The FINANCIAL -- Moody's Investors Service has downgraded the government of Belarus' foreign and local currency bond ratings to B2 and has assigned a negative outlook to the ratings.
Today's rating action was prompted by two key concerns:
1) Belarus' significant near term external financing gaps, and
2) The medium term difficulties of reorienting the current external debt funded, domestic demand-led growth model.
In addition, Belarus' foreign currency bond ceiling has been lowered to B1 and the foreign currency bank deposit ceiling to B3. Belarus' local currency bond and deposit ceilings were lowered to Ba1.
Moody's immediate concern is the external financing requirements of Belarus' large current account deficit, which was about 16% of GDP in 2010. Current levels of official foreign exchange reserves of approximately $1.3 billion fall short of Moody's estimate of a 2011 external financing requirement of between $8 and $10 billion. Recent indications are that authorities are likely to obtain some funding from Russia. Additional funds may also flow in from planned privatizations. Still, since a large part of the external financing will be in the form of debt, Belarus' debt levels will continue to worsen and the funding may not be enough to prevent external financing gaps from emerging again over the medium term. Therefore, even taking into account the likelihood of obtaining near term funding, the risk of recurrent and significant external financing problems in Belarus has risen higher than that consistent with a B1 government bond rating.
In addition to external financing constraints, Moody's downgrade reflects our concern that Belarus will not be able to smoothly transition from its current external debt funded growth model to one that relies on productivity and competitiveness improvements for output growth. Belarus' per capita income ($13,040 on a PPP basis) is high relative to peers in the B rating range, as is its average annual growth rate (7% over the last decade). These factors have been a positive for the country's rating. However, the country's high levels of income growth owe much to external financial assistance and subsidized oil imports from Russia. External borrowings have funded wage increases, high credit growth as well as subsidies for households and corporations. These have, in turn, eroded competitiveness, and shifted the growth impetus away from exports and towards domestic demand. Over the past few years, this has led to a deterioration in the current account deficit, external debt and government debt ratios .
Belarus' government deficit and debt ratios have generally been in line with or better than those in the B rating range. However, the fiscal condition is less benign than it seems: state-owned banks and enterprises absorb some of the costs of government policy. Fiscal consolidation, therefore, would involve not just an improvement in the government deficit but would also require consolidation of the government's social programs that are conducted through banks and other institutions.
The negative outlook on the B2 rating incorporates Moody's concern that even if external financing gaps are bridged, necessary adjustments to improve international competitiveness and economic resilience will be hard to implement. Reversing an entrenched social welfare and subsidy system is a difficult political project against the backdrop of an implicit social contract that imposes political restraints in exchange for economic benefits. If structural adjustment policies are to be initiated, potential political repercussions will represent an additional risk.
What could change the Rating Up/Down
The negative outlook on the rating could be moved back to stable upon the implementation of policies that significantly improve Belarus' external competitiveness, narrow the current account deficit, and reduce reliance on external funding and subsidized energy for growth. On the other hand, further downward pressure on the rating could come from continued difficulties in obtaining funding to bridge external financing gaps coupled with lack of any action to correct the erosion of international competitiveness and narrow the current account deficit.
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