Standard & Poor’s Ratings Services has revised its foreign currency outlook on the Republic of Lithuania to positive from stable. At the same time, all the ratings on Lithuania were affirmed, including the ‘BBB+/A-2’ foreign currency and ‘A-/Stable/A-2’ local currency sovereign credit ratings. The local currency outlook on Lithuania remains stable.
The outlook revision reflects the expectation that Lithuania ‘s debt burden will remain low and stable, underpinned by robust economic growth prospects.
“In addition, Lithuania is expected to join EMU by 2007 or 2008 at the latest,” says Standard & Poor’s credit analyst Moritz Kraemer. “This will minimise the potential negative impact of balance-of-payments pressures and the country’s external debt position.”
On the fiscal front, EU accession in 2004, and a pension reform planned for the same year, will bring additional spending pressures. The general government deficit is expected to rise to 3.0% in 2004, from 2.1% this year. The deficit should decline again to about 2% of GDP by 2006, however. General government debt will remain low, reaching 25% of GDP (excluding guarantees) in 2005.
On the back of structural reforms, robust and sustainable economic growth of 5-6% is expected over the medium term, which will support fiscal consolidation. Private sector-driven economic growth will gradually raise Lithuania ‘s still low wealth levels, with GDP per capita forecast at US$5,575 in 2004.
Lithuania ‘s export performance and competitiveness have remained buoyant throughout the global downturn. As a result, external imbalances have remained under control and current account deficits will remain in the range of 5-6% of GDP. A substantial proportion of this will remain covered by foreign direct investment.
The gross external financial gap remains high, however, at an estimated 122% of total reserves in both 2003 and 2004, from 155% in 2001. Moreover, Lithuania ‘s currency board limits flexibility in addressing balance-of-payments pressures, as the majority of reserves back up the monetary base.
EMU accession, which could occur as early as 2007, will shield Lithuania from most of the risks associated with its weak external asset and liquidity positions. Entering the European Exchange Rate Mechanism (ERM II) upon EU accession will be an important step putting Lithuania firmly on track toward EMU. In the run-up to EMU, the foreign and local currency ratings on the sovereign will converge.
“A successful continuation of stability-oriented macroeconomic policies, combined with sustained real economic convergence with higher-rated sovereigns, would support an improvement in the country’s credit standing,” says Kraemer. “Conversely, significant policy slippage could undermine Lithuania ‘s growth prospects and jeopardise early EMU entry, thereby exerting downward pressure on the ratings.”