ACRA has affirmed the following ratings of the Slovak Republic (hereinafter, Slovakia, or the country) under the international scale:
- Long-term foreign and local currency credit ratings at A+;
- Short-term foreign and local currency credit ratings at S1.
The outlook on the long-term foreign currency credit rating is Negative and local currency credit rating is Negative.
The Negative outlook assumes the possibility of a negative rating action within the 12 to 18-month horizon.
The Negative outlook is based on the expected material deterioration in the country’s public finance indicators as a result of the fiscal stimulus during the COVID-19 pandemic in 2020–2021. The overall impact on Slovakia’s economy will depend on the severity of subsequent waves of COVID-19 and their impact on the economic growth of the country’s main trading partners. ACRA notes that the pace of vaccination in the EU and Slovakia may impact the speed of economic recovery. ACRA continues to monitor the situation closely.
Credit rating rationale
Slovakia’s A+ sovereign credit ratings are based on a relatively wealthy economy that grew rapidly in the pre-pandemic years, moderately strong public finances, a sustainable external position, and solid institutional factors.
ACRA expects the real GDP of Slovakia to grow by 3–4% in 2021 after contracting by 5.2% in 2020. The downside risk to this scenario is still high. The baseline scenario will hinge on the effectiveness of the COVID containment measures reintroduced on March 3 (which may be tightened after March 21) and the pace of the vaccination program that began in January. Currently 6.5% of the population has received at least one dose of the vaccine (data as of March 9). If this pace is maintained, herd immunity may be formed in the first half of 2022. Up until then, the probability of periodic lockdowns and other restriction introduction will remain elevated. Nevertheless, all of ACRA’s scenarios consider 2021–2023 as years of GDP growth, which will be above potential on average.
However, in the long-run the country’s GDP growth outlook is a source of concern, primarily due to high concentration on the automotive industry (15% of output, 4% of direct employment, and 33–34% of exports). It exposes the country to industry-specific risks and risks associated with global trade tensions and ecological policies. Moreover, Slovakian carmakers may be susceptible to major changes in the industry with the larger focus on electric vehicles, self-driving cars, and car-sharing. The delayed response of Slovakia’s car manufacturers to these challenges could have a considerable negative impact on the country’s economic growth and employment in the long term, as well as the economy’s small size and considerable openness.
In addition, the country’s economic potential is constrained by the quality and quantity of the labor force. It is highly likely that the labor force will shrink due to negative demographic trends. The UN expects a 7.5% contraction in the population aged 20–74 in 2020–2035. Factors that may negatively impact the quality of the labor force are brain drain, weak education scores compared to CEE peers, and insufficient R&D spending. All this could compromise the country’s competiveness.
Slovakia’s public finances previously benefited from a favorable economic environment, Eurozone membership, and a strong debt rule. High GDP growth in the pre-pandemic years led to a decline in the general government consolidated debt to GDP ratio from 54% in 2013 to 48% at the end of 2019. ACRA expects it to reach 67–69% at the end of 2023 as a result of the stimulative fiscal policies and revenue shortfall in 2020–2022, which is the major driver of the negative outlook on the credit rating.
According to the general government budget for 2021–2023, the government of Slovakia expects the general government balance to reach -7.4% of GDP in 2021 followed by a gradual consolidation to -5.8% in 2023. ACRA notes that the expected budget deficits might be somewhat overestimated due to the slower pace of utilization of the fiscal package and underperformance of capital expenditures against the forecasts as in 2020.
Despite the higher debt burden in 2021–2022, ACRA does not expect significant deterioration of debt affordability. Slovakia is a member of a monetary union whose currency has reserve status. Moreover, the outright monetary transaction program of the ECB provides a conditional backstop for government bonds. The latter also has a positive impact on borrowing costs together with a low interest rate environment and the Pandemic Emergency Purchase Programme launched by the ECB. Although public debt is expected to grow significantly as a result of the pandemic, the growth of interest expenditures will be limited.
In the longer term, demographic trends are set to put moderate pressure on the structural balance of the government. The European Commission estimates healthcare and long-term care costs to increase by 1.8% of GDP in 2060. Moreover, recently introduced changes to the pension system are going to have a negative impact on the long-term sustainability of public finances. According to the European Commission’s Directorate-General for Economic and Financial Affairs, the S2 ratio (denoting the upfront and permanent fiscal adjustment required to stabilize the debt-to GDP ratio over an infinite period) is likely to surpass 7.5% of GDP due to the changes to the pension system, an increase in public sector wages, and the negative impact of the COVID-19 shock. This puts Slovakia among the three most challenged EU countries in this respect.
The overall contingent liability risks are contained. The level of public guarantees is traditionally one of the lowest among CEE peers. Contingent liability risks related to the banking sector were mostly mitigated by its strong capital adequacy and asset quality metrics prior to the coronavirus crisis. As estimated by the National Bank of Slovakia in its latest Financial Stability Report, the share of loans to non-financial companies at risk of insolvency in 2020–2021 is 6.4–10.4%. And in the retail loan book, 1.7% of total loans may be at risk of delinquency owing to the coronavirus crisis. In ACRA’s opinion, this is unlikely to trigger significant government support for the banking sector.
Slovakia’s external position is strong due to its euro reserve currency status, which means that the external debt is predominately denominated in the domestic currency. The net investment position is one of the lowest among the EU countries at -67% of GDP. This, however, reflects the country’s FDI-intensive growth model rather than the result of a trade deficit.
Institutional factors are above average on the scale ACRA uses to assess countries, but lower compared to countries with the same level of creditworthiness. The biggest constraint for Slovakia is its relatively low Control of Corruption score in the World Governance Indicators, which are compiled by the World Bank. In 2020, Slovakia ranked 60th (1st indicates the lowest level of corruption) in the Transparency International Corruption Perception Index for 180 countries.
Sovereign model application results
Slovakia has been assigned an A+ Indicative credit rating in accordance with the core part of ACRA’s sovereign model. A number of modifiers in the modifiers part of the model allow the Indicative credit rating to be increased. These include the following, which are determined by the Methodology for Credit Rating Assignment to Sovereign Entities under the International Scale:
- Market access and sources of funding;
- External debt sustainability.
Negative modifiers are the following:
- Potential economic growth;
- Sustainability of economic growth;
- Debt sustainability.
The Assigned A+ credit rating coincides with the Indicative credit rating as the total impact of positive modifiers is offset by the total impact of negative modifiers. There are no extraordinary factors that could adjust the Final credit rating.
Potential rating upgrade factors
- Introduction of measures to improve long-term budget sustainability;
- Material improvement in governance and perception of corruption.
Potential rating downgrade factors
- Material increase in public debt;
- Potentially serious external or industry-specific shocks and developments that may lead to volatile economic growth;
- Weakening of Eurozone integrity.
Issue ratings
No outstanding issues have been rated.
Regulatory disclosure
The sovereign credit ratings have been assigned to Slovakia under the international scale based on the Methodology for Credit Rating Assignment to Sovereign Entities under the International Scale and the Key Concepts Used by the Analytical Credit Rating Agency Within the Scope of Its Rating Activities.
The sovereign credit ratings of Slovakia were published by ACRA for the first time on October 25, 2019. The sovereign credit ratings and their outlook are expected to be revised within 182 days following the publication date of this press release as per the Calendar of planned sovereign credit rating revisions and publications.
The sovereign credit ratings are based on information from publicly available sources, as well as ACRA’s own databases. The sovereign credit ratings are unsolicited. The Government of Slovakia did not participate in the credit rating assignment.
ACRA provided no additional services to the Government of Slovakia. No conflicts of interest were discovered in the course of the sovereign credit rating assignment.
