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Fitch Affirms Czech Republic at 'A+'; Outlook Stable
April 7, 2017 / 8:15 PM / 8 months ago

Fitch Affirms Czech Republic at 'A+'; Outlook Stable

(The following statement was released by the rating agency) PARIS/LONDON, April 07 (Fitch) Fitch Ratings has affirmed Czech Republic's Long-Term Foreign- and Local-Currency IDRs at 'A+' with a Stable Outlook. The issue ratings on Czech Republic's senior unsecured Foreign- and Local-Currency bonds have also been affirmed at 'A+'. The Country Ceiling has been affirmed at 'AA+' and the Short-Term Foreign- and Local-Currency IDRs at 'F1+'. The ratings on Czech Republic's senior unsecured short-term local currency issues have also been affirmed at 'F1+'. KEY RATING DRIVERS The affirmation of Czech Republic's 'A+' ratings reflects strong external creditor position (net external debt was -15% of GDP in 3Q16) and government finances (government debt was 37% of GDP at end-2016 vs. 51% for the 'A' peers' median), and a solid banking system. The general strength of the country's institutions is underpinned by European Union (EU) membership. GDP per capita is in line with the peer group median but well below that of the 'AA' rating category. Economic convergence towards EU level has slowed relative to pre-2008. Czech Republic's 'A+' IDRs also reflect the following key rating drivers: Fitch expects GDP growth will be 2.7% in 2017 and 2018 after 2.4% in 2016. Investment should recover in 2017 after a marked fall in 2016, as per the EU-fund cycle. Consumption will continue to drive demand reflecting the strong labour market (unemployment was 3.5% in February 2017 from 4.3% a year ago). Given the openness of the Czech economy the main risk to the economic outlook is the uncertain external environment. In the medium term, Fitch expects GDP growth will be around 2.0%/2.5%. The Czech central bank has announced the removal of the EUR/CZK27 floor on the exchange rate. This is consistent with the assessment that the "conditions for sustainable fulfilment of the 2% inflation target in the future have been met". Inflation was 2.5% in February. Fitch expects the removal of the floor to be neutral for the ratings. Macro prudential risks appear manageable given strong external and public finance fundamentals and healthy and liquid banks. High foreign speculative positions in Czech koruna (around EUR35 billion, equivalent to 20% of GDP, according to most analysts) will likely lead to high volatility in the short term. The general government balance recorded a surplus of 0.6% of GDP in 2016. The improved economic position supported strong tax collection. Lower capital expenditure as a result of the EU-fund cycle, and the fall in interest payments, also contributed to the fiscal performance. In 2017, Fitch expects a deficit of 0.1% of GDP mainly due to higher investment. The 2017 general election will also lead to higher current spending but the impact of an election on fiscal outcomes has traditionally been limited in Czech Republic. The government surplus has allowed a marked fall government debt, to 37.2% of GDP in 2016 from 40.3% in 2015. In the medium term, Fitch expects government debt will continue to decline, to 35% by 2018 and 29% by 2026. The share of non-resident holdings of government bonds in CZK increased to 42% in February 2017 from around 14% on average before 2014 reflecting the increase in speculative foreign investment expecting currency appreciation. This trend should reverse after the exit and Fitch expects the highly liquid banking system to step in and increase its share in government debt ownership. The Czech parliament adopted a long-awaited fiscal responsibility law in January 2017. This should help avoiding pro-cyclical policies in future. The new framework includes an expenditure rule and debt brakes at 55% of GDP for the general government (versus 37% for current debt level). Public finances will also be monitored by an independent fiscal council. The rule is enshrined in ordinary law and not the constitution as initially planned, rendering it relatively easy to change. Fitch expects the current account to have reached a surplus of 1.1% of GDP in 2016 from 0.2% in 2015. The improvement reflects the impact of lower investment on imports, and strong exports, especially cars. In 2017 and 2018, the agency expects the surplus to decline, reflecting higher investment and potentially weaker export performance. The central bank has had to intervene to defend the FX floor in recent months as expectation of the end of this policy has caused increasing speculative inflows. FX interventions resulted in rapid increase in foreign assets at the central bank, to USD86 billion (45% of GDP) by end-2016. Czech banks are mostly foreign owned, well capitalised and liquid (the loan-to-deposit ratio is about 80%). Non-performing loan ratios are low (4.8% at end-2016). Credit to the private sector grew 6.8% y/y in 2016 reflecting favourable financial and macro conditions. The central bank has issued tighter macro prudential recommendations, such as a counter cyclical capital buffer of 0.5% from January 2017, and a stricter maximum LTV on mortgage loans. Fitch expects growth in credit to the private sector to decelerate to 5% yoy by 2018. Fitch expects broad policy continuity after the October 2017 general election and a new coalition to be formed, as no party appears likely to secure more than 50% of the seats. This largely mitigates the risk of a radical change in policy direction. The party currently leading in the polls is ANO, a junior party in the current governing coalition. Its leader, M. Babis, has sometimes embraced anti-EU rhetoric alongside other leaders in the Visegrad countries (V4, Poland, Hungary, Slovakia and Czech Republic). However, he appears more favourable to the EU and less focussed on national sovereignty than other V4 leaders. SOVEREIGN RATING MODEL (SRM) and QUALITATIVE OVERLAY (QO) Fitch's proprietary SRM assigns Czech Republic a score equivalent to a rating of 'A+' on the Long-Term FC IDR scale. Fitch's sovereign rating committee did not adjust the output from the SRM to arrive at the final LT FC IDR Fitch's SRM is the agency's proprietary multiple regression rating model that employs 18 variables based on three year centred averages, including one year of forecasts, to produce a score equivalent to a LT FC IDR. Fitch's QO is a forward-looking qualitative framework designed to allow for adjustment to the SRM output to assign the final rating, reflecting factors within our criteria that are not fully quantifiable and/or not fully reflected in the SRM. RATING SENSITIVITIES The Stable Outlook reflects Fitch's assessment that upside and downside pressures on the rating are currently balanced. The main factors that could, individually or collectively, lead to positive rating action are: -Sustained reduction in general government debt consistent with continued tight budget balances. -Over the medium term, stronger GDP per capita growth supported by economic reforms. The main risk factors that could, individually or collectively, trigger negative rating action are: -A substantial deterioration in Czech economic growth, for example, due to a global slowdown or changing growth patterns in key export partners. -A material increase in the public debt ratio, for instance, brought about by substantial fiscal loosening. KEY ASSUMPTIONS Fitch assumes that growth in the eurozone, Czech Republic's main economic partner, will be 1.7% in 2017 and 1.6% in 2018 after 1.7% in 2016. Contact: Primary Analyst Arnaud Louis Director +33 1 44 29 91 42 Fitch Ratings S.A.S. 60 rue de Monceau 75008 Paris Secondary Analyst Krisjanis Krustins Associate Director +852 2263 9831 Committee Chairperson Michele Napolitano Senior Director +44 20 3530 1882 Media Relations: Peter Fitzpatrick, London, Tel: +44 20 3530 1103, Email: Additional information is available on Applicable Criteria Country Ceilings (pub. 16 Aug 2016) here Sovereign Rating Criteria (pub. 18 Jul 2016) here Additional Disclosures Dodd-Frank Rating Information Disclosure Form here _id=1021925 Solicitation Status here Endorsement Policy here ALL 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 WEB SITE AT <a href="">WWW.FITCHRATINGS.COM.. 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