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Fitch Affirms Spain at 'BBB+' Outlook Stable

Source: Reuters - Sat 25th Oct 2014
Fitch Affirms Spain at 'BBB+' Outlook Stable

The following report on the outlook for the Spanish Economy released by Fitch's credit ratings agency on Friday :

Fitch's credit ratings agency has affirmed Spain's Long-term foreign and local currency Issuer Default Ratings (IDRs) at 'BBB+'.

The issue ratings on Spain's senior unsecured foreign and local currency bonds have also been affirmed at 'BBB+'. The Outlooks on the Long-term IDRs are Stable. The Country Ceiling has been affirmed at 'AA+' and the Short-term foreign currency IDR at 'F2'. KEY RATING DRIVERS Spain's IDRs and Outlook reflect the following key rating drivers:- The general government deficit outturn for 2014 looks likely to come in on target at 5.5% of GDP.

After a very sharp fiscal tightening in 2012-13, a pick-up in domestic demand is helping to further narrow the deficit this year and next. The 2015 budget relies more on cyclical improvements to bring down headline borrowing. Fitch expects that the 4.2% budget deficit target for 2015 will be missed slightly, by 0.3pp. The primary fiscal deficit will take two more years to eliminate, during which Spain remains sensitive to an economic slowdown. We project public debt will peak at 102% of GDP in 2016.

This projection incorporates some minor fiscal slippage and very low inflation. Fitch has again revised up its forecasts for GDP to 1.3% in 2014 and 1.7% in 2015, from 0.8% and 1.5%. At the same time, we have revised down our inflation forecast to 0% in 2014 and 0.5% in 2015, from 0.7% and 1%, leaving forecast nominal GDP roughly unaltered. All sectors of the economy are indebted and unemployment is exceptionally high. Spain's balance-of-payments adjustment within the eurozone is in its sixth year. The current account was in surplus by 1.4% of GDP in 2013, the first in nearly three decades. This turnaround reflects both a structural improvement in competitiveness and export performance as well as a deep contraction in domestic demand. Net external debt remains an outlier at 86.5% of GDP at end-2013, against a 'BBB' category median of 7% of GDP.

Over the past 3 three years, there have been significant reforms to the labour market, the pension system, fiscal framework and financial sector. While implementation of some reforms will continue, we do not expect any major new structural changes before the general elections in 4Q15.

Spain's ratings are lower than other large advanced economies', reflecting the larger risks to its creditworthiness posed by its economic and financial adjustment within the eurozone. However, key structural strengths support the ratings at the 'BBB' category, including good governance, and a high value-added, diversified economy. The banking sector restructuring has advanced well since 2012. A total of 6% of GDP of state capital has been injected since 2009. The risk of the system requiring state support of a similar magnitude over the medium term is low.

RATING SENSITIVITIES Positive:

The following risk factors may, individually or collectively, result in a positive rating action: - Sustained economic recovery leading to an improvement of the labour market, supported by the implementation of growth-enhancing reforms -Further progress in shrinking the budget deficit, consistent with the public debt ratio being placed on a firm downward path over the medium term -Improvement in Spain's external balance sheet Negative: The following risk factors may, individually or collectively, result in a negative rating action: -Lower nominal GDP growth, slower progress in shrinking the budget deficit, and/or crystallisation of contingent liabilities, leading public debt/GDP to peak higher than forecast -Reversal of Spain's economic and fiscal policy stance (eg weakening commitment to fiscal consolidation) -Current account returning to a large deficit -A constitutional crisis stemming from the breakdown in relations between the central and Catalan governments, albeit this not our base case KEY ASSUMPTIONS We project that public debt will peak in 2016 at 102% and decline gradually thereafter, assuming an effective interest rate close to current levels.

Medium-term forecasts assume some slippage relative to official budget deficit targets. The agency maintains its potential growth assumption of 1.5% in the second half of the decade. We assume any additional bank capital injections required from the Spanish sovereign will not be large.

Nonetheless, further state support for Spanish banks cannot be ruled out completely, especially if the economy underperforms our expectations. We assume no official debt relief on Spain's existing EUR39.7bn loan from the ESM. The ratings are based on the assumption that the current administration will broadly maintain its policy stance; that there will be no constitutional crisis in Spain; and that future governments will keep public debt/GDP on a gently declining path in the latter half of the decade. We assume Spain and the eurozone as a whole will avoid long-lasting deflation, such as that experienced by Japan from the 1990s.

However, Spain's competitiveness adjustment within the currency union will continue to exert downward pressure on prices over the medium term. This will make the balance-sheet adjustment of the public and private sectors more challenging. We assume the gradual progress in deepening fiscal and financial integration at the eurozone level will continue; key economic imbalances within the currency union will be slowly unwound; and eurozone governments will tighten fiscal policy over the medium term.

The rating places Spain on a par with Italy; Mexico; Peru; Thailand and Slovenia.

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