greece’s expansive bureaucracy, ineffective judiciary, unequal tax burden, and weak creditor protections have contributed to prolong its decade-long economic crisis. Frequent policy shifts, including the decision to hold a referendum on a desperately needed EU financing line in 2015, both deterred capital inflows and prompted large deposit outflows from the banks. The cost of these decisions was a further prolongation of Greece’s recession back in 2015, larger capital requirements for the banks, and, hence, an even higher stock of public debt.
Since 2015, policy uncertainty has receded. On August 20, the Syriza-led government will graduate from its third lending program having overseen large fiscal and external adjustments. Its success sets up the Greek economy well for a cyclical recovery over the next few years. That said, in the absence of reforms to its product and services markets, we continue to project 2018-2021 GDP growth of just over 2%, following real GDP growth of 1.4% in 2017. While this is a welcome turnaround, that pace of recovery does not compare well to several other EU member states that suffered protracted downturns in 2011-2013, including Croatia, Ireland, Slovenia, and Spain. Over the last few years, those economies have seen GDP growth of well over 3%, partly reflecting their far healthier banking systems.
One of the key differences between Greece and its peers is that the Greek authorities have made limited progress in improving the country’s business environment. While its labor market is arguably highly flexible, Greece compares poorly to its peers due to its many impediments to competition in its product and professional services markets, alongside relatively weak property rights, complex bankruptcy procedures, an inefficient judiciary, and the low predictability of the enforcement of contracts. As a consequence, net FDI inflows have only recently improved, and may not be sufficient to fund a more powerful economic recovery. At the same time, a possible reversal of labor reform, which could reintroduce collective wage negotiations at the national level, might weaken the ongoing recovery in the jobs market by reducing flexibility at the company level to navigate a tough economic situation.
The inability of Greece’s banks to finance the economy is weighing on the strength of the recovery. Without access to working capital, the broader SME sector–the economy’s largest employer–remains in varying degrees of distress. Private sector default is widespread, including on tax debt, and the process of declaring bankruptcy is particularly convoluted relative to EU norms. Despite the recent accelerated progress in reducing the stock of nonperforming exposures (NPEs), about one-third of banks’ loan books are likely to remain impaired until 2021 even if their ambitious plans to tackle NPEs succeed. While deposits into the banking system have been growing–household and corporate deposits grew by 4% in 2017–confidence has not returned to the extent that would enable a full dismantling of capital controls in the next year, although controls have been eased. Moreover, the economy’s ability to attract foreign investment to finance growth remains weak. Complacency in addressing structural problems may not adversely affect macroeconomic outcomes or sovereign debt servicing ability in the medium term, but would likely cap Greece’s growth prospects in the long run.
In April, the Greek government published a “Growth Strategy for the Future,” which aims to close what it terms the productivity deficit. The objective is to move away from wage/price competition toward an economy that increases value-added in Greece’s most advantaged sectors (tourism, agriculture, pharmaceuticals, shipping, ports, and logistics). The strategy looks at how to broaden the tax base to reduce high corporate and personal income tax rates, and to benefit private investment and employment. However, we view the proposed reintroduction of collective wage negotiations as appearing to contradict other parts of the strategy, in particular the focus on reducing informality. One risk is that by reducing employers’ flexibility to set pay packages at the company level, authorities may inadvertently push employers to hire and pay via informal channels.
After Greece’s graduation from the ESM program, it will be subject to quarterly reviews by its European creditors and the International Monetary Fund. Ongoing debt relief and the return of profits on Greek bonds held by the European Central Bank (ECB) and the eurozone’s national central banks will be subject to ongoing compliance with the program’s objectives. The use of the cash buffer for purposes other than debt servicing will have to be agreed with European institutions. We therefore believe that the Greek authorities will be strongly incentivized to avoid backtracking markedly on most previously legislated reforms.
Flexibility and Performance Profile: Greece will continue to run fiscal surpluses and pay down debt through 2021
— We project general government debt will decline from 2019 onward, both in nominal terms and relative to GDP.
— The creation of cash buffers via the final ESM program disbursement will reduce risks to debt repayments over our four-year forecast horizon.
— Greek banks made faster progress in reducing the stock of impaired loans in 2017.
Greece has established a track record of exceeding budgetary targets via rigid expenditure controls. This culminated in a primary budgetary surplus of 4% of GDP last year. During the first five months of 2018, the government has posted a substantial cash fiscal outperformance.
We project that in 2018-2021 Greece will report general government primary surpluses that should see gross general government debt decrease to about 160% of GDP in 2021 from an estimated 184% in 2018. Net of its cash buffers, we project that net general government debt will decline below 150% of GDP in 2021. Even in nominal terms, we forecast gross general government debt to decline from 2019, in line with the central government amortization schedule and our expectation of headline fiscal surpluses. We include commercial bond issuance in our projections, noting the authorities’ desire to build up the yield curve. However, we do not include in our calculations any use of cash buffers to prepay official loans or buy back outstanding commercial debt.
We project lower primary surpluses than targeted because we don’t rule out the possibility of a more flexible approach from Greece’s creditors toward its compliance with the highly ambitious and potentially self-defeating medium-term primary surplus target of 3.5% of GDP. Greece has run primary surpluses of nearly 4% in both 2016 and 2017, well over target. Although revenues grew, a large part of the adjustment was due to spending restraints. Progress in broadening the tax base, and reducing evasion particularly by the self-employed, has been mixed at best. While the headline consolidation progress has been dramatic, it is notable that key components of spending on human capital, particularly on education and health, have been cut sharply to below European averages since 2008.
Despite the size of its debt, at 1.7% the average cost of servicing this debt is significantly lower than the average cost of refinancing for the majority of sovereigns rated in the ‘B’ categories. We anticipate that, even with increasing commercial debt issuance, the proportion of commercial debt will remain less than 20% of total general government debt through year-end 2021. We therefore expect a gradual reduction in interest costs relative to government revenues. We estimate the average remaining term of Greece’s debt at over 18 years, although this is set to increase further with the implementation of the debt relief measures granted in June.
In 2017, Greek banks accelerated progress on reducing their NPE stocks, moderately outperforming the operational target set by the Bank of Greece. While NPEs still constitute nearly one-half of systemwide loans, in absolute terms domestic NPEs reduced by nearly EUR8.5 billion. Initiatives to tackle the high stock of NPEs are underway, including the implementation of out-of-court restructuring, the development of a secondary market, and electronic auctions. We think, however, that write-offs are likely to remain one of the most important means of reducing these exposures over the next few years.
The large stock of NPEs constrains the effective transmission of ECB monetary policy into the Greek economy, in our opinion. We note that price trends continue to differ in Greece from the rest of the eurozone. For instance, throughout 2018, inflation has continued to lag the eurozone average. With the exception of January, inflation in Greece has been below 1% (measured as 12-month average increase) for 2018 to date.
Over the past year, Greece’s systemically important banks have issued covered bonds–like the sovereign, this was their first market foray since 2014. From January to May this year, the banks continued to reduce their reliance on official ECB financing, including on the more costly emergency liquidity assistance. An uptick in deposits has helped, as have repurchase transactions with international banks. Financing remains predominantly short term, though. With Greece graduating from the ESM program, its banks are likely to lose the waiver that allows them to access regular ECB financing using Greek government bonds as collateral. Given that this financing is relatively small (about EUR4 billion) we do not anticipate a disruption to the banks’ funding from the loss of this waiver.
Greece has had a significant adjustment in its external deficit. The current account narrowed to 0.8% of GDP in 2017, from a deficit of nearly 14.5% in 2008, with much of the adjustment coming via significant import compression. In 2017, despite a widening of the trade deficit, prompted by a higher oil deficit and import growth, the overall current account deficit narrowed thanks to the higher surplus on the services account, owing predominantly to the strong growth in tourism receipts. We project the current account surplus will widen slightly over our four-year forecast period with increased imports from strengthening domestic demand.
KEY STATISTICS
RATINGS SCORE SNAPSHOT
RELATED CRITERIA
— Criteria – Governments – Sovereigns: Sovereign Rating Methodology, Dec. 18, 2017
— General Criteria: Methodology For Linking Long-Term And Short-Term Ratings, April 7, 2017
— General Criteria: Use Of CreditWatch And Outlooks, Sept. 14, 2009
— General Criteria: Methodology: Criteria For Determining Transfer And Convertibility Assessments, May 18, 2009
RELATED RESEARCH
— Sovereign Risk Indicators, July 5, 2018. An interactive version is also available at http://www.spratings.com/sri
— Sovereign Ratings History, July 5, 2018
— Sovereign Ratings List, July 5, 2018
— Global Sovereign Rating Trends: First-Quarter 2018, April 11, 2018
— Sovereign Debt 2018: Global Borrowing To Remain Steady At US$7.4 Trillion, Feb. 22,
— 2018
— Annual Sovereign Default Study And Rating Transitions, May 8, 2018
— Long-Term Ratings On Greece Raised To ‘B+’ On Reduced Sovereign Debt Servicing Risks; Outlook Stable, June 25, 2018
— Credit FAQ: What Are The Rating Implications Of Greece’s EUR30 Billion Debt Swap?, Nov. 17, 2017
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 committee’s assessment of the key rating factors is reflected in the Ratings Score Snapshot above.
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 consistency with the Committee decision. The views and the decision of the rating committee are summarized in the above rationale and outlook. The weighting of all rating factors is described in the methodology used in this rating action (see ‘Related Criteria And Research’).
RATINGS LIST
Ratings Affirmed; Outlook Action
To From
Greece
Sovereign Credit Rating B+/Positive/B B+/Stable/B
Senior Unsecured B+ B+
Commercial Paper B B
Transfer & Convertibility Assessment AAA AAA
Certain terms used in this report, particularly certain adjectives used to express our view on rating relevant factors, have specific meanings ascribed to them in our criteria, and should therefore be read in conjunction with such criteria. Please see Ratings Criteria at www.standardandpoors.com for further information. Complete ratings information is available to subscribers of RatingsDirect at www.capitaliq.com. All ratings affected by this rating action can be found on S&P Global Ratings’ public website at www.standardandpoors.com. Use the Ratings search box located in the left column. Alternatively, call one of the following S&P Global Ratings numbers: Client Support Europe (44) 20-7176-7176; London Press Office (44) 20-7176-3605; Paris (33) 1-4420-6708; Frankfurt (49) 69-33-999-225; Stockholm (46) 8-440-5914; or Moscow 7 (495) 783-4009.
Primary Credit Analyst: Aarti Sakhuja, London (44) 20-7176-3715;
aarti.sakhuja@spglobal.com
Secondary Contact: Frank Gill, Madrid (34) 91-788-7213;
frank.gill@spglobal.com
Research Contributor: Meenakshi Gautam, CRISIL Global Analytical Center, an S&P Global Ratings affiliate, Mumbai
Additional Contact: SovereignEurope;
SovereignEurope@spglobal.com
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