Fitch affirms Malta at ‘A’; Outlook Stable. news welcomed by Minister
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Fitch Ratings has affirmed Malta’s Long-term foreign and local currency Issuer Default Rating (IDRs) at ‘A’. The Outlooks are Stable. The issue ratings on Malta’s senior unsecured foreign and local currency bonds have also been affirmed at ‘A.’
The agency has also affirmed Malta’s Short-term foreign-currency IDR at ‘F1’ and the Country Ceiling at ‘AAA’.
Fitch said that the affirmation and the Stable Outlook reflect the following key rating drivers:
“The Maltese economy is outperforming its eurozone peers. Fitch estimates real GDP grew by 3.4% in 2014, better than in 2013 (2.5%) and higher than both the eurozone average (0.9%) and the ‘A’ median of 3.1% over five years. Fitch expects potential growth to average 3% in 2015-16, continuing above the eurozone average. The agency expects domestic demand to be the main engine of growth.
Private consumption will be supported by a moderate increase in real disposable income, underpinned by falling energy prices and a buoyant labour market. Private investment is supported by the construction of a new power plant. A weaker euro is expected to support exports of goods and services. At 5.9% in December 2014, the unemployment rate was below both the ‘A’ median and the eurozone average, while the employment rate has risen, underpinned by the increasing female labour market participation rate.
Public finances remain weaker relative to the ‘A’ median but are improving. Fitch estimates that in 2014 the general government deficit declined to 2.3% of GDP from 2.7% in 2013. This is the result of revenue growth outstripping expenditure growth. Stronger revenues contrast with rising expenditure, reflecting significant underlying pressures, which Fitch has previously highlighted.
Public finances will follow a similar path in 2015. The budget remains reliant on revenue-increasing measures, while an array of social measures are likely to further increase government spending. Fitch expects the revenue-to-GDP ratio to increase by 1pp, which will likely outstrip the increase in expenditure-to-GDP (0.7% of GDP). Nominal GDP growth of 4.8% will support deficit reduction.
Continued rises in public expenditure could pose a risk to debt reduction if revenues underperform in the future. In this respect, the adoption of the Fiscal Responsibility Act could help anchor fiscal policy, particularly with regard to growth in expenditures, assuming the authorities abide by the rules.
Public debt dynamics are improving very gradually. General government gross debt (GGGD) is forecast to have declined to 68.8% of GDP in 2014 from 69.5% in 2013. The decline was underpinned by a repayment of arrears by Enemalta, the public energy utility, and a primary budget surplus of 0.4% of GDP. GGGD has peaked at a lower level (68.8%) compared with our September review (72.2%), partly because of higher nominal GDP due to the new ESA2010 statistical standard. In our baseline, nominal GDP growth of around 4% and a moderate primary surplus of 0.5% of GDP should ensure a gradual decline in public debt to 65.6% of GDP by 2018.
Contingent liabilities pose additional risks to creditworthiness. Government-guaranteed liabilities stood at 16.5% of GDP in 3Q14, the majority of them related to Enemalta, while consolidated government payment arrears were 9.8% of GDP in Q314.
Shanghai Electric Power Company has agreed to acquire a 33% stake in Enemalta and this has been approved by the Maltese Parliament. The deal reportedly has the potential to enhance Enemalta’s profitability over the medium term and reduce its debt. A successful restructuring would likely reduce risks around the crystallisation of contingent liabilities.
The three Maltese banks directly subjected to the ECB’s Comprehensive Assessment passed it unscathed. No capital shortfalls under the baseline and adverse scenario of the stress tests were found. The adjustments required as a result of the Asset Quality Review were limited.
The core domestic banks have a loan/deposit ratio of only around 66% and have not been drawing significantly on ECB liquidity facilities. Their Tier 1 capital ratio stood at 11.08% in June 2014, well above the regulatory minimum threshold (8%). The ratio for the whole banking sector (including non-core domestic and international banks) was 25.8% in June 2014. The government has not had to provide capital or liquidity.
Loan portfolios are concentrated in mortgages, construction and real estate. Non-performing loans (NPLs) to total loans stood at 9.5% in June 2014, up from 9.1% in 2013. This was due mainly to the corporate segment where the NPL ratio rose to 17% from 15.9%. The bulk (45% of total NPLs) was concentrated in the construction sector. A sharp housing market correction combined with problems for real estate developers are the main domestic risks to financial stability, but Fitch considers this scenario unlikely.
Malta has a robust net external creditor position relative to rating peers and positive international investment position. The banking sector is the main contributor, but the sovereign is also a modest net external creditor. External finance data is affected by the presence of a large international banking sector.”
RATING SENSITIVITIES: The Outlook is Stable. Consequently, Fitch’s sensitivity analysis does not currently anticipate developments with a high likelihood of leading to a rating change. However, future developments that could individually or collectively, result in a downgrade include: – Significant slippage from fiscal targets leading to deteriorating public debt dynamics. – Crystallisation of material contingent liabilities from public sector companies (particularly Enemalta), a shock to the banking sector or eurozone bail-out packages.
The main factors that individually or collectively could trigger positive rating action are: – An improved track record in consolidating the public finances that leads to a significantly lower public debt level. – A significant decline in contingent liabilities.
KEY ASSUMPTIONS: Fitch said it understands that Mediterranean Bank (formerly a non-core domestic bank) will soon be classified as a core domestic bank. The bank has rapidly expanded operations in the island and its balance sheet was EUR2.9bn (37% of GDP) in September 2014. This implies that the size of the systemically important core domestic banks will increase from around 209% of GDP to 246% of GDP. There are six core domestic banks in Malta; the three largest (Bank of Valletta, HSBC Bank Malta and Mediterranean Bank) account for 209% of GDP.
Fitch added that it assumes that in case of need, the government of Malta would only be predisposed towards supporting the core domestic banks (now including Mediterranean Bank), which are systemically important, in particular Bank of Valletta (106% of GDP) and Mediterranean Bank. For HSBC Bank Malta (66% of GDP), Fitch believes that any necessary support would come from its parent company. In Fitch’s view, the Maltese government would be very unlikely to support the international banks (363% of GDP) and would probably not support non-core banks (now 40% of GDP) either.
Fitch said that the European Central Bank’s asset purchase programme should help underpin inflation expectations, and supports our base case that, in the context of a modest economic recovery, the eurozone will avoid prolonged deflation. Fitch also assumes gradual progress in deepening financial integration at the eurozone level and that eurozone governments will tighten fiscal policy over the medium term.
In response to the ratings from Fitch, the Minister for Finance Professor Scicluna remarked that “whilst welcoming the Fitch Ratings’ positive assessment, which follows two others in the same vein in the same week, one by the Commission and the other by the IMF, the Government remains both committed and confident that it will continue attaining its more ambitious budgetary targets, as outlined in the Budget.”