Fitch Downgrades Ukraine to 'B-'; Outlook Negative

Fri Nov 8, 2013 11:35am EST

Link to Fitch Ratings' Report: Ukraine - Rating Action ReportLONDON, November 08 (Fitch) Fitch Ratings has downgraded Ukraine's Long-term foreign and local currency Issuer Default Ratings (IDRs) to 'B-' from 'B'. The Outlooks on the Long-term IDRs are Negative. It has also downgraded the issue ratings on Ukraine's senior unsecured foreign and local currency bonds to 'B-' from 'B'. The Country Ceiling is downgraded to 'B-' from 'B' and the Short-term foreign currency IDR is affirmed at 'B'. KEY RATING DRIVERS The downgrade reflects an increasingly fragile external financing position, and constraints on the sovereign's ability to borrow in foreign currency to refinance heavy external debt repayments through 2014-2015. International reserves are likely to fall further from already low levels, increasing risks of a loss of confidence in the hryvnia. The downgrade reflects the following key rating factors and their relative weights:- High - Economic Policy Coherence and Credibility: Ukraine runs a wide current account deficit (CAD) of 8% of GDP and a quasi-pegged exchange rate. National Bank of Ukraine reserves have fallen to USD20.6bn in October 2013, or 2.5 months of imports, from 3 months in January 2013. With net external capital flows unlikely to be sufficient to finance the CAD, reserves will fall further, increasing the risk of a loss of domestic confidence and sharp exchange rate depreciation. The authorities have increased surrender requirements for foreign exchange proceeds since November 2012 and may extend controls to reduce pressure on reserves. - Financing Flexibility and Market Access: the Ukrainian sovereign (as well as state-owned corporates and banks) is effectively shut out of international markets by high risk premia, jeopardising the government's plan to issue USD4bn externally in 2014. The government is exploring alternative funding sources. Despite the deteriorating external financing outlook, there is little concrete sign of a renewed lending agreement with the IMF. An IMF agreement would be contingent on cutting the fiscal deficit, greater exchange rate flexibility and reducing domestic gas price subsidies, a package of measures that Fitch would consider credit-positive. An IMF agreement would help Ukraine to refinance sovereign external debt maturities in 2014-2015 and unlock other financing sources. Medium - Public Debt Sustainability: Signs of fiscal stress are increasing. The government may resort to issuing promissory notes to refund VAT paid by exporters. Real interest rates on government debt are rising. The government is relying increasingly on advance payments of corporate taxes. The fiscal deficit widened to 5.8% of GDP in 2012 and will likely exceed 6% in 2013. Fiscal tightening will prove difficult in 2014 ahead of presidential elections in April 2015. Ukraine's 'B-' IDRs also reflect the following key rating drivers:- - A weak business environment and poor governance indicators, even relative to the 'B' median, constrain the country's ability to fully exploit its economic potential. - GDP and inflation volatility are high, reflecting overheating before the global financial crisis and a deep recession in 2008-2009, followed by a slowdown and recession in 2012 and 2013, respectively. - The financial system remains fragile, burdened by non-performing loans (NPLs) of 30%, and represents a contingent liability to the sovereign, even after solvency support since 2008 worth 10% of GDP. - As a result of a weak monetary policy regime and fragile confidence in the domestic currency, dollarisation is high. However, high levels of dollarisation afford the sovereign some limited domestic financing flexibility in foreign currency. - Income per head is high (at purchasing power parity), and private sector estimates suggest that up to half of GDP is unrecorded. Human development indicators exceed both 'BB' and 'B' median levels. RATING SENSITIVITIES The main factors that individually, or collectively, could trigger negative rating action: - A more rapid-than-forecast fall in international reserves, whether triggered by a shortfall in external financing or by an upsurge in capital outflows - A severe currency depreciation that increases risks to the financial system and private sector and public sector balance sheets - The need for more state support to recapitalise the banking system, which is not Fitch's base case - Intensification of fiscal stress jeopardising the government's ability to service its debts The main factors that individually, or collectively, could trigger positive rating action: - Successful refinancing of obligations due in 2014 and 2015 leading to reduced pressure on reserves - A return to sustainable growth and a moderation in fiscal and external imbalances KEY ASSUMPTIONS - Fitch assumes zero real GDP growth in 2013 and 1.5% in 2014. External demand could become more supportive in 2014. If Ukraine signs the Association Agreement with the EU in November 2013, this could improve confidence and trigger more investment. - Fitch assumes the government will attempt to prevent further fiscal deterioration in 2014. - Fitch's forecast assumes further depreciation in the hryvnia to UAH9/USD by end-2014. The financial system and the economy would be able to tolerate depreciation of up to 10-15% without impacting the current ratings. Contact: Primary Analyst Charles Seville Director +44 20 3530 1048 Fitch Ratings Limited 30 North Colonnade London E14 5GN Secondary Analyst Paul Rawkins Senior Director +44 20 3530 1046 Committee Chairperson Tony Stringer Managing Director +44 20 3530 1219 Media Relations: Julia Belskaya von Tell, Moscow, Tel: +7 495 956 9908, Email: julia.belskayavontell@fitchratings.com; Peter Fitzpatrick, London, Tel: +44 20 3530 1103, Email: peter.fitzpatrick@fitchratings.com. Additional information is available on www.fitchratings.com Applicable criteria, 'Sovereign Rating Criteria' dated 13 August 2012 and 'Country Ceilings' dated 09 August 2013, are available at www.fitchratings.com. Applicable Criteria andALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: here. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEBSITE 'WWW.FITCHRATINGS.COM'. PUBLISHED RATINGS, CRITERIA AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE 'CODE OF CONDUCT' SECTION OF THIS SITE. FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH WEBSITE.

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