DBRS Morningstar Confirms the Kingdom of Belgium at AA, Stable Trend

DBRS Ratings GmbH (DBRS Morningstar) confirmed the Kingdom of Belgium’s Long-Term Foreign and Local Currency – Issuer Ratings at AA. At the same time, DBRS Morningstar confirmed the country’s Short-Term Foreign and Local Currency – Issuer Ratings at R-1 (high). The trend on all ratings is Stable.

KEY RATING CONSIDERATIONS

The Stable trend reflects DBRS Morningstar’s view that Belgium’s credit fundamentals remain solid, despite a projected widening of the government budget deficit over the medium term. The National Bank of Belgium (NBB) forecasts the general government’s budget deficit to increase from 4.3% of GDP in 2022 to 5.3% in 2023 and 4.9% in 2024. This increase results largely from the (time-delayed) indexation of public sector wages and social benefits to the recent increase in inflation, structural factors such as an aging population, rising public sector employment and increases in certain social benefits. Taking into account the widening budget deficit, NBB forecasts general government debt to increase from 105.2% of GDP at end 2022 to 109.9% at end 2024. At the same time, DBRS Morningstar notes that debt affordability continues to be supported by a moderate interest burden. While the recent increase in nominal interest rates is projected to raise interest expenditures to 1.8% of GDP in 2024 from 1.5% in 2022, the interest burden is forecast to remain on a lower level than during much of the past decade, as interest expenditures averaged 2.7% of GDP between 2010 and 2021. Furthermore, the pass-through of higher interest rates is attenuated by long maturities of Belgian government debt. The average maturity of central government debt was 10.3 years in December 2022

Belgium’s AA ratings are supported by its wealthy and diversified economy, its strong net external asset position, large household savings and high institutional quality. These credit strengths counterbalance the challenges associated with high public sector debt, the economy’s exposure to external shocks given its small size and openness and the fragmentation of the political landscape between the main linguistic groups and across the political spectrum. This fragmentation has delayed government formation in the past and impeded the adoption and implementation of fiscal consolidation measures and structural reforms in recent years.

RATING DRIVERS

An upgrade of the ratings could occur if the government narrows its budget deficit in a structural manner and the public debt ratio starts to follow a clear downward path. A downgrade could occur if growth prospects or the budgetary outlook deteriorate markedly and the public debt ratio rises faster than currently expected.

RATING RATIONALE

Fiscal Balances Benefitted From Temporary Factors In 2022 But The Budget Deficit Is Projected To Remain Large In The Medium-Term

The general government budget deficit is estimated to have narrowed to 4.3% of GDP in 2022 from 5.6% in 2021. This narrowing resulted primarily from two temporary factors. First, the increase in inflationary pressures and still strong employment growth pushed up nominal tax revenues (particularly direct taxes). During the first eleven months of 2022, the central government’s total tax revenues (on a cash basis) rose by 13.7% year-on-year. Second, fiscal balances benefitted from a decrease in COVID-19-support measures to 1.1% of GDP in 2022 from 3.0% in 2021. This decrease more than offset higher energy-related support which had an estimated fiscal cost of 0.9% of GDP in 2022 (including impact of energy-related financing measures). In response to the strong increase of energy prices since early 2022, the government adopted several fiscal measures which aimed at lowering the energy price burden for households (e.g. temporary reduction of VAT on electricity and gas, reduction of excise duty on petrol and diesel, heating grants).

Going forward, budgetary pressures are expected to increase again. Although the net fiscal cost of energy support measures is budgeted to decrease to 0.6% of GDP in 2023, NBB forecasts the general government budget deficit to widen to 5.3% of GDP in 2023 and 4.9% in 2024, as government revenue growth is expected to decelerate and government current expenditures are projected to rise, particularly in 2023. Higher government spending pressures result from the indexation of public sector wages and social benefits, structural factors such as population ageing (pensions, health care), rising public sector employment and increases in certain social benefits (minimum pensions, social assistance). In terms of the budgeted fiscal cost of energy support measures in 2023, DBRS Morningstar notes that this projection is based on the assumption that several of these measures will be phased out at end March 2023. Hence, a renewed extension of energy support measures would further raise budgetary pressures. While the coalition agreement of the current seven-party government commits to an annual fiscal consolidation effort of 0.2% of GDP, a lasting reduction of the large structural deficit would require the implementation of additional fiscal consolidation measures. DBRS Morningstar currently views the adoption of more far-reaching consolidation measures prior to the parliamentary elections in spring 2024 as unlikely given the lack of consensus on the future path of fiscal policy within the heterogenous government coalition.

Government Debt Is High And Projected To Increase Over The Next Years

The government’s high debt burden is an important credit weakness. Furthermore, after benefiting from favourable one-off factors over the past two years, the government debt-to-GDP ratio is projected to start rising again from 2023 as a result of the government’s large primary budget deficits. The government debt burden had increased markedly due to the COVID-19 shock from 97.7% of GDP at end 2019 to 112.8% at end 2020. This increase was partially reversed during the past two years as the economy’s strong growth rebound and higher inflation boosted nominal GDP. As a result, the debt-to-GDP ratio decreased to 105.2% at end 2022, notwithstanding a still large budget deficit. From this year onward, however, government debt dynamics are expected to reverse as budget deficits are projected to remain large and the temporary impacts of the COVID-growth rebound and high inflation fade. NBB forecasts government debt to rise to 108.1% of GDP at end 2023 and 109.9% at end 2024.

Over the past years, debt affordability has been supported by a low interest rate environment. While the recent increase in nominal interest rates is projected to raise interest expenditures to 1.8% of GDP in 2024 from 1.5% in 2022, the interest burden remains moderate. In terms of interest rate risk, the government also benefits from a comparatively long average tenor of government debt. The government has extended debt maturities in recent years in order to lock in historically low rates. The average maturity of the central government debt was 10.3 years in December 2022 up from 8.0 years in December 2015.

Economic Growth Has Eased But Is Projected To Recover Gradually On The Back of Strengthening Private Consumption

Economic growth dynamics in Belgium have weakened over the past few months. According to flash estimates by the National Bank of Belgium (NBB), real GDP grew by a mere 0.1% on a quarter-on-quarter basis in Q4 2022, down from a quarterly growth rate of 0.2% in Q3 2022 and 0.5% in Q2 2022. This growth deceleration was driven by a weakening in private consumption as the strong increase in inflationary pressures weighed on consumer confidence and weakened household purchasing power. Annual inflation (HICP) stood at a high 10.2% in December 2022, driven by both large increases in energy prices (+55.1%) and the recent acceleration in core inflation (7.1%). Furthermore, economic growth dynamics in recent months were weighed down by weak investment activity owing to a deterioration in business confidence and the recent increase in interest rates.

Going forward, the latest projections by NBB from December 2022 forecast a gradual recovery of economic growth over the next two years. Real GDP is forecast to expand by 0.6% in 2023 and 1.7% in 2024 on the back of a rebound in private consumption. Household purchasing power is set to increase markedly in 2023 due to the (time-delayed) indexation of wages to the health index, a measure of consumer price inflation. Taking into account wage indexation, NBB forecasts real disposable income of individuals to increase by a large 3.1% in 2023 following a contraction of 0.4% in 2022. In addition, private consumption is likely to be supported by still strong labour markets which have weathered the COVID-19 and the energy shocks well. In September 2022, total (seasonally adjusted) employment levels in the Belgian economy stood 3.6% above the levels in December 2019. In contrast, growth dynamics in the Belgian export sector are likely to be more subdued than export dynamics in most neighbouring countries over the medium-term. While the indexation of wages supports private consumption, it weakens the external price competitiveness of Belgian exporters due to a comparatively large increase in labour costs.

High Institutional Strength But Fragmentation of Domestic Political Landscape Impedes Structural Policy Changes

Belgium’s ratings are supported by a high institutional strength as the country is characterised by a high rule of law, low levels of corruption and stable political and economic institutions. At the same time, the domestic political landscape is fragmented between the main linguistic groups (Flemish and Walloon) and across the political spectrum. This fragmentation has delayed government formation in the past. The current seven-party coalition government was formed in October 2020, 17 months after the May 2019 federal elections. DBRS Morningstar considers that the current seven-party coalition led by Mr De Croo is likely to remain fragile in the runup to the next federal elections in 2024 as it comprises parties from a broad range of the political spectrum. This heterogenous political composition of the government has impeded the implementation of structural reforms in the past, particularly with regard to fiscal policy (e.g. tax reform, fiscal consolidation). Overall, the deep and structural political divisions in the country, leading to lengthy processes of government formation and a gridlock in certain policy areas, weigh negatively on DBRS Morningstar’s qualitative assessment of the ‘Political Environment’ building block.

Financial Stability Supported By Sound Financial Condition of Banking Sector And Large Household Savings

The financial condition of the domestic banking sector is sound. The banking sector has good capital buffers with the average Tier 1 capital ratio standing at a strong 18.2% in September 2022. Furthermore, the COVID-19 and the recent energy shocks have so far not led to rising non-performing loans (NPLs) at Belgian banks. In September 2022, the sector-wide NPL ratio stood at a low 1.4% compared to 2.1% in December 2019. That said, DBRS Morningstar notes that the stock of Stage 2 loans towards non-financial corporates has increased to 19.9% of total gross loans in September 2022 from 13.0% in December 2019. These loans could present a risk to asset quality as part of these loans could translate into NPLs in the future. This applies particularly in view of the recent increase in interest rates and the upswing of companies’ wage bills on the back of wage indexation, as these factors might weaken the repayment capacity of some companies. DBRS Morningstar takes a conservative approach to the financial risks faced by the banking sector and applies a negative qualitative assessment to the ‘Monetary Policy and Financial Stability’ building block.

In DBRS Morningstar’s view, financial stability risks emanating from the housing sector are lower than in most other advanced economies, as the increase in Belgian housing prices was less pronounced. According to the OECD, residential housing prices in Belgium rose by 33.4% between December 2015 and September 2022 compared with an average growth of 65.8% among OECD countries. Furthermore, the repayment capacity of most household borrowers is supported by large household assets. The aggregate net worth of households in Belgium stood at a large 207% of GDP in September 2022 compared to an average of 143% for the Euro area.

Current Account Balance Has Deteriorated But External Finances Continue To Benefit From A Large Net External Asset Position

The terms of trade for the Belgian economy have deteriorated over the past year due to the strong price increases of energy imports, particularly oil and gas. As a result, the current account balance is estimated to have turned from a surplus of 0.4% of GDP in 2021 into a deficit of 4.7% in 2022. NBB forecasts the current account deficit to remain elevated at 5.1% of GDP in 2023 and 4.6% in 2024 as the resent upswing in energy import prices is projected to decrease only gradually and the indexation-related increase in wages is expected to impair the international price competitiveness of the Belgian export sector. Despite the deterioration in the current account balance, DBRS Morningstar continues to view Belgium’s external position as strong due to its large net external creditor position. Belgium’s net international investment position amounted to 58.8% of GDP in September 2022, which is one of the highest among EU countries. Belgium’s net external creditor position results primarily from large net assets in portfolio investment (37.1% of GDP) and direct investment (28.0%). While Belgium is a small economy, its extensive trade linkages throughout Europe continue to support DBRS Morningstar’s positive qualitative assessment of the ‘Balance of Payments’ building block.

ENVIRONMENTAL, SOCIAL, GOVERNANCE CONSIDERATIONS

There were no Environmental/ Social/ Governance factor(s) that had a significant or relevant effect on the credit analysis.

A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework can be found in the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings at https://www.dbrsmorningstar.com/research/396929/dbrs-morningstar-criteria-approach-to-environmental-social-and-governance-risk-factors-in-credit-ratings (17 May 2022).

For more information on the Rating Committee decision, please see the Scorecard Indicators and Building Block Assessments. https://www.dbrsmorningstar.com/research/409378.

EURO AREA RISK CATEGORY: LOW

Notes:
All figures are in EUR unless otherwise noted. Public finance statistics reported on a general government basis unless specified.

The principal methodology is the Global Methodology for Rating Sovereign Governments https://www.dbrsmorningstar.com/research/401817/global-methodology-for-rating-sovereign-governments (29 August 2022). In addition, DBRS Morningstar uses the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings https://www.dbrsmorningstar.com/research/396929/dbrs-morningstar-criteria-approach-to-environmental-social-and-governance-risk-factors-in-credit-ratings (17 May 2022) in its consideration of ESG factors.

The sources of information used for this rating include Belgium Ministry of Finance (Projet de plan budgétaire de la Belgique 2023), Belgian Debt Agency (Economy & Public Finances Debt Management Strategy in 2023), National Bank of Belgium (Economic projections for Belgium – December 2022; Financial Stability Report 2022; Database), Statbel, Eurostat, European Commission (Commission Opinion on the Draft Budgetary Plan of Belgium, 22 November 2022; European Economic Forecast, Autumn 2022; Assessment of the Final National Energy and Climate Plan for Belgium, 14 October 2020), European Central Bank, OECD (Housing Prices), BIS, IMF (World Economic Outlook October 2022; International Financial Statistics; Belgium: Staff Concluding Statement of the 2022 Article IV Mission, 21 December 2022), World Bank, International Energy Agency, European Environment Agency (EEA Effort Sharing Decision Dataset, October 2022), Social Progress Index, Global Peace Index, Haver Analytics. DBRS Morningstar considers the information available to it for the purposes of providing this rating to be of satisfactory quality.

With respect to FCA and ESMA regulations in the United Kingdom and European Union, respectively, this is an unsolicited credit rating. This credit rating was not initiated at the request of the issuer.

With Rated Entity or Related Third Party Participation: YES
With Access to Internal Documents: NO
With Access to Management: NO

DBRS Morningstar 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.

The conditions that lead to the assignment of a Negative or Positive trend are generally resolved within a 12-month period. DBRS Morningstar’s outlooks and ratings are under regular surveillance.

For further information on DBRS Morningstar historical default rates published by the European Securities and Markets Authority (ESMA) in a central repository, see: https://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. DBRS Morningstar understands further information on DBRS Morningstar historical default rates may be published by the Financial Conduct Authority (FCA) on its webpage: https://www.fca.org.uk/firms/credit-rating-agencies.

The sensitivity analysis of the relevant key rating assumptions can be found at: https://www.dbrsmorningstar.com/research/409377.

This rating is endorsed by DBRS Ratings Limited for use in the United Kingdom.

Lead Analyst: Yesenn El-Radhi, Vice President, Global Sovereign Ratings
Rating Committee Chair: Michael Heydt, Senior Vice President, Global Sovereign Ratings
Initial Rating Date: 11 November 2011
Last Rating Date: 12 August 2022

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