OREANDA-NEWS. November 25, 2015. Fitch Ratings has affirmed Estonia's Long-term foreign and local currency Issuer Default Ratings (IDRs) at 'A+'. The Outlooks are Stable. The Country Ceiling is affirmed at 'AAA' and the Short-term foreign-currency IDR at 'F1'.

KEY RATING DRIVERS

Estonia's ratings are supported by a strong sovereign balance sheet, strong credit fundamentals including governance indicators and a high level of economic development compared with rated peers, and a sound macroeconomic policy framework.

Public finances are a key rating strength. At end-2014 general government debt was 10.4% of GDP - less than a quarter of the peer median (44.4%) and the lowest in the European Union. Estonia is one of only six OECD countries with a net asset position for the general government. Fitch expects that the general government debt-to-GDP ratio will fall to 9.2% by 2017, on forecast balanced government budgets.

As a small and open economy, Estonia is vulnerable to adverse shocks affecting its main trading partners. Economic growth has slowed this year, reflecting a sharp decline in capital spending and a marked slowdown in export growth. GDP growth in 1H15 was 1.6% on an annual basis, down from 2.9% in 2014. Preliminary data for 3Q indicates further slowdown, to 0.5% year-on-year. Private consumption remains the main driver of growth (up 5.5% on an annual basis in 1H15), as stable prices and robust wage growth boost real incomes.

We expect that GDP growth this year will be just 1.5% - considerably lower than the 4% average over the past five years. We forecast that growth will pick up over the next two years to 2.8% in 2016 and 3.4% in 2017, as investment recovers and economic prospects in Estonia's export markets improve further. This should lead to more balanced growth.

Demographic trends are a structural weakness. Both the overall and working-age populations are on a downward trend. Policy measures aimed at boosting participation among partially-able workers will partly alleviate pressure on this trend. But over the medium- to long-term the downtrend in population, unless offset by productivity improvements, will constrain growth potential.

Despite the weakness in exports, we expect the current account surplus to widen this year to 2.5% of GDP from 1% in 2014, on falling import prices and volumes. Thereafter, the surplus will unwind, averaging 0.5% of GDP in 2016-2017.

External sustainability has improved markedly in recent years. Deleveraging in the banking and corporate sectors and rising domestic funding for bank assets have brought net external debt down to -9.8% of GDP in 2014, down from a peak of 55% in 2009.

Estonian banks are well-capitalised, and asset quality is strong. The proportion of non-performing loans is low, at 1.7% in September.

RATING SENSITIVITIES
The Stable Outlook indicates that the downside and upside risks are evenly balanced. However, future developments that could result in a positive rating action include:
-Evidence that the Estonian economy's medium-term growth potential has not been undermined by adverse external shocks.

Future developments that could lead to negative rating action include:
-Further severe economic or financial shocks that adversely affect Estonia's economic and financial stability.

KEY ASSUMPTIONS
Fitch assumes that Estonia's main trading partners will benefit from a gradual economic recovery. The European Central Bank's asset purchase programme should help underpin inflation expectations, and supports our base case that in the context of an economic recovery, the eurozone will avoid prolonged deflation.

Fitch assumes that Estonia's macroeconomic policy framework will remain in place and that Estonia will have a sustainable fiscal policy in the medium- to long-term.

Fitch assumes that Estonia's economic and political stability is not undermined by regional geo-political stress.