DBRS Confirms Republic of Austria’s Rating at AAA, 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 expects that the country’s robust fiscal framework combined with its track-record of stable and predictable economic policies is likely 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. In addition, any developments in Central and Eastern Europe or Russia that seriously disrupt Austria's banking industry and materially increase the likelihood of substantial government support could put pressure on the ratings.

The AAA ratings are supported 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’s and 20% higher than the euro area’s as a whole.

Productivity gains combined with moderate wage adjustments have preserved Austria’s price competitiveness. From 1999 to 2014, unit labour costs increased at a slower pace than in 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. This performance, combined with the country’s strong external position, underscore the country’s economic resilience.

Healthy private sector balance sheets and a strong labour market ensure that the domestic economy is well-positioned to weather a weaker external environment. 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 October 2014 was 5%, the lowest in the European Union. However, projections for GDP growth this year have been revised down from 1.6% to 0.8%. This revision is due to a loss of growth momentum in Germany and increased uncertainty following Russian-EU sanctions. DBRS expects the economy to recover in 2015 with GDP growth of 1.5%.

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 from 3.4% of GDP in 2010 to 1% in 2014. The headline deficit for 2014 is set to increase temporarily to 2.8% of GDP as a result of additional support measures (1.3% of GDP) related to the winding down of Hypo Alpe Adria Bank (HAA), a medium-sized regional bank that was nationalized in 2009. In 2015, DBRS expects the headline deficit to decline to 1.5% of GDP.

Austria also benefits from a favourable public debt profile. The average maturity of government debt is 8.6 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 October 2014, lower than pre-crisis levels despite a higher stock of debt. This reflects the low interest rate environment and investor flight to safety.

Despite significant strengths, the Austrian economy faces several challenges. In particular, Austrian banks’ foreign exposure to Central, Eastern and South Eastern Europe (CESEE) is high at 67% of GDP in 2013. 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. The total exposure to Russian and Ukraine amounts to EUR19.8 billion (6.3% of Austria’s GDP). While DBRS acknowledges that Austrian bank subsidiaries operating in CESEE have improved their funding structures, 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 subsidiaries in Russia may be exposed to policy actions as the tensions continue. In addition, rising losses may be incurred in various weaker CESEE 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 potential outcome represents a tail-risk and is not included in the baseline scenario. Finally, DBRS also anticipates a lower likelihood of government support for the banking sector as evidenced by the authorities decision to place limits on additional banking support to HAA and Österreichische Volksbanken-AG and the recently introduced bail-in legislation.

Another challenge stems from Austria's high and rising government debt stock. Following the creation of a bad bank for HAA and the reclassification in the general government balance sheet of some public enterprises debt, government debt has increased by over 5 percentage points to approximately 86.5% of GDP in October 2014 from 81.2% in 2013, as previously expected. In our baseline scenario, debt-to-GDP is projected to peak at 86.5% this year and then gradually decline to 81.7% by 2018. However, weaker than expected growth or an escalation of tensions between the EU and Russia pose downside risks to our baseline scenario.

As in many other advanced economies, the costs of an ageing population in Austria could 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, which should help contain cost pressures.

Notes: All figures are in Euro 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, Senior Vice President.
Initial Rating Date: 21 June 2011
Rating Committee Chair: Roger Lister
Last Rating Date: 13 June 2014

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