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Standard & Poor’s Ratings Services has raised its long-term sovereign credit ratings on the Republic of Estonia to ‘A’ from ‘A-‘, due to the country’s robust economic growth perspectives, the sustained strength of its public finances, and its growing prospect of joining the European Economic and Monetary Union (EMU).


At the same time, the short-term ratings on the republic were raised to ‘A-1’ from ‘A-2’. The outlook is stable.


“A track record of fiscal prudence and sustained robust growth make Estonia one of the most advanced candidates for membership of EMU,” says Standard & Poor’s credit analyst Eileen Zhang.


Despite its relatively unstable government, the sovereign has pursued predictable and prudent economic policies. The per capita income in Estonia, however, remains one of the lowest among peers, and the rating is also still constrained by the Republic’s significant external imbalances.


Thanks to broadly balanced budgets, Estonia’s general government debt burden will remain exceptionally low, at less than 5% of GDP through to 2007. Fiscal pressures relating to planned tax cuts, ongoing pensions reform, and the country’s obligations to the EU and Nato are expected to be fully absorbed without threatening the trajectory of public finances.


Owing to Estonia’s small size and rapid investment growth, the sovereign has a tendency to run persistent and high current account deficits. Although the gap is sufficiently financed by foreign direct investment and other steady financial inflows, external liquidity remains exceptionally weak.

 

The risk posed by Estonia’s significant external imbalances, however, will be gradually mitigated as the country approaches the adoption of euro.


“We assume that the general government will achieve a broadly balanced budget in the run-up to EMU membership, to underpin a gradual reduction in the current account deficit,” adds Zhang. “The ratings could rise further if Estonia’s economic growth and fiscal performance continue to outstrip its peers. If EMU membership were significantly delayed, however, or the current account deficit were to be less readily financed than has been the case until now, there would be downward pressure on the ratings,” she concludes.