Government of Georgia Outlook Revised To Stable From Positive On Increasing Geopolitical Risk

reposted from Standard & Poor’s web-page

LONDON (Standard & Poor’s) On Nov. 21, 2006–Standard & Poor’s Ratings Services said today it revised its outlook on the Government of Georgia to stable from positive, owing to increased geopolitical risk. At the same time, the ‘B+/B’ long-term and short-term sovereign credit ratings were affirmed.

“The outlook change reflects Standard & Poor’s view that the geopolitical risks in the region have increased significantly and may impair positive trends in external liquidity, investor sentiment, and economic growth,” said Standard & Poor’s credit analyst Luc Marchand.

“These risks are partly balanced by still strong economic prospects, underpinned by rapid reform, continued prudent fiscal policies, and an increasingly market-oriented economic structure.”

The sovereign’s ongoing success in increasing government revenues is expected to support moderate general government deficits of about 2.6% of GDP in 2007, declining to 2.2% in 2008, and 2.0% in 2009. High nominal GDP growth and privatization will contribute to a reduction of the net general government debt burden to an expected 20% of GDP in 2007, with a further improvement projected to 16% in 2008. This compares favorably with a level of 57% in 2003  (prior to the latest round of Paris Club relief), and a 2006 median for ‘B’
rated sovereigns of 44%.

The ratings are constrained by geopolitical risk, relatively high inflation, a comparatively undeveloped financial sector, and a narrow economic structure.

Georgia’s weak external indicators are aggravated by tensions in its relationship with Russia, a key trading partner, and compare unfavorably with peers. Russia’s unilateral trade embargo on Georgia imposed in October 2006 and an announced hike in the price of gas supplied to Georgia by Russia’s state-owned Gazprom starting in January 2007 will contribute to a deterioration in the current account deficit, to about 15% of GDP in 2007 from about 11% in 2006, and 8.8% in 2005. Gross external financing needs (current account payments and short-term debt by maturity) are estimated at 121% of current account receipts (CARs) and usable reserves in 2006, compared with a ‘B’ median of 108%.

The monetary environment is also a weakness, with inflation having accelerated to an expected average of 8.5% in 2006, following rapid expansion in domestic credit and strong capital inflows. While the central bank of Georgia is in the process of developing a full supplement of monetary policy tools, these currently remain of limited effectiveness in countering price pressures, in part because of the relative underdevelopment of the financial sector and markets.

The ratings are also constrained by the country’s low level of economic development, which is only partly balanced by Georgia’s good economic growth prospects. Estimated at $1,700 in 2006, per capita GDP is low. Advancement depends on the country’s continued success in improving the market orientation of its institutional framework and business environment, in reducing corruption, and in strengthening the legal system, all of which are key priorities for the government. Indeed, Georgia was rated the top reformer globally in 2006, jumping from 112th place to 37th place in the “Assessment of Doing Business Survey”, reflecting the urgency with which the government is addressing these shortfalls.

The stable outlook balances prudent fiscal policies and a strong track record of reforms with an anticipated deterioration in external indicators, increased geopolitical risk, and high development needs. The difficult relationship with Russia, in combination with ongoing internal pressures related to the independence-seeking regions of Abkhazia and South Ossetia, may further strain external liquidity, and diminish investor confidence and economic expansion. The successful management of the potential consequences of these risks would likely lead to the reinstatement of the positive outlook and an eventual upgrade, particularly if coupled with institutional and infrastructure development. Further slippage in external performance, a reversal of fiscal performance, or increased inflationary pressures would put downward pressure on the ratings.
 
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