Fitch Ratings– Fitch Ratings has affirmed Georgia’s Long-Term Foreign-Currency Issuer Default Rating (IDR) at ‘BB’ with a Stable Outlook.
KEY RATING DRIVERS
A credible and effective policy framework and stronger governance indicators relative to ‘BB’ peers underpins Georgia’s rating. Long-standing support from official creditors have helped reduced risks to macro stability and supported financing needs. These credits strengths are balanced by significant exposure of public debt to foreign-currency (FC) risk, high financial dollarisation, and external finances that are significantly weaker than the majority of ‘BB’ category rated peers.
Georgia’s economy expanded robustly in 2021. Real GDP growth is estimated to have reached 10.6% in 2021, following a contraction of 6.8% in 2020. Economic recovery has been driven by domestic demand, strong inflows of net remittances, a partial tourism recovery, and fiscal stimulus (e.g. subsidies and social benefits). Growth in exports of goods also performed strongly due to the recovery of key trading partners and higher commodity prices. For 2022 and 2023, we forecast Georgia’s economy to expand by 5.5% and 5.3%, respectively, above potential of 4.0%-4.5%. Increased financial inflows will support private consumption and investment. Recovery in the tourism sector is also projected to pick up, with Fitch forecasting tourism receipts towards 80% of 2019 levels in 2022, after reaching 38.1% of 2019 levels in 2021.
Risks to our GDP outlook remain on the downside. Uncertainty surrounding the pandemic remains. Georgia is currently experiencing a significant fourth wave of Covid-19 cases, while its vaccination rate remains low. As of 31 January, 32.8% of Georgia’s population were fully vaccinated. The majority of domestic Covid-19 restrictions lifted in late 2021. Potential re-tightening of restrictions could impact our forecasts. Meanwhile, developments in Turkey and Russia, both key trading partners, also present downside risk.
Annual inflation accelerated to 13.9% in December, reflecting higher global commodity prices, lari depreciation and a spike in utility prices. With inflation significantly above the target of 3.0% and increased short-term price expectations, the National Bank of Georgia (NBG) tightened monetary policy, increasing the policy rate a cumulative 250bp, from 8.00% to 10.50%. We expect the NBG to maintain a tight policy stance for 2022. Fading out of high base effects should start to bring down inflation from 2Q22. However, the risk of high inflation expectations becoming entrenched is a vulnerability. We forecast average inflation of 7.0% in 2022, after 9.6% in 2021.
Financial developments have been broadly stable. Despite the pandemic shock, Georgian banks managed to increase their regulatory capital buffers (the sector capital adequacy ratio (Basel III) at 19.6% in 4Q21 vs 17.6% in 4Q20). Non-performing loans (NBG methodology), have declined to 5.2% in 4Q21 after peaking at 8.3% in 1Q21. Credit growth is also robust (adjusted for FX effects up 16.8% in 2021), consistent with the acceleration in GDP.
Meanwhile, widened interest differentials between lari and foreign-currency (FC) loans have seen a pick-up in FC lending. However, as a share of total lending, FC loans declined in 2021 (50.8% in 2021 vs 55.7% in 2020). Given the vulnerabilities of Georgia’s highly dollarised economy, we expect the NBG will maintain a vigilant policy mix, as shown by recent macro-prudential measures targeting the dollarisation exposure of bank’s credit portfolios and decreasing the maximum maturity for FX denominated mortgage loans.
Fiscal policy remains moderately loose. However, economic growth and the expiry of 2021 Covid-19-related expenses will more than offset discretionary expenses in the 2022 budget; which include increases in public sector wages for healthcare, education and defence professions, increased pensions, and plans for higher infrastructure spending. Aside from the impact of positive GDP growth, government revenues will also benefit from increased taxes after last year’s tax exemptions. We forecast Georgia’s 2022 general government fiscal deficit to narrow to 4.4% of GDP, after an estimated 6.1% of GDP in 2021. This compares with the current ‘BB’ median fiscal deficit of 5.2% of GDP for 2021.
Georgia’s pre-pandemic record of compliance with national fiscal rules (which aim for fiscal deficits below 3.0% of GDP and government debt below 60% of GDP) should underpin fiscal policy over the medium term, and we expect a strategy of fiscal consolidation to resume once the pandemic shock subsides. Progress continues in strengthening tax administration to improve revenues, as well as improving the budget transparency of state-owned enterprises, which might yield savings. However, medium-term spending pressures remain high on the back of an ambitious government infrastructure plan. After peaking at 60.2% of GDP in 2020, we estimate government debt declined to 50.1% in 2021 (vs the current ‘BB’ median of 57.0%).
External buffers remain adequate, with foreign reserves (by Fitch’s estimates) covering around 3.6 months of current external payments at end-2021 (although this is below the current ‘BB’ median of 5.6 months end-2021). Despite a widening of the trade deficit in 2021, a healthy inflow of net remittances, and partial recovery in both net tourism receipts and FDI flows, supported foreign reserves. FX interventions by the NBG were also small in 2021. We estimate Georgia’s current account deficit (CAD) to have reached 10.9% of GDP end 2021, after 12.4% in 2020. Gradual recovery in the tourism sector will support narrowing of the CAD towards 8.2% of GDP in 2022. Against ‘BB’ peers, Georgia’s net external debt is considerably higher (74.3% of GDP end-2021 vs ‘BB’ median of 18.4%), leaving the small and highly dollarised economy vulnerable to external shocks.
Georgia’s governance indicators are well above the current medians of ‘BB’ category peers (62.0 percentile vs ‘BB’ median 44.0 percentile. Nonetheless, political risk associated with unresolved conflicts involving Russia in Abkhazia and South Ossetia remains material and the evolution of relations with Russia can impact domestic politics as well as the economy. Meanwhile, developments in domestic politics have become increasingly polarised between ruling party Georgian Dream and its main political opposition United National Movement. We do not expect domestic politics to infringe on Georgia’s credible policy framework and relationship with official creditors. However, there is a risk that politics could weigh on progress in structural reform and the business environment. Georgia’s composite governance indicator score has been on a gradual decline in recent years.
ESG – Governance: Georgia has an ESG Relevance Score of ‘5’/’5[+]’ for both Political Stability and Rights and for the Rule of Law, Institutional and Regulatory Quality and Control of Corruption. Theses scores reflect the high weight that the World Bank Governance Indicators (WBGI) have in our proprietary Sovereign Rating Model. Georgia has a medium WBGI ranking at 62.0 percentile, reflecting moderate institutional capacity, established rule of law, a moderate level of corruption and political risks associated with the unresolved conflict with Russia.
RATING SENSITIVITIES
Factors that could, individually or collectively, lead to negative rating action/downgrade:
– Structural features: Deterioration in either the domestic or regional political environment that affects economic policy-making and economic growth.
– Public Finances: Government debt/GDP being placed on an upward path over the medium term, reflecting either insufficient fiscal adjustment or a weaker growth environment.
– External Finances: An increase in external vulnerability, for example, from a sustained widening of the CAD and rapid decline in international reserves
Factors that could, individually or collectively, lead to positive rating action/upgrade:
– External Finances: A reduction in external vulnerability, for example from a reduction in the current account deficit and/or increase in international reserves.
– Macroeconomics: A stronger and sustained GDP growth outlook with a reduction in macroeconomic vulnerabilities such as the high level of dollarisation, leading to a higher GDP per capita level
SOVEREIGN RATING MODEL (SRM) AND QUALITATIVE OVERLAY (QO)
Fitch’s proprietary SRM assigns Georgia a score equivalent to a rating of ‘BB-‘ on the Long-Term Foreign-Currency (LT FC) IDR scale.
In accordance with its rating criteria, Fitch’s sovereign rating committee decided not to adopt the score indicated by the SRM as the starting point for its analysis because the SRM output has migrated to ‘BB-‘, but in our view this is potentially a temporary deterioration. Consequently, the committee decided to adopt ‘BB’ as the starting point for its analysis, unchanged from the prior committee.
Fitch’s sovereign rating committee adjusted the output from the SRM to arrive at the final LT FC IDR by applying its QO, relative to SRM data and output, as follows:
– Macro: +1 notch, to reflect Georgia’s policy framework strength and consistency, including a credible monetary policy framework, prudent fiscal strategy. This policy mix has delivered track record of resilience to external shocks, including negative developments in its main trading partners, and reduced risks to macroeconomic stability.
– External Finances: -1 notch, to reflect that relative to its peer group, Georgia has higher net external debt, structurally larger CADs, and a large negative net international investment position.
Fitch’s SRM is the agency’s proprietary multiple regression rating model that employs 18 variables based on three-year centred averages, including one year of forecasts, to produce a score equivalent to a LT FC IDR. Fitch’s QO is a forward-looking qualitative framework designed to allow for adjustment to the SRM output to assign the final rating, reflecting factors within our criteria that are not fully quantifiable and/or not fully reflected in the SRM.
BEST/WORST CASE RATING SCENARIO
International scale credit ratings of Sovereigns, Public Finance and Infrastructure issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of three notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from ‘AAA’ to ‘D’. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit https://www.fitchratings.com/site/re/10111579.
REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING
The principal sources of information used in the analysis are described in the Applicable Criteria.
ESG CONSIDERATIONS
Georgia has an ESG Relevance Score of ‘5’ for Political Stability and Rights as World Bank Governance Indicators have the highest weight in Fitch’s SRM and are therefore highly relevant to the rating and a key rating driver with a high weight. As Georgia has a percentile rank below 50 for the respective Governance Indicator, this has a negative impact on the credit profile.
Georgia has an ESG Relevance Score of ‘5[+]’ for Rule of Law, Institutional, Regulatory Quality and Control of Corruption as World Bank Governance Indicators have the highest weight in Fitch’s SRM and are therefore highly relevant to the rating and are a key rating driver with a high weight. As Georgia has a percentile rank above 50 for the respective Governance Indicators, this has a positive impact on the credit profile.
Georgia has an ESG Relevance Score of ‘4’ for Human Rights and Political Freedoms as the Voice and Accountability pillar of the World Bank Governance Indicators is relevant to the rating and a rating driver. As Georgia has a percentile rank below 50 for the respective Governance Indicator, this has a negative impact on the credit profile.
Georgia has an ESG Relevance Score of ‘4’ for Creditor Rights as willingness to service and repay debt is relevant to the rating and is a rating driver for Georgia, as for all sovereigns. As Georgia has a fairly recent restructuring of public debt in 2004, this has a negative impact on the credit profile.
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