DBRS Places Greece’s Ratings Under Review with Negative Implications

DBRS, Inc. has today placed the Hellenic Republic’s long-term foreign and local currency issuer ratings of B and short-term foreign and local currency issuer ratings of R-4 Under Review with Negative Implications.

As defined in EU Regulation 462/2009, amending Regulation 1060/2009 on credit rating agencies, DBRS’s ratings on Greece are subject to certain publication restrictions, as set out in Article 8a of the Regulation, including publication in accordance with a pre-established calendar (see "2015 Planned Publication Calendar for EU Sovereign Rating Reports,” published 19 December 2014). Under Article 8a, deviation of the publication of sovereign ratings from the calendar must be accompanied by a detailed explanation of the reasons for the deviation. While the next scheduled publication date for our ratings on Greece is 12 June 2015, the deviation has been caused by DBRS’s elevated concern over the potential for a deterioration in Greece’s creditworthiness as a result of actions of the new Greek government following the general elections on 25 January 2015, and subsequent developments. Reviews are typically concluded within three months.

In light of the change in government in Greece, and given the importance of financial assistance from the European Commission, European Central Bank and International Monetary Fund, the Troika, DBRS’s concern over Greece’s ability to meet its financing needs has increased. Uncertainty has risen over whether the new Greek government will come to an agreement with the Troika on extending the existing financial assistance program, or entering a new program. This is because of the new government’s proposals to change the fiscal adjustment terms and restructure the debt. Responses by various parties across Europe regarding such renegotiations have not been encouraging in terms of the likelihood of reaching an agreement on a new program.

The impact of this uncertainty is evident in the deterioration in financial market conditions, with wider spreads on Greek bonds and deposit outflows from Greek banks. In December 2014, deposits declined by €5.4 billion, and they likely declined further in January and February. If negotiations over the terms of financial assistance are protracted, and deposit outflows continue, this could jeopardize financial stability, as well as lower prospects for economic growth and debt sustainability.

The review will focus on three areas:
• Progress in the negotiations with the Troika over the renewal of the program or the development of a new program, and the access of Greek banks to ECB lending facilities. This progress will affect Greece’s ability to meet upcoming payments and roll over its short-term debt.
• Development of the Greek government’s proposals for restructuring the public debt, adjusting public finances while fostering economic activity and employment, and implementing longer term structural reforms.
• Financial market conditions, including bank deposits and spreads on Greek government bonds.

Downward pressure on the ratings would likely result if these factors continue on a negative trajectory, indicating deterioration in Greece’s ability or willingness to meet its debt payments. A return to a Stable trend on the ratings would become more likely if there is progress on ensuring Greece’s access to official funding flows that cover its financing needs, and developing a longer term plan to maintain fiscal discipline, foster growth, and stabilize debt-to-GDP.

DBRS’s current ratings reflect the progress that Greece has made in fiscal and structural adjustment, and the improvement in its external imbalances. The ratings also reflect Greece’s relatively favorable primary fiscal balance. Since the end of 2013, Greece has run a primary surplus, targeted at 1.5% of GDP in 2014. An analysis of Greece’s debt service profile, using pre-election forecasts, shows that at more than 176% of GDP, Greece’s ability to service its debt is severely constrained. Nevertheless, its interest burden is one of the lowest in the Eurozone. This suggests that with a neutral fiscal stance, modest GDP growth and a return to stable financial markets, Greece could conceivably continue to service its debt. However, in this scenario the debt burden would not necessarily decline.

Although the new government recognizes the importance of maintaining a primary surplus, it has articulated that it will not seek to extend the current program given that it views the conditions of the program as negative for growth and employment. Instead, by the end of February it aims to propose a four-month €1.9 billion bridging program until June 1, with the ECB providing liquidity to Greek banks. During this four-month period, Greece would swap outstanding bonds for new growth-linked bonds. A “menu of debt swaps” would include two types of new bonds: the first would be indexed to nominal GDP growth and would replace existing EFSF loans; the second would be “perpetual bonds” and would replace ECB-owned Greek bonds. Greece has not mentioned any proposal to restructure private sector bonds.

Greece also plans to propose to lower the primary surplus target from 3% of GDP this year and 4.5% of GDP next year under the current program, to between 1% and 1.5% of GDP under a new program. The government would seek out wealthy tax-evaders and increase their taxes, break up monopolies, and attack vested interests in the public and private sectors. The government has also pledged to reinstate some public sector workers, raise the minimum wage and increase social benefits for low income households. New measures would be introduced to make the economy more attractive to investment. Privatizations would continue after a reassessment.

Initial indications are that these proposals, once formally submitted, would not be acceptable to several members of the Troika and associated governments. It is important for the ratings that both sides find a solution. Greece has indicated that it intends to remain in the Eurozone. European leaders have similarly indicated that Greece belongs in the Eurozone. This mutual position suggests that an agreement could be forthcoming, possibly with some rearrangement of official sector loans to Greece.

Pressure to find a solution is elevated by the need to meet upcoming debt repayments. This year, Greece has central government gross refinancing needs of close to €30 billion. Of this, about €12 is in Treasury bills, €6.7 billion is due to the ECB securities markets program, and €8.6 billion is due to the IMF. In March, €4.3 billion of debt repayments fall due; in July and August, more than €6 billion fall due. However there is an even closer deadline: the expiration on February 28 of the existing technical extension of the European Financial Stability Facility’s Second Economic Adjustment Program. In the absence of a new program, Greece could lose access to additional disbursements from official sources, and Greek banks could lose access to ECB emergency liquidity assistance.

Notes:
The rating committee discussed extensively the possible outcomes of the negotiations that will take place in the coming weeks between the Greek government and its creditors, and the potential consequences of these outcomes for the Greek economy, the banking sector and the Euro area and European Union. The committee also discussed the effectiveness of the instruments reportedly proposed by the Greek government to improve debt sustainability and, in the event of a debt swap, their attractiveness to the creditors. In addition, the committee discussed the recent developments in the Greek banking sector and the measures that the government could take if deposit outflows continue.

All figures are in Euros unless otherwise noted.

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

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.

The sources of information used for this rating include Ministry of Finance, Bank of Greece, European Commission, European Central Bank, Eurostat, OECD, BIS, IMF, Haver Analytics. DBRS considers the information available to it for the purposes of providing this rating was of satisfactory quality.

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

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.

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 trends and ratings are under constant surveillance.

Lead Analyst: Fergus McCormick
Rating Committee Chair: Roger Lister
Initial Rating Date: 16 August 2013
Most Recent Rating Update: 12 December 2014

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