Dagong Global Credit Rating Co., Ltd. (hereinafter referred to as “Dagong”) has rated the debt repayment capabilities of the central governments of the following five countries: Ireland, Finland, Uruguay, Kenya and Sudan based on Dagong Sovereign Credit Rating Standard, and it officially launches the sovereign credit ratings on these countries on December 6, 2010. 

I. Credit Rating Results and a Brief Analysis

The geographical distribution of the 5 rated countries is: 2 European countries, namely Finland and Ireland; 2 African countries, namely Kenya and Sudan; and 1 South American country, namely Uruguay.

In terms of overall credit level, among the 5 countries rated this time, 2 of them have above the investment grade (BBB- and above) of both the local currency and foreign currency credit rating; and 3 countries have the speculative grade (BB+ and below). The credit rating grades of the local currency and foreign currency are identical for the 5 countries. See table 1 for grade details.

Table 1  The credit ratings of 5 countries

Dagong gives a brief analysis on the sovereign credit risks of the 5 countries citing the local currency as an example. In view that the recent sovereign debt crisis in Ireland has aroused investors’ extensive attention, the analysis is focused on the sovereign credit risks of Ireland. 

1. The country with AAA local currency rating

The country with AAA local currency rating is Finland. Finland takes on excellent comprehensive performance in the three basic elements of governmental management capability, economic strength and financial strength. Although the government had a small budget deficit after the global financial crisis, which increased its debt burden, yet the risk is under control. In addition, the government possesses a large amount of net assets and has a strong financing capability in financial market. Thus, its sovereign credit level is still among the highest rank in Dagong’s sovereign credit ratings. However, due to the problem in its economic structure, Finland has been severely affected by the financial crisis and the economic recovery is slow, posing not-very-optimistic prospects for its future economic growth. Therefore, a negative outlook is given.  

2. The country with BBB local currency rating

The country with BBB local currency rating is Ireland. The rating result reflects Dagong’s comprehensive consideration of the rapid increasing debt burden of the Irish government and the basic elements affecting debt repayment risks such as governmental management capability, economic strength, financial strength and fiscal strength.

After Ireland joined the Euro zone the real estate sector and international financial services sector experienced a rapid boom in the context of continuous low interest rate, and they became the major driver for economic growth as a substitute for export. Affected by the global financial crisis international hot money began to withdraw after 2007, resulting in the fall of real estate prices and increase in bad debts, consequently hitting the domestic consumption and investment, with the economy falling into deep recession. In order to rescue the banking sector, the Irish government injected a large amount of capital into several banks led by Anglo Irish Bank and non-banking financial institutions, leading to a sudden increase in temporary deficit; combined with the large structural deficit attributable to the sharp reduction in tax, it is predicted that the debt burden of the Irish government will be pushed to the high level of 96.9% of GDP by the end of 2010.

The relief measures adopted by the EU and IMF saved the Irish government from falling into the crisis of unsustainable fiscal revenues; however, Ireland will still undergo a painful adjustment period in the medium term, and the high risk status in debt repayment capability will continue to exist. The key reasons are as follows: First, it is difficult for the current export-driven economic recovery to effectively absorb the unemployed population; the falling consumption and investment attributable to the deleveraging process by residents, corporations and the government will last for a considerable period of time; economic restructuring is needed to resolve the high structural unemployment; but the drastic reduction in investment greatly prolongs the time of adjustment. Second, the continued decline of the real estate prices indicates that the risks in the banking sector have not been fully exposed; the bailout plans of the government, EU and IMF are conducive to enhancing the capability of the banking sector to withstand future risks; however, it is likely for the banking sector to require more capital supplement and rely on the European Central Bank and the government bailout to maintain its operation since it will be very difficult to obviously change the situation of lower real estate prices and higher unemployment rate before the new economic structure and driver for economic growth that is able to increase the employment appear. Third, although the government has adopted fiscal austerity since mid 2008 and declared the detailed medium-term fiscal adjustment plan recently, yet Ireland is confronted with a very arduous task of financial adjustment. Dagong predicts that the debt level of the Irish government will not be relatively stable until it is raised to about 110% in the medium term.

Although both Ireland and Greece (BB rating and stable outlook) have to seek multilateral bailout, because they barely have the ability to finance from the market, Dagong assigns a higher investment grade to Ireland compared with Greece on the grounds that the well-developed manufacturing industry and sound educational scientific research system play a significantly positive role in promoting economic recovery in Ireland, in addition to the buffer mechanism provided by over 20 billion Euros government floating assets to ease the financing difficulty. However, the strikes to the market by speculators increase the sovereign risks in the whole Euro zone, pushing Ireland to ask for multilateral assistance earlier.

The shortage of international currency liquidity arose from the eruption of the 2007 U.S. financial crisis directly shook the fragile national economic foundation in Ireland, threatening the endangered private credit relations. Nevertheless, national default is impossible in Ireland in a short term. The United States has initiated quantitative easing monetary policy since November, 2010, which significantly strengthened the speculative power of U.S. dollar. This measure, principally targeting at Ireland’s national bonds, put the fragile national credit relation of Ireland close to an unsustainable situation. Therefore, Ireland may have sovereign debt crisis, internally because of imbalance of the national economic development and increasingly accumulated credit risk elements, and externally because of the damage of additional issuance of U.S. dollar in a large amount to the creditor-debtor relationship in Ireland. At present and for a long time in the future, the fluctuation of U.S. dollar, the leading currency in the world, is still the most important factor that affects the global macro economy. Dagong believes the a comparatively stable external economic environment is necessary as good development of creditor-debtor relationship can only be gradually realized by effective measures for growing economy and cutting debts for the highly-indebted countries in Euro zone. However, while U.S. QE policy releases and speculative influence of U.S. dollar changes the expectation of depreciation of U.S. dollar and appreciation of Euro, the public may dump Euro, hold more U.S. dollar that results in depreciation of Euro. This will directly ruin the credit relation already at stake in European countries and increase the risks of sovereign crisis in Euro zone. Ireland, the country with substantial conflict of creditor and debtor, might be the first to have national crisis attributable to the influence of U.S. dollar.

Dagong notices that the European bailout plan has entered the preliminary stage of complete implementation. The European Financial Stability Facility will be initiated in a short time to provide liquidity support for the countries with debt crisis by financing. On December 2, the European central bank confirmed a securities market project to purchase national bonds of Ireland and Portugal, a sign of start of competition between European central bank and the dumping activity of the market. It is predicted that with the continuous debt crisis in Euro zone, the European central bank will further absorb the national bonds of the countries in the periphery of Euro zone, in an effort to reduce the financing cost through market in certain countries and maintain the sustainability of such financing channel. Dagong will continuously focus on the relative measures by European Union to see whether those measures can essentially change the unfavorable government financing prospect for the countries in crisis, and will make appropriate adjustment on the ratings, if necessary, based on observing development trend of debt risks in different countries.

3. The country with BB rating on local currency

The local currency sovereign rating for Uruguay is BB+, reflecting that on one side, Uruguay has significantly improved the operation framework of the domestic macro economy by the economic system reform in recent years to reduce the fragility of economic and financial system, especially to upgrade the ability to withstand economic strike from some areas such as Argentina, contributing to the rapid economic growth and strong management ability of the government. Meanwhile, the government fiscal deficits are gradually reduced and the debts significantly decline. On the other side, the high inflation and low investment scale restrict the medium-term economic growth potential in Uruguay, and the large debts of public sectors also affect its rating level.

 4. The country with B rating on local currency

The local currency sovereign rating for Kenya is B as restricted by domestic uncertain factors. It is uncertain whether the national development strategy in Kenya can be successfully implemented, and the imbalance of economic development exists for a long time to restrict the further economic growth. The financial development is relatively backward in Kenya, insufficient to support the real economy. While the fiscal stimulus policy continues, the fiscal deficit and debt scale remain slow growing in the coming few years.

 5. The country with C rating on local currency

The local currency sovereign rating for Sudan is C based on the comprehensive consideration of its intense political situation, less developed economy and finance, heavy government debt burden and weak foreign reserves.

II Comparison with Moody’s, Standard and Poor’s and Fitch

Compared to the three U.S. credit rating agencies, Dagong assigns distinct rating level on Ireland, and almost the same rating levels on local currency of the rest four countries, as shown in table 2:

Table 2  Difference Between Local Currency Sovereign Ratings by Dagong and Three U.S. Credit Rating Agencies

The accumulation of sovereign credit risks in Ireland has been through a long-standing process. After access to the Euro zone, Ireland continuously obtains low interest financing facility to develop its international financial services industry, which resulted in excess international hot money in Ireland, expansion of external debts, soar of prices in real estate market manipulated by both international and domestic capital and large risk exposure of banking industry in land and property development sectors. The three U.S. rating agencies have always given Ireland AAA rating, the highest level during that period. The property prices have started to drop in Ireland since Q4 2006, while the economy has entered recession since Q1 2008. However, the three U.S. rating agencies did not adjust the ratings on Ireland until 2009. By now, the government of Ireland basically has no capacity to finance from the international market, its rating still remains A or above according to the three U.S. rating agencies. Dagong believes such rating result could not reflect the actual credit status in Ireland due to its lagged adjustment.