16.09.2015, 10:43
S&P AFFIRMS LONG-TERM SOVEREIGN CREDIT RATINGS OF REPUBLIC OF KAZAKHSTAN AT "BBB", OUTLOOK NEGATIVE
OREANDA-NEWS. Standard & Poor's Ratings Services has affirmed its long-term foreign and local currency sovereign credit ratings on the Republic of Kazakhstan at 'BBB'. At the same time we also affirmed the short-term foreign and local currency ratings at 'A-2' and the Kazakhstan national scale rating at 'kzAA+'. The outlook on the long-term ratings remains negative.
RATIONALE
The ratings on Kazakhstan continue to be supported by the general government's net asset position, which follows recent years of fiscal and external surpluses. The ratings remain constrained by our view of Kazakhstan's limited institutional and governance effectiveness owing to the highly centralized political environment, moderate level of economic development, limited monetary policy flexibility, and high dependence on the hydrocarbon sector.
On Aug. 20, 2015, Kazakhstan's authorities announced a shift to inflation targeting and a more flexible exchange rate policy. This move was followed by an immediate 26% depreciation of the tenge against the U.S. dollar. Although the National Bank of Kazakhstan (NBK) had planned a transition to inflation targeting for some time, this switch came somewhat unexpectedly, given that the NBK had previously announced that it wanted a more gradual shift. The decision followed months of real effective exchange rate appreciation triggered by currency depreciation in Russia and devaluation in China, two of Kazakhstan's key trading partners.
Although the announced shift to a more flexible exchange rate policy under theinflation-targeting framework could potentially increase monetary policy flexibility and Kazakhstan's capacity to deal with external shocks, the ability and commitment of the NBK to follow the new monetary policy regime remains to be tested.
This is given what we regard as the so far weak effectiveness of Kazakhstan's monetary policy, which makes it difficult to transition to full inflation targeting in a short period. The ability to impact domestic monetary conditions will also be constrained by the banking system, which still remains vulnerable and has become increasingly dollarized. The share of foreign-currency deposits in total deposits has remained consistently high, at above 50% over the last few months (52% in July), compared with below 40% two years ago. The recent devaluation will likely increase dollarization further, in our view.
Moreover, Kazakhstan's financial system is vulnerable. Following significant reduction of nonperforming loans (NPLs) in June 2015 (thanks to the removal of the majority of NPLs from defaulted banks BTA Bank and Kazkommertsbank from the banking system's balance sheet), we expect NPLs to increase in the second half of 2015 and in 2016. The increase will be driven, in our opinion, by economic slowdown, the tenge devaluation (given that about 23% of loans are in foreign currency), and seasoning of loans disbursed by banks that have been growing aggressively over the past four years. Significant risks to the stability of the banking system remain tight tenge liquidity and a material mismatch of assets and liabilities in foreign currency, especially in retail banking, which we do not expect to reduce significantly in the next 12 months (see "Kazakh Banks Will Feel The Weight Of Tenge Depreciation And Worsening Economic Conditions” published Aug. 31, 2015, on RatingsDirect). This faces the NBK with increasingly difficult monetary policy decisions, especially given the expected hike in inflation.
Kazakhstan’s medium-term growth outlook remains constrained, due to weak external demand and lower and increasingly volatile oil prices. Since Kazakhstan's economy depends heavily on the oil sector--which accounts for an estimated 20% of GDP, 50% of fiscal revenues, and 60% of exports--we expect GDP growth to slow to 2.8% in 2015-2018 against an average of 6% in 2010- 2014.
The scenario assumes the limited contribution of net exports to GDP due to what we forecast as flat oil production, unless the large offshore Kashagan oil field comes fully on stream earlier than 2018. The growth outlook is also dampened by the expected impact on consumer demand from currency devaluation and weak consumer lending, as well as lower-than-expected exports of other raw materials.
Growth in 2015-2016 will likely be supported by the government's stimulus program, which implies infrastructure and housing investments and support of small and midsize enterprises. Longer-term growth prospects will depend, however, on the pace of the oil price recovery, the Kashagan oil field project's implementation, stronger consumer demand, and progress in the announced structural reforms.
We expect the lower oil price and the ongoing fiscal stimulus program to result in the government running fiscal deficits on a consolidated basis with the National Fund of the Republic of Kazakhstan (NFRK; the oil fund) in 2015-2016, and we expect general government debt to increase as a percentage of GDP as a result both of expected deficits and of the impact of exchange-rate movements. Apart from the regular annual transfer from the NFRK to the central government budget, the oil fund has been recently used to support the local economy. This fiscal stimulus includes a US$5.5 billion program that was launched in 2014 and covers 2014-2015, which is largely to support the banking system, and a US$9 billion program for infrastructure investments in 2015-2017.
We believe Kazakhstan's capacity and willingness to contain expenditures in the medium term, after the ongoing stimulus has finished, remains strong, and we anticipate that the general government will return to a surplus position from 2017. In its 2016-2018 draft budget, the government has adjusted expenditures in line with a structurally lower oil price, which Kazakhstan conservatively assumes at US$40 per barrel in the medium term. We believe Kazakhstan's material capital expenditures support the government's spending flexibility. On the revenues side, it proposed ambitious revenue-mobilization initiatives, in particular related to stronger collection of value-added tax. These initiatives have to be tested, however, but tax revenues could be bolstered by the weaker exchange rate, as well as by recovering oil prices in the longer term.
Thanks to expected recovery of fiscal performance, we think gross general government debt will continue to stay below a modest 25% of GDP, and the government will remain in a net asset position owing to its liquid assets accumulated in the oil fund (above 50% of GDP). This figure excludes the debt of Kazakhstan's government-related entities, the statistics for which are not available (we roughly estimate their debt at 15% of GDP as of year-end 2014). In 2015-2016, consolidated general government fiscal deficits will likely be financed by domestic bonds and borrowings from multilateral institutions. We also understand that the government could use some of the local issuance to inject capital into the banking system should this need arise following the currency devaluation. Kazakhstan’s access to international markets continues to be strong, which was evidenced by the successful placement of a US$4 billion Eurobond in July 2015.
As a result of lower oil prices, Kazakhstan’s external performance is likely to be weaker than in the recent past. We expect the current account to deliver modest deficits of about 2.5%-3% of GDP on average in 2015-2017. However, a gradually recovering oil price and a more flexible exchange rate could put the current account back into surplus by 2018, in our view. Despite weaker current account performance, we expect reserves to decline only marginally, as they will be supported by financial account inflows from foreign direct investments (3% of GDP on average in 2015-2018) and the expected repatriation of NFRK assets, as part of the government's stimulus spending.
In April 2015, President Nursultan Nazarbayev won the early presidential election as expected, which in our view supports near-term political stability. Indeed, Kazakhstan has benefitted from one of the most politically stable environments in the region. Under his renewed mandate, the president has announced five institutional and economic reforms that could offset the sharp economic slowdown. That said, in our view, future policy choices are difficult to predict in the medium term because of uncertainty surrounding eventual presidential succession. The political environment is highly centralized, and President Nazarbayev has governed Kazakhstan since its independence in 1991.
OUTLOOK
The negative outlook on the long-term ratings reflects our view of existing risks to Kazakhstan's external, fiscal, and monetary profiles. We could consider lowering the long-term ratings if Kazakhstan's external and fiscal positions deteriorate beyond our current expectations in the next two years. The ratings could also come under pressure if we came to the conclusion that the NBK had stepped back from its commitment to a flexible tenge exchange rate and inflation targeting.
We could revise the outlook to stable if higher oil prices, as well as Kazakhstan's planned robust fiscal and monetary policy response, remove pressure from the country's fiscal, external, and monetary conditions.
RATINGS LIST
Ratings affirmed
Kazakhstan (Republic of)
Sovereign credit rating
Foreign and Local Currency
BBB/Negative/A-2
Kazakhstan National Scale
kzAA+/--/--
Transfer & Convertibility Assessment
BBB
Senior Unsecured
Foreign and Local Currency
BBB
Short-Term Debt
Local Currency
A-2.
RATIONALE
The ratings on Kazakhstan continue to be supported by the general government's net asset position, which follows recent years of fiscal and external surpluses. The ratings remain constrained by our view of Kazakhstan's limited institutional and governance effectiveness owing to the highly centralized political environment, moderate level of economic development, limited monetary policy flexibility, and high dependence on the hydrocarbon sector.
On Aug. 20, 2015, Kazakhstan's authorities announced a shift to inflation targeting and a more flexible exchange rate policy. This move was followed by an immediate 26% depreciation of the tenge against the U.S. dollar. Although the National Bank of Kazakhstan (NBK) had planned a transition to inflation targeting for some time, this switch came somewhat unexpectedly, given that the NBK had previously announced that it wanted a more gradual shift. The decision followed months of real effective exchange rate appreciation triggered by currency depreciation in Russia and devaluation in China, two of Kazakhstan's key trading partners.
Although the announced shift to a more flexible exchange rate policy under theinflation-targeting framework could potentially increase monetary policy flexibility and Kazakhstan's capacity to deal with external shocks, the ability and commitment of the NBK to follow the new monetary policy regime remains to be tested.
This is given what we regard as the so far weak effectiveness of Kazakhstan's monetary policy, which makes it difficult to transition to full inflation targeting in a short period. The ability to impact domestic monetary conditions will also be constrained by the banking system, which still remains vulnerable and has become increasingly dollarized. The share of foreign-currency deposits in total deposits has remained consistently high, at above 50% over the last few months (52% in July), compared with below 40% two years ago. The recent devaluation will likely increase dollarization further, in our view.
Moreover, Kazakhstan's financial system is vulnerable. Following significant reduction of nonperforming loans (NPLs) in June 2015 (thanks to the removal of the majority of NPLs from defaulted banks BTA Bank and Kazkommertsbank from the banking system's balance sheet), we expect NPLs to increase in the second half of 2015 and in 2016. The increase will be driven, in our opinion, by economic slowdown, the tenge devaluation (given that about 23% of loans are in foreign currency), and seasoning of loans disbursed by banks that have been growing aggressively over the past four years. Significant risks to the stability of the banking system remain tight tenge liquidity and a material mismatch of assets and liabilities in foreign currency, especially in retail banking, which we do not expect to reduce significantly in the next 12 months (see "Kazakh Banks Will Feel The Weight Of Tenge Depreciation And Worsening Economic Conditions” published Aug. 31, 2015, on RatingsDirect). This faces the NBK with increasingly difficult monetary policy decisions, especially given the expected hike in inflation.
Kazakhstan’s medium-term growth outlook remains constrained, due to weak external demand and lower and increasingly volatile oil prices. Since Kazakhstan's economy depends heavily on the oil sector--which accounts for an estimated 20% of GDP, 50% of fiscal revenues, and 60% of exports--we expect GDP growth to slow to 2.8% in 2015-2018 against an average of 6% in 2010- 2014.
The scenario assumes the limited contribution of net exports to GDP due to what we forecast as flat oil production, unless the large offshore Kashagan oil field comes fully on stream earlier than 2018. The growth outlook is also dampened by the expected impact on consumer demand from currency devaluation and weak consumer lending, as well as lower-than-expected exports of other raw materials.
Growth in 2015-2016 will likely be supported by the government's stimulus program, which implies infrastructure and housing investments and support of small and midsize enterprises. Longer-term growth prospects will depend, however, on the pace of the oil price recovery, the Kashagan oil field project's implementation, stronger consumer demand, and progress in the announced structural reforms.
We expect the lower oil price and the ongoing fiscal stimulus program to result in the government running fiscal deficits on a consolidated basis with the National Fund of the Republic of Kazakhstan (NFRK; the oil fund) in 2015-2016, and we expect general government debt to increase as a percentage of GDP as a result both of expected deficits and of the impact of exchange-rate movements. Apart from the regular annual transfer from the NFRK to the central government budget, the oil fund has been recently used to support the local economy. This fiscal stimulus includes a US$5.5 billion program that was launched in 2014 and covers 2014-2015, which is largely to support the banking system, and a US$9 billion program for infrastructure investments in 2015-2017.
We believe Kazakhstan's capacity and willingness to contain expenditures in the medium term, after the ongoing stimulus has finished, remains strong, and we anticipate that the general government will return to a surplus position from 2017. In its 2016-2018 draft budget, the government has adjusted expenditures in line with a structurally lower oil price, which Kazakhstan conservatively assumes at US$40 per barrel in the medium term. We believe Kazakhstan's material capital expenditures support the government's spending flexibility. On the revenues side, it proposed ambitious revenue-mobilization initiatives, in particular related to stronger collection of value-added tax. These initiatives have to be tested, however, but tax revenues could be bolstered by the weaker exchange rate, as well as by recovering oil prices in the longer term.
Thanks to expected recovery of fiscal performance, we think gross general government debt will continue to stay below a modest 25% of GDP, and the government will remain in a net asset position owing to its liquid assets accumulated in the oil fund (above 50% of GDP). This figure excludes the debt of Kazakhstan's government-related entities, the statistics for which are not available (we roughly estimate their debt at 15% of GDP as of year-end 2014). In 2015-2016, consolidated general government fiscal deficits will likely be financed by domestic bonds and borrowings from multilateral institutions. We also understand that the government could use some of the local issuance to inject capital into the banking system should this need arise following the currency devaluation. Kazakhstan’s access to international markets continues to be strong, which was evidenced by the successful placement of a US$4 billion Eurobond in July 2015.
As a result of lower oil prices, Kazakhstan’s external performance is likely to be weaker than in the recent past. We expect the current account to deliver modest deficits of about 2.5%-3% of GDP on average in 2015-2017. However, a gradually recovering oil price and a more flexible exchange rate could put the current account back into surplus by 2018, in our view. Despite weaker current account performance, we expect reserves to decline only marginally, as they will be supported by financial account inflows from foreign direct investments (3% of GDP on average in 2015-2018) and the expected repatriation of NFRK assets, as part of the government's stimulus spending.
In April 2015, President Nursultan Nazarbayev won the early presidential election as expected, which in our view supports near-term political stability. Indeed, Kazakhstan has benefitted from one of the most politically stable environments in the region. Under his renewed mandate, the president has announced five institutional and economic reforms that could offset the sharp economic slowdown. That said, in our view, future policy choices are difficult to predict in the medium term because of uncertainty surrounding eventual presidential succession. The political environment is highly centralized, and President Nazarbayev has governed Kazakhstan since its independence in 1991.
OUTLOOK
The negative outlook on the long-term ratings reflects our view of existing risks to Kazakhstan's external, fiscal, and monetary profiles. We could consider lowering the long-term ratings if Kazakhstan's external and fiscal positions deteriorate beyond our current expectations in the next two years. The ratings could also come under pressure if we came to the conclusion that the NBK had stepped back from its commitment to a flexible tenge exchange rate and inflation targeting.
We could revise the outlook to stable if higher oil prices, as well as Kazakhstan's planned robust fiscal and monetary policy response, remove pressure from the country's fiscal, external, and monetary conditions.
RATINGS LIST
Ratings affirmed
Kazakhstan (Republic of)
Sovereign credit rating
Foreign and Local Currency
BBB/Negative/A-2
Kazakhstan National Scale
kzAA+/--/--
Transfer & Convertibility Assessment
BBB
Senior Unsecured
Foreign and Local Currency
BBB
Short-Term Debt
Local Currency
A-2.
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