Fitch Affirms Georgia at ‘BB’; Outlook Stable

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A credible and effective policy framework and stronger governance indicators relative to ‘BB’ rating category peers’ underpins Georgia’s rating. Long-standing support from official creditors have helped reduce risks to macro stability and supported financing needs. These credit 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’.

Substantial Increase in External Inflows: The Russian invasion of Ukraine has so far been a large positive economic shock as up to 90,000 Russian, Belarussian and Ukrainian nationals have entered Georgia. This has resulted in remittances surging 65% yoy in 1H22, with remittances from Russia alone more than tripling. Fitch currently views this is a one-off exogenous shock and the lasting impact on the balance of payments and external finances is not yet fully clear.

In 2022 the increased remittances will shrink the current account deficit to around 5.1% of GDP (1Q22: 13%; 2021: 9.8%), although still well above the current ‘BB’ median of 3.5%. Foreign-exchange (FX) reserve coverage will average 4.5 months of current account payments in 2021-2024 (current BB median: 5.2 months). The approval of a USD280 million (1.5% of 2021 GDP) stand-by arrangement of the IMF for Georgia in June is also positive for external liquidity risks, although authorities are currently treating it as a precautionary facility.

Geopolitical and Sanctions Risks: Georgia is highly exposed to geopolitical risks, particularly given the unresolved conflicts involving Russia in Abkhazia and South Ossetia. Authorities are implementing international sanctions on Russia, overseeing the change of ownership of one major Russian-owned bank and taking control of a large mineral water producer. At the same time, economic relations remain meaningful and the government’s nuanced approach to the conflict appears to have aggravated segments of the domestic population.

Policy Framework Remains Sound: Georgia has a strong pre-pandemic record of fiscal discipline, with progress in revenue management and budgetary transparency of state-owned enterprises. Fiscal policy is gradually tightening amid very strong revenue growth and currency strength, and authorities intend to return to adherence to fiscal rules requiring deficits below 3% of GDP by 2023. There are some efforts at export-market diversification, with China emerging as the largest export market in January-May 2022.

The National Bank of Georgia’s (NBG) policy mix is vigilant, and it has allowed the lari to act as a natural shock absorber and not intervened to weaken the currency (which has risen 11.5% since end-February). The NBG has raised its policy rate by 50bp to 11% in response to higher inflation.

Strong Rebound in Growth: Propelled by a very solid increase in tourism numbers (234.5% yoy in 1H22), stable public consumption, positive net exports and remittances, real GDP growth is forecast 10.9% in 2022. Positive spillover effects on personal consumption, as well as stable export demand and continuing tourism recovery will help keep growth at 5.3% in 2023 and 4.7% in 2024. Some overheating risks are evident in the property sector, with major (sale and rental) price increases.

Resilient Banking Sector, High Dollarisation: The Georgian banking sector is stable and well-capitalised (1H22: regulatory capital ratio of 20.3%), with non-performing loans at 4.7% of the loan book (NBG definition, which includes sub-standard, doubtful and loss loans) as of 1H22, and adequate sector supervision. As of 1H22, loan dollarisation amounted to 49.1%, largely unchanged from end-2021 levels, while deposit dollarisation, at 59%, was about 2pp down from the start of the year. Banks are incentivised to reduce FX liabilities through lower reserve requirements for lower deposit dollarisation levels.

High FX Risk in Debt Dynamics: Tighter fiscal policy and stronger than previously expected nominal GDP growth will help stabilise general government debt (GGD) at an average of 42.6% of GDP in 2022-2024, only slightly above pre-pandemic levels (current peer median: 55%). Exposure to FX risks is considerable, with 80.5% of public debt denominated in foreign currency (current peer median: 57.3%). Apart from that, the public debt profile is largely favourable, with 73% made up of concessional borrowing, and the weighted average maturity of external debt at over eight years.

Inflation Risks: Inflation reached 12.8% yoy in June, well above the central bank’s inflation target of 3%, with a large contribution from food prices (6.3pp). The impact of global energy price increases on Georgia is more contained as it primarily obtains natural gas from Azerbaijan on a long-term contract-basis, while lari appreciation has helped prevent higher inflation. Fitch expects inflation to average 11.5% yoy in 2022, as housing and food prices will remain high, before declining to 6.2% in 2023 and 4.2% in 2024. Monetary policy will remain tight, though high levels of dollarisation and the predominantly fixed-rate structure of lending mitigates the effectiveness of monetary-policy transmission.

Governance Indicators: Georgia benefits from governance indicators that are among the highest in the ‘BB’ rating category, although scores have been declining recent years. There are political risks associated with upcoming elections in 2024, where relations with Russia and the EU are divisive issues. We see a risk that politics could weigh on progress in structural reform and the business environment over time.

ESG – Governance: Georgia has an ESG Relevance Score of ‘5’ and ‘5[+]’ for political stability and rights, and for the rule of law, institutional and regulatory quality and control of corruption respectively. Theses scores reflect the high weight that the World Bank Governance Indicators (WBGI) have in our proprietary Sovereign Rating Model (SRM). Georgia has a medium WBGI ranking at the 62nd 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: Substantial worsening of domestic political or geopolitical risks with adverse consequences for economic growth and the policy framework

External Finances: A sharp increase in external vulnerability, eg. from sustained widening of the current account deficit and rapid decline in international reserves

Public Finances: Government debt/GDP being placed on an upward path over the medium term, reflecting either insufficient fiscal adjustment, a weaker growth environment or further external shocks

Factors that could, individually or collectively, lead to positive rating action/upgrade:

External Finances: A reduction in external vulnerability, for example from a narrowing in the current account deficit closer to peer levels, and/or increase in international reserves, leading to the removal of the -1 notch on external finances

Macro: 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 LTFC IDR scale.

Fitch’s sovereign rating committee adjusted the output from the SRM to arrive at the LTFC IDR by applying its QO, relative to SRM data and output, as follows:

Fitch removed the +1 notch for macroeconomic performance, policies and prospects that was temporarily added in the aftermath of the Covid-19 pandemic to offset the deterioration in the SRM output driven by the pandemic shock, including from the growth volatility variable.

External Finances: -1 notch, to reflect that relative to its peer group, Georgia has higher net external debt, a structurally larger current account deficit, 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 LTFC IDR. Fitch’s QO is a forward-looking qualitative framework designed to allow for adjustment to the SRM output to assign the 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

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