Why will the raising of long-term credit rating of Ukraine from Caa3 to Caa2 by the Moody’s agency have little impact on the cost of credit resources for our country.
The Moody’s credit agency raised the long-term credit rating of Ukraine from Caa3 to Caa2. In addition, the rating outlook was improved from the “stable” to “positive” one. The improved rating and outlook are explained by reforms and accumulated foreign reserves. However, the agency’s decision will have little impact on the cost of credit resources for Ukraine.
First, the new rating recorded a cumulative effect of structural reforms. The reforms in the following areas are mentioned as the most urgent ones: the natural gas market (raising tariffs allowed to get rid of the quasi-fiscal deficit of Naftogaz), public procurements, taxation (simplified procedures and automated VAT refunds).
The agency has been assessing the cumulative effect for one year and 9 months – the previous rating activity was carried out on November 19, 2015. If reforms continue, it will further improve the financial position of the state. In particular, Moody’s stresses the importance of the pension reform to reduce another quasi-fiscal deficit. It is expected that if appropriate initiatives are implemented, the Pension Fund deficit will be halved to 3% of GDP for a decade.
Secondly, the significant improvement in the external position also had a certain impact. At the time of the start of the IMF program in early 2015, foreign exchange reserves amounted to less than $5 billion. The external vulnerability indicator (EVI, the ratio of external public debt to reserves) was almost 700%. Now the amount of reserves is three times more – $15 billion, and the EVI has fallen to 200-250%. This is still a lot, but much better than it was.
Reserves were increased mainly due to new loans, mainly from the IMF. That is, we will also have to recover this money.
Prospects for further improvement of the rating are limited by the fact that in 2019-2021, Ukraine will have to pay large sums of external debt. These payments require the external financing in larger volumes than it is expected from official lenders like the IMF. Moreover, the risks include the possible escalation of the conflict in the East and the presidential and parliamentary elections in 2019.
At the same time, even after this improvement, the Moody’s rating is below Standard & Poor’s and Fitch ratings by 2 points. Therefore, the rating improvement is, in principle, a good news as some investors use the risk assessment at the lowest indicator among three major rating agencies. Moreover, a positive outlook means the possibility of further raising in several months. Probably, even by these two points at once – there were such and even more radical rating actions, including in the relations between Moody’s and Ukraine.
To tell the truth, this may be not enough, since this rating is still in the category of “significant risks”, while the ratings of competitors are already included in the higher category of “highly speculative rating”. The current rating from other agencies means that the risk premium of Ukrainian foreign bonds will be about 8%, the rating from Moody’s – 10%. That is, if someone considers only the worst rating, this small increase will not do anything.
By the way, the secondary market of Ukrainian Eurobonds did not essentially react to the change of this rating. As of 19:00 on August 28, prices for different bonds changed mixed compared with the previous trading day. Both the decline to 0.172% and the growth to 0.168% were recorded. Moreover, declines and growths were evenly distributed throughout the spectrum of securities regardless maturity dates. Let’s recall that bonds with maturity from 2019 to 2040 are currently traded on the market.
In addition, keep in mind that staying in the current category, in principle, does not allow having conservative investors such as pension funds among purchasers. But this requires an investment level (from BBB- or Baa3) that Ukraine has never had. By the way, only Russia and Kazakhstan can boast this level among the CIS countries.
Therefore, the government still has a lot of work to do in the future. As the first step, we would like to return to the level we had in 2005-2008 – BB-/B1 (this is three levels higher than now). And then we need to work to achieve the investment category.