DBRS Confirms Greece at CCC (high) Negative Trend

DBRS, Inc. has confirmed the Hellenic Republic’s long-term foreign and local currency issuer ratings at CCC (high) and the short-term foreign and local currency issuer ratings at R-5. The trend on the long term ratings remains Negative, the trend on the short term ratings is Stable.

This confirmation is part of DBRS’s regular biannual review and follows a downgrade on May 15, 2015 of Greece’s long-term ratings to CCC (high) from B. The downgrade was due to the acute liquidity squeeze and lack of an agreement between Greece and its creditors on a viable adjustment program. With no access to capital markets and in the absence of an agreement, financing sources appeared to be insufficient to meet financing needs. Since the May 15 action, a support agreement has remained out of reach, the liquidity squeeze has intensified, and Greece has bunched its weekly loan repayments to the IMF until the end of June. Bank deposit outflows have continued, a buildup of arrears to domestic agents has increased, and there has been a negative knock-on effect to the real economy and the fiscal stance.

The Negative trend reflects an increase in political uncertainty, the risk of a missed payment to official creditors, and the repercussions of such an event on financial stability and ECB lending to Greek banks. On June 30, 2015, Greece is scheduled to repay the IMF €1.6 billion, with further payments in July and August. Without further financial support these may be difficult to meet. DBRS would not consider a default on official loans to be a default on bonded debt held by the private sector. Nevertheless, this would likely precipitate increased withdrawals of deposits from Greek banks. A missed payment could also jeopardize ECB Emergency Liquidity Assistance (ELA), without which Greek banks could face lower liquidity buffers and run the risk of insolvency.

The trajectory of the ratings will depend on whether a support program is negotiated. In DBRS’s view there are two options. The first option is a temporary agreement, in which liquidity constraints are eased through an injection of up to €7.2 billion in remaining EC/ECB/IMF funds, as well as €10.9 billion that was originally earmarked for bank recapitalizations, to be repurposed for bond redemptions. In return, Greece would resume its fiscal adjustment and implement a series of structural reforms. A multi-year financial support program would follow. In this scenario, the ratings would likely stabilize at their current level as financial stability returns, public finances are strengthened, economic activity is reactivated, and debt to GDP stabilizes. If the debt ratio is placed on a firm downward path, upward pressure on the ratings could follow. The creditors appear to favor such a program, as expressed in a paper presented to Greek negotiators on June 3, 2015. However, the Greek negotiators presented an alternative program to the creditors on the same day, and whether common ground can be agreed to is in question.

The Greek proposal included an orderly restructuring of the official sector debt involving a scheme to re-finance Greek loans to the IMF, ECB, Greek Loan Facility (GLF) and European Financial Stability Facility (EFSF) through buy backs and debt relief. The proposal envisions a reduction of the public debt from 177.1% of GDP to 93% by 2020. In this scenario, if financial stability returns and fiscal consolidation resumes, providing the basis for a return to growth and a more sustainable debt ratio, this would likely result in upward pressure on the ratings. However, with the possible exception of an extension of maturities under the GLF, it is unclear whether the creditors would contemplate further debt restructuring. Debt relief measures are absent from the creditors’ June 3 paper.

In the absence of a support program, Greece faces a second option involving some form of default to official creditors. This alone would be unlikely to trigger cross default clauses on Greek bonds held by the private sector. Nevertheless, the repercussions of such an event are not entirely clear. Going into arrears on official sector loans could accelerate the outflow of deposits from Greek banks. It could also lead the ECB to reconsider the quality of the collateral that banks have posted against ELA. If deposit outflows continue, a set of capital controls could be imposed. This could provide time for the negotiators to reach an agreement. However, controls could also lead to a deeper recession, a larger primary fiscal deficit, and a subsequent rise in public debt to GDP. The liquidity squeeze could intensify, and the government might need to resort to printing a parallel currency to pay public sector workers, pensioners and suppliers. Such a parallel currency would run the risk of a Greek exit from the Eurozone, and could lead to a default on bonds held by the private sector. In the course of events, if the government attempted to bolster support for an agreement with the creditors by holding a referendum or calling early elections, this would likely take several weeks, and the risk of further defaults could rise. Some or all of these events would likely put downward pressure on the ratings.

Greece’s credit strengths include the benefits that the country has enjoyed from Eurozone membership and access to support finance should it agree to the conditions in a program. The country has a strong record of fiscal adjustment, and has made progress in reforming its economy. This adjustment, combined with a stronger external balance sheet, supports the ratings. However, the challenges Greece is facing in the areas of servicing its debt payments, maintaining financial stability as deposits are withdrawn, and negotiating debt restructuring, far outweigh the strengths.

All figures are in Euros 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.

The sources of information used for this rating include Ministry of Finance, Public Debt Management Agency, Bank of Greece, ECB, European Commission, EFSF, ESM, 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: 15 May 2015

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