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      FRIDAY, 03/09/2021 - Scope Ratings GmbH
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      Scope revises Georgia’s Outlook to Stable from Negative, affirms ratings at BB

      Improved economic outlook and debt trajectory drive the Outlook change. External sector risk remains a core ratings challenge.

      For the rating action annex, click here.

      Rating action

      Scope Ratings GmbH (Scope) has today affirmed Georgia’s long-term issuer and senior unsecured debt ratings at BB in both local and foreign currency and revised the Outlooks to Stable from Negative. The short-term issuer ratings have been affirmed at S-3 in local and foreign currency, with Outlooks maintained at Stable.

      Summary and Outlook

      The revision of the Outlooks on Georgia’s long-term ratings to Stable reflects the following two core drivers:

      1. an improved economic outlook due to a substantially stronger-than-expected recovery near term and Scope’s expectation that the government will remain committed to macro-financial stabilisation, expected to be advanced beyond 2021, supporting the growth outlook; and
         
      2. gradual reduction in government debt-to-GDP levels medium run due to higher GDP and slowly declining fiscal deficits, supported by a re-anchoring of authorities’ pre-pandemic commitment to national fiscal rules.

      This Outlook change reflects updated assessments of Georgia under the ‘domestic economic risk’ and ‘public finance risk’ categories of Scope’s sovereign ratings methodology.

      The affirmation of Georgia’s ratings considers the country’s outstanding credit strengths, including solid medium-run growth potential despite a degree of scarring effects associated with the Covid-19 crisis, on the back of resumption of foreign direct investment (FDI) inflows to the economy and strong access to donor financing on concessional terms. In Scope’s view, the current prolonged political instability should not impair Georgia’s credible macroeconomic policy framework.

      The Stable Outlook represents Scope’s view that risks to ratings over the next 12 to 18 months are balanced. The ratings could be downgraded or the Outlooks revised to Negative if, individually or collectively: i) the medium-run public debt trajectory were to weaken, due, for example, to a looser commitment to fiscal discipline and/or weaker-than-expected growth prospects; ii) a deterioration in institutional quality and/or heightened geopolitical risks undermine growth and investment prospects; and/or iii) external vulnerabilities were to escalate, resulting in material adverse effects for debt sustainability and reserve adequacy.

      Conversely, the ratings/Outlooks could be upgraded if, individually or collectively: i) the implementation of reforms improves structural features of the economy, such as institutional strength or growth prospects, and/or curtails macro-financial risk; ii) fiscal sustainability improves, e.g., due to further enhancements of the fiscal framework and/or higher revenue growth; and/or iii) external sector risks are reduced, including a sustained reduction of current account deficits and/or build-up of reserves.

      Rating rationale

      The first driver for the revision of Georgia’s credit rating Outlook to Stable is an improved economic outlook. The Georgian economy has already recovered to near pre-pandemic levels of output, after growing 12.7% year-on-year over the first six months of this year (29.8% YoY in Q2-2021)1. As a result, Scope raised its forecast for real GDP for 2021 by 3.5pps to 8%, from 4.5% assumed under the last review in March 2021. This substantially stronger-than-expected recovery has been anchored by pent-up household demand, solid growth in remittances and export recovery. Scope further expects Georgia to grow solidly in 2022 by 5.5%, close to but nonetheless above a medium-run growth potential of 5%, driven by recovery in investment, employment gains and growth of tourism receipts. Scope notes, however, that current political instability, upcoming October local elections, a recent surge in Covid-19 cases and the gradual pace of vaccination roll-out are downside risks to the economic outlook.

      Georgia’s solid medium-run growth prospects support the BB long-term ratings. This is underpinned by a sustained capacity to attract FDI, which over 2015-2019 financed almost the whole of the current account deficit, averaging 7.9% of GDP annually. FDI more than halved in 2020 compared to in previous years2 due to transfers of ownership from non-residents to residents, a weaker external environment and prolonged political instability. Despite outstanding risks, Scope expects resumption of FDI inflows medium term, supported by the underlying strengths of Georgia’s economic structure, including a favourable investment environment. Investments to the real economy and physical infrastructure advancements are furthermore helped by prioritisation of public capital spending over current spending, with the former budgeted to remain sizeable medium term (around 7% of GDP annually in 2022-2025, versus 8% of GDP in 2021). The government’s credible reform agenda is supported by the EU-Georgia Association Agreement, which, among other international agreements, incorporates annual bilateral financial assistance3 in amount of EUR 120-130m (0.9% of 2020 GDP). Scope expects the government to remain committed to existing economic and political cooperation with the European Union, enhancing a credit-positive prudence of policy making medium term. More recently, the Georgian government signalled its intention to reject the second tranche (EUR 75m) of the EUR 150m in macro-financial assistance from the EU aimed at limiting the economic fallout of the Covid-19 pandemic. In any case, disbursement of the funds would have depended on Georgia’s implementation of judicial reforms.

      The second driver of the Outlook revision is an improved debt trajectory compared to the expectation as of the Agency’s last review. Scope expects the government debt-to-GDP ratio to decline to 55% by 2022 (vs 59% under the previous review), from a cyclical peak of 60% last year, returning under a ceiling under national fiscal rules (of 60%). This reduction of debt ratio results from projected gradual moderation of budget deficits towards a threshold of 3% of GDP by 2023, consistent with fiscal rules. This is further abetted by ongoing engagement with the IMF, even after successful conclusion of a four-year Extended Fund Facility, as well as the gradual activation of government deposits (which totalled around 9% of GDP as of end-2020). In Scope’s view, the government’s track record of commitment to fiscal rules serves as an important anchor for medium-term debt sustainability. The resulting favourable effect on the government debt trajectory is furthermore anchored by good recovery prospects, which improve the tax revenue outlook, alongside by gradual unwinding of Covid-19 expenditure measures.

      Almost three-quarters of government debt is in the form of concessional multilateral and bilateral loans, reflecting a track record of sound engagement with the IMF and other international donors. This creates a cushion against balance of payment crises and against Georgia’s high foreign-currency exposure of government debt (around 80% of which is denominated in hard currency)4. Refinancing risks are further eased by ability to issue on international capital markets on comparatively favourable terms, exemplified notably in the five-year USD 500m Eurobond with a coupon of 2.75% issued in April 2021.

      Despite the affirmation of the ratings, significant challenges remain, which affect Georgia’s BB ratings longer term.

      Firstly, Georgia’s small, open economy is vulnerable to external shocks and is reliant upon external financing. This is reflected in persistent wide current account deficits (current account balance of 12.5% of GDP in 2020, after -5.5% of GDP in 2019), which have led to an elevated net external liability position (net international investment position of -154.3% of GDP as of Q1 2021). This is a reflection of the high investment needs of a developing economy with low domestic savings, narrow export base as well as elevated reliance on tourism receipts, the latter which have been severely impaired during the pandemic crisis. Scope expects a gradual narrowing of current account deficits over the medium run towards pre-pandemic levels, supported by recovery over time in the tourism sector, the prospects for which, nevertheless, remain highly subject to pandemic-related risks.

      Secondly, elevated dollarisation of the economy constitutes a risk for financial stability. Around 53% of loans and 60% of deposits of the banking sector are denominated in foreign currency. This is despite moderate decline over the past four years due to measures taken by authorities, including improved access to long-term resources in Georgian lari and the preferential treatment of local currency exposures under prudential regulations. Periods of elevated exchange rate volatility pose, nevertheless, a key risk for public-sector, bank and private-sector balance sheets. The lari has stabilised recently at around 3.1 to the dollar but is still trading around 10% weaker than levels pre-pandemic5.

      Risks from elevated foreign-currency exposures are mitigated by authorities’ credible macroeconomic management, Georgia’s strong access to donor financing, which supports foreign-currency reserve stocks, and a well-capitalised banking sector. The National Bank of Georgia appropriately raised its policy rate three times thus far in 2021, by a cumulative two percentage points to 10%6, in the face of increasing inflationary pressure (of 11.9% year-on-year in July, from 9.9% in June). Georgia’s international reserves stood at USD 3.87bn, adequately covering external debt maturing within one year7. Nevertheless, reserves are down from USD 4.10bn at the beginning of the year, reflecting sales of FX of the central bank of around USD 273m in 2021 in support of the domestic currency8.

      Contingent liabilities affecting the sovereign’s balance sheet, rooted in the banking system, are limited. Georgian banks remain well capitalised and liquid with system-wide tier 1 capital of 13.5% of risk-weighted assets as of Q1 2021. This is underpinned by supervisory measures taken by the central bank, including provision of USD 200m of swap liquidity to the domestic banking system. Some further weakening in banks’ asset quality is possible, given withdrawal of crisis supervisory measures, including of temporary loan payment moratoria.

      Lastly, prolonged political instability is adding to downside risks affecting growth and fiscal outlooks. Ruling party Georgian Dream and the largest opposition group, the United National Movement, both decided to withdraw from an EU-brokered agreement in April aimed at resolving the political crisis that followed the 2020 parliamentary elections, centred on electoral and judicial reforms. The United National Movement nonetheless signed the agreement this month. Even with these recent events, Scope expects the government to remain committed to furthering a credible macroeconomic policy framework despite the possibility of continued political instability after the October 2021 elections. Finally, Scope expects geopolitical risks with Russia to persist in relation to unresolved conflicts in South Ossetia and Abkhazia.

      Core Variable Scorecard (CVS) and Qualitative Scorecard (QS)

      Scope’s Core Variable Scorecard (CVS), which is based on the relative rankings of key sovereign credit fundamentals, provides a first indicative rating of ‘bb’ for Georgia. No adjustment has been made to this indicative rating under the reserve currency adjustment under Scope’s methodology. As such, the ‘bb’ indicative rating can be adjusted under the Qualitative Scorecard (QS) by up to three notches depending on the size of relative qualitative credit strengths or weaknesses against the indicative peer group of countries.

      For Georgia, the following QS relative credit strength has been identified: i) growth potential of the economy. The following QS relative credit weaknesses versus the peer group have been identified: i) current account resilience; and ii) resilience to short-term external shocks.

      The QS generates no adjustment and indicates BB long-term ratings for Georgia.

      A rating committee has discussed and confirmed these results.

      Factoring of Environment, Social and Governance (ESG)

      Scope explicitly factors in ESG sustainability issues during the ratings process via the sovereign methodology’s stand-alone ESG sovereign risk pillar, with a 20% weighting under the quantitative model (CVS) as well as in the qualitative overlay (QS). Under governance-related factors in the CVS, Georgia displays stronger performance than regional peers on six World Bank Worldwide Governance Indicators. Georgia has made significant progress over recent years in improving the quality and effectiveness of its public administration and enhancing government transparency. However, the lack of an established system of checks and balances and of a fully functioning independent judiciary remain challenges.

      Social factors considered under Scope’s methodology include high poverty (21.3% of the population was under the national poverty line in 2020) and elevated unemployment rates (22.1% in Q2 2021), although these were gradually decreasing pre-pandemic. The unemployment rate reflects still-high levels of structural unemployment and skills mismatches. Georgia’s working-age population (those aged 15-64) has been declining by 0.6% annually over the last five years, reflecting net emigration.

      Substantial environmental risks resume such as in relation to air pollution in major cities. This is mitigated by coordinated policy measures aimed at reducing carbon emissions and setting up legislation and enforcement on waste management.

      Rating committee
      The main points discussed by the rating committee were: i) Georgia’s growth outlook; ii) labour market and demographics; iii) fiscal outlook and debt sustainability; iv) external sector developments; v) banking sector developments; vi) geo-politics; and vii) peers.

      Rating driver references
      1. GeoStat: Rapid estimates of economic growth
      2. GeoStat: Foreign direct investments 2020
      3. European Commission: Association Implementation Report on Georgia
      4. Ministry of Finance of Georgia: Public debt management
      5. National Bank of Georgia: Currency exchange rates
      6. National Bank of Georgia: Committee decisions
      7. IMF: Assessing reserve adequacy
      8. National Bank of Georgia: Covid-19 measures

      Methodology
      The methodology used for these Credit Ratings and/or Outlooks, (Rating Methodology: Sovereign Ratings, 9 October 2020), is available on https://www.scoperatings.com/#!methodology/list.
      Scope Ratings GmbH and Scope Ratings UK Limited apply the same methodologies/models and key rating assumptions for their credit rating services, while Scope Hamburg GmbH’s methodologies/models and key rating assumptions are different from those of Scope Ratings GmbH and Scope Ratings UK Limited.
      Information on the meaning of each Credit Rating category, including definitions of default, recoveries, Outlooks and Under Review, can be viewed in ‘Rating Definitions – Credit Ratings, Ancillary and Other Services’, published on https://www.scoperatings.com/#!governance-and-policies/rating-scale. Historical default rates of the entities rated by Scope Ratings can be viewed in the Credit Rating performance report at https://www.scoperatings.com/#governance-and-policies/regulatory-ESMA. Also refer to the central platform (CEREP) of the European Securities and Markets Authority (ESMA): http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. A comprehensive clarification of Scope Ratings’ definitions of default and Credit Rating notations can be found at https://www.scoperatings.com/#governance-and-policies/rating-scale. Guidance and information on how environmental, social or governance factors (ESG factors) are incorporated into the Credit Rating can be found in the respective sections of the methodologies or guidance documents provided on https://www.scoperatings.com/#!methodology/list.
      The Outlook indicates the most likely direction of the Credit Ratings if the Credit Ratings were to change within the next 12 to 18 months. 

      Solicitation, key sources and quality of information
      The Credit Ratings were not requested by the Rated Entity or its Related Third Parties. The Credit Rating process was conducted:
      With Rated Entity or Related Third Party participation NO
      With Access to internal documents                               NO
      With Access to management                                         NO
      The following substantially material sources of information were used to prepare the Credit Ratings: public domain.
      Scope Ratings considers the quality of information available to Scope Ratings on the Rated Entity or instrument to be satisfactory. The information and data supporting these Credit Ratings originate from sources Scope Ratings considers to be reliable and accurate. Scope Ratings does not, however, independently verify the reliability and accuracy of the information and data.
      Prior to the issuance of the Credit Rating action, the Rated Entity was given the opportunity to review the Credit Ratings and/or Outlooks and the principal grounds on which the Credit Ratings and/or Outlooks are based. Following that review, the Credit Ratings were not amended before being issued.

      Regulatory disclosures
      These Credit Ratings and/or Outlooks are issued by Scope Ratings GmbH, Lennéstraße 5, D-10785 Berlin, Tel +49 30 27891-0. The Credit Ratings and/or Outlooks are UK-endorsed.
      Lead analyst: Levon Kameryan, Senior Analyst
      Person responsible for approval of the Credit Ratings: Dr Giacomo Barisone, Managing Director
      The Credit Ratings/Outlooks were first released by Scope on 30 June 2017. The Credit Ratings/Outlooks were last updated on 17 April 2020.

      Potential conflicts
      See www.scoperatings.com under Governance & Policies/EU Regulation/Disclosures for a list of potential conflicts of interest related to the issuance of Credit Ratings. 

      Conditions of use / exclusion of liability
      © 2021 Scope SE & Co. KGaA and all its subsidiaries including Scope Ratings GmbH, Scope Ratings UK Limited, Scope Analysis GmbH, Scope Investor Services GmbH, and Scope ESG Analysis GmbH (collectively, Scope). All rights reserved. The information and data supporting Scope’s ratings, rating reports, rating opinions and related research and credit opinions originate from sources Scope considers to be reliable and accurate. Scope does not, however, independently verify the reliability and accuracy of the information and data. Scope’s ratings, rating reports, rating opinions, or related research and credit opinions are provided ‘as is’ without any representation or warranty of any kind. In no circumstance shall Scope or its directors, officers, employees and other representatives be liable to any party for any direct, indirect, incidental or other damages, expenses of any kind, or losses arising from any use of Scope’s ratings, rating reports, rating opinions, related research or credit opinions. Ratings and other related credit opinions issued by Scope are, and have to be viewed by any party as, opinions on relative credit risk and not a statement of fact or recommendation to purchase, hold or sell securities. Past performance does not necessarily predict future results. Any report issued by Scope is not a prospectus or similar document related to a debt security or issuing entity. Scope issues credit ratings and related research and opinions with the understanding and expectation that parties using them will assess independently the suitability of each security for investment or transaction purposes. Scope’s credit ratings address relative credit risk, they do not address other risks such as market, liquidity, legal, or volatility. The information and data included herein is protected by copyright and other laws. To reproduce, transmit, transfer, disseminate, translate, resell, or store for subsequent use for any such purpose the information and data contained herein, contact Scope Ratings GmbH at Lennéstraße 5 D-10785 Berlin.

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