DBRS Confirms the Republic of Austria at AAA, with Stable trend

DBRS Ratings Limited (DBRS) has confirmed the Republic of Austria’s long-term foreign and local currency issuer ratings at AAA. DBRS has also confirmed the short-term foreign and local currency issuer ratings at R-1 (high). The trend on all ratings remains Stable.

The Stable trend reflects DBRS’s expectation that the government will keep to its fiscal consolidation programme and put the country’s debt on a firm downward trajectory over the medium-term. DBRS believes that the country’s robust fiscal framework combined with its track-record of stable and predictable economic policies should support fiscal consolidation going forward. Downward pressure on the ratings could arise, if the new government departed significantly from its consolidation plan, leading to higher than expected deficits and debt. Moreover, any developments in Central and Eastern Europe or Russia that seriously disrupt Austria's banking industry and materially increase the likelihood of a significantly higher burden of government support could also put pressure on the ratings.

The AAA ratings are underpinned by the country’s high income per capita and productivity. Labour productivity in Austria, measured as GDP per hour worked, is among the highest in the world, although lower than the United States and some European peers. This translates into high income per capita, which adjusted for purchasing power parity is 5% higher than Germany and 20% higher than the euro area as a whole. Moreover, productivity gains combined with moderate wage adjustments have preserved Austria’s price competitiveness.

From 1999 to 2013, unit labour costs increased at a slower pace than any other country in the euro area with the exception of Germany. This has supported Austria’s strong export performance and delivered twelve consecutive years of current account surpluses that, together with a high international investment position, further underscore the country’s economic resilience. In addition, with healthy private sector balance sheets and a strong labour market, the domestic economy is well-positioned to support growth as the external environment improves. Household debt in Austria at 53.5% of GDP is low compared to euro area peers and favourable financing conditions should support investment as demand picks up. At the same time, the labour market continues to perform well. The unemployment rate in April 2014 was 4.9%, the lowest in the European Union.

The government’s steady efforts to adhere to its fiscal consolidation path and strengthened fiscal framework also support the ratings. Over the past two years, Austria’s structural fiscal deficit declined significantly stabilising at around 1.4% of GDP, down from 3.4% of GDP in 2010. On the back of broad-based underspending and over-performing tax receipts, headline and structural deficit improved in 2013, reaching respectively 1.5% and 1.1% of GDP, approximately 0.5 percentage point better than targeted. The headline deficit for 2014 is set to increase temporarily to 2.7% of GDP, as a result of additional support measures (1.2% of GDP) related to the winding down of Hypo Alpe Adria Bank (HAA), a medium-sized regional bank nationalized in 2009. This one-off effect is not reflected in the trend in the structural budget deficit, which is set to decline to 1% in 2014 and 0.9% of GDP in 2015 and to meet the medium term objective of a structurally balanced budget by 2016. Austria also benefits from a favourable public debt profile. The average maturity of government debt is 8.5 years, the redemption calendar is well-balanced and nearly all outstanding bonds have fixed rates. These factors reduce rollover risk and mitigate the effect of abrupt changes in interest rates on public finances. Moreover, debt servicing expenditures amounted to 2.3% of GDP in 2013, lower than pre-crisis levels despite a higher stock of debt. This reflects the low interest rate environment and investor flight to safety.

Even with these strong fundamentals some challenges weigh on the ratings. In particular, at 67% of GDP in 3Q13, Austrian banks foreign exposure to Central, Eastern and South Eastern Europe (CEESE) is high. Following strong expansion in recent years into Russia and Ukraine, Austrian banks are among those most exposed to a further escalation of tensions between the EU and Russia, given a combined exposure of approximately EUR19.8 billion (6.3% of Austria’s GDP). While DBRS acknowledges that banks have achieved major improvements in the funding of their CEESE subsidiaries through increased local deposits, non-performing loans are high and, in some countries, asset quality continues to deteriorate. DBRS expects the current economic deterioration in both Russia and Ukraine, to negatively impact asset quality and profitability, while Russian subsidiaries may remain exposed to policy actions as the tensions continue. In addition, rising losses may be incurred in various weaker CEESE markets, if an escalation of the conflict were to result in marked local currency depreciation, given still sizeable amounts of outstanding foreign currency loans. Overall, Austrian banks’ exposures to CEESE and Russia have the potential to add a significant burden on Austria’s fiscal position, particularly if a serious deterioration in the political and economic environment in these countries were to require the Austrian government to provide support to domestic lenders. However, DBRS specifies that this scenario represents a tail-risk and it is not included in the baseline scenario.

Another challenge stems from Austria's high and rising government debt stock. Following the creation of a bad bank for HAA and the related crystallisation of contingent liabilities from the bank on the government's balance sheet, government debt is expected to increase by 5 percentage points to approximately 80% of GDP in 2014. In our baseline scenario (excluding ESA 2010 reclassifications), debt-to-GDP is projected to peak this year and then gradually decline to 74% by 2017. However, weaker than expected growth and an escalation of tensions between the EU and Russia banks could pose downside risks to our baseline scenario. DBRS notes that the reclassification of some public enterprise debt in 2014 will add approximately 2.5% of GDP to the general government debt burden. However, DBRS views the reclassification as an accounting issue that does not affect the overall strength of the public sector balance sheet.

As in many other advanced economies, the costs of an ageing population in Austria could also add to fiscal pressures over the medium term. According to the Ministry of Finance, public expenditures on pensions, healthcare and long-term care are forecast to increase from 22.3% of GDP in 2011 to 24.6% in 2025. However, the government has introduced ambitious targets to increase the official retirement age by 2018.

Notes:
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 principal applicable rating policies are Commercial Paper and Short-Term Debt, and Short-Term and Long-Term Rating Relationships, which can be found on our website under Rating Scales.

These can be found on www.dbrs.com at:
http://www.dbrs.com/about/methodologies

The sources of information used for this rating include Federal Ministry of Finance, Statistic Austria, Oesterreichische Nationalbank Statistical Office of the European Communities, IMF, OECD, BIS, and Haver Analytics. DBRS considers the information available to it for the purposes of providing this rating was of satisfactory quality.

DBRS does not audit the information it receives in connection with the rating process, and it does not and cannot independently verify that information in every instance.

Information regarding DBRS ratings, including definitions, policies and methodologies are available on www.dbrs.com.

This is an unsolicited credit rating. This credit rating was not initiated at the request of the issuer.

Generally, the conditions that lead to the assignment of a Negative or Positive Trend are resolved within a twelve month period, while reviews are generally resolved within 90 days. DBRS’s outlooks and ratings are under regular surveillance.

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

For further information on DBRS historic default rates published by the European Securities and Markets Administration (“ESMA”) in a central repository, see:
http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml.

Ratings assigned by DBRS Ratings Limited are subject to EU regulations only.

Lead Analyst: Giacomo Barisone
Rating Committee Chair: Roger Lister
Initial Rating Date: 21 June 2011
Most Recent Rating Update: 13 June 2013

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