DBRS Downgrades Spain to A (high), Trend Remains Negative

DBRS, Inc. (DBRS) has today downgraded the ratings on the Kingdom of Spain’s long-term foreign and local currency debt to A (high) from AA (low). The trends remain Negative. The downgrade reflects increased difficulty in redressing fiscal imbalances, and the significant rise in the government’s debt-to-GDP ratio. According to the government’s forecast, assuming success in meeting fiscal targets, gross public debt will rise to 79.8% of GDP in 2012 from 68.5% of GDP in 2011. The Negative trends reflect continuing uncertainty in financial markets, including difficult funding conditions for the Spanish banking system, as well as downside risks to the European and Spanish growth outlooks.

DBRS recognises the progress achieved by Spain to date, particularly in reducing its current account deficit from 9.6% of GDP in 2008 to 3.5% of GDP in 2011, with strong growth of exports of goods. DBRS also acknowledges the strong commitment to fiscal consolidation shown by the recently elected government as outlined by its budget and fiscal initiatives. Similarly, DBRS views the reforms undertaken by the government as positive. Initiatives in the labour market will likely improve collective bargaining and make wages more responsive to economic conditions, while the additional provisioning requirements for banks recognises greater asset quality deterioration from exposures to real estate developers and construction firms, and may contribute to a faster adjustment in the real estate market. Furthermore, the ruling People’s Party’s outright majority in Congress is facilitating the passage of structural reforms.

Despite this progress on the structural front, several factors will make it difficult to reduce the deficit from 8.5% of GDP in 2011 to 5.3% of GDP in 2012 and 3.0% of GDP in 2013. These include past underperformance relative to fiscal targets by autonomous communities, an increase in expenses such as interest payments, by 0.9% of GDP in 2012, and persistent deterioration in labour market conditions as the economy enters a second recession. Unemployment rose to 24.4% in the first quarter of 2012, and affiliation to social security has continued falling. Additionally, a measure financing local and regional government, mostly to clear obligations with suppliers is expected to contribute 3.9% of GDP to general government debt in 2012. Partly due to these fiscal imbalances, Spain’s debt-to-GDP ratio continues to rise rapidly.

DBRS could change the trend from Negative to Stable if there is a material reduction of the downside risks to the growth outlook of advanced economies, in conjunction with more stable financial markets in Europe and Spain. However, further downward rating actions could be triggered by significant fiscal slippages, significant additional public sector support for the banking sector, a worsening of Spain’s growth prospects, or a deterioration in funding conditions.

Note:
All figures are in Euros (EUR) unless otherwise noted.

The principal applicable methodology is Rating Sovereign Governments, which can be found on the DBRS website under Methodologies.

The sources of information used for this rating include the Bank of Spain, Ministry of Economy and Finance, Instituto Nacional de Estadística (INE), IMF and Haver Analytics. DBRS considers the information available to it for the purposes of providing this rating was of satisfactory quality.

This credit rating has been issued outside the European Union (EU) and may be used for regulatory purposes by financial institutions in the EU.

This rating is endorsed by DBRS Ratings Limited for use in the European Union.

This is an unsolicited rating. This rating did not include participation by the rated entity or any related third party, and is based solely on publicly available information.

Lead Analyst: Pedro Auger
Rating Committee Chair: Alan G. Reid
Initial Rating Date: 21 October 2010
Most Recent Rating Update: 8 December 2011

For additional information on this rating, please refer to the linking document under Related Research.