At the top of Scope Ratings’ ranking based on an examination of changes in government debt ratios under a stressed scenario is Luxembourg, with other comparatively resilient economies including Austria, Germany and Sweden. In central and eastern Europe, robust outcomes were seen for the Czech Republic and Estonia.

The findings are part of Scope’s broader assessment of fiscal risk in EU member states plus the UK: Fiscal and debt trajectory risks: a comparative assessment of EU member states.

“The underlying trajectory of government debt stocks is central to our evaluation of a sovereign’s capacity to repay outstanding debt obligations,” says Levon Kameryan, analyst at Scope.

Rising deficit and debt levels signal, for instance, an unsustainable fiscal trajectory, questioning whether deterioration in the nation’s capacity to repay – and, as such, its sovereign creditworthiness – might be occurring.

“Debt levels have shown a significant tendency to rise in times of distress in global and/or regional economies through multiple channels,” says Dennis Shen, co-author of the report on fiscal risk. Curtailed tax revenue flows and increased counter-cyclical spending can both drive budget deficits upwards, while declines in nominal GDP automatically entail higher debt-to-GDP ratios. Moreover, financing conditions could deteriorate, making it more expensive for governments to raise new debt.

EU economies displaying amongst the most significant increases in debt ratios over the two years in the stress case include euro area periphery member states alongside Romania:

1. Debt stocks for Greece and Ireland increase by about 28% of GDP on average;
2. Debt for Spain, Italy and Romania increase by 15% of GDP on average.

Other economies seeing relatively high increases in debt stocks include:

1. Lithuania, Slovenia and Latvia by around 12pps on average, among central and eastern European economies;
2. the United Kingdom, Belgium and France by, on average, 10pps, in western Europe; and
3. Finland by 12pps in the Nordics.

“On the flip side, debt ratios for more resilient EU economies such as Luxembourg, Austria, Germany and Sweden increase by on average only 4-5pps within the stress case’s two-year horizon,” says Shen.

With the emphasis shifting to fiscal rather that monetary policy as the principal mechanism for raising economic growth in the region, Scope’s stress-test of EU government balance sheets represents a quantitative look at the fiscal space that governments possess – via probing the extent of balance-sheet impairment under an adverse scenario.

“We are essentially asking one question: how much risk exists to fiscal positions and, as such, how much fiscal space exists when we first consider the weakening in governments’ gross liability positions in the event of a future crisis?” says Kameryan.

Contributing Writer: Matthew Curtin: m.curtin@scopegroup.com