S&P downgrades Greek economy to negative

As S&P explained:

The CreditWatch placement reflects our view that some of the economic and budgetary policies advocated by the newly elected Greek government, led by the left-wing SYRIZA party, are incompatible with the policy framework agreed between the previous government and official creditors. In our opinion, if the new Greek government fails to agree with official creditors on further financial support, this would further weaken Greece's creditworthiness.

With limited access to commercial bond markets, Greece relies on official financing to meet its expected central government debt redemptions of about €17 billion this year, including €6.7 billion owed on commercial debt held by the European Central Bank (ECB) and euro area central banks under the now discontinued Securities Market Program and €8.6 billion owed to the International Monetary Fund (IMF). We understand that the technical extension of the European Financial Stability Facility's (EFSF's) Economic Adjustment Program for Greece ends on February 28, so we would expect a continuation of this extension to enable the new government to negotiate changes in some of the program's parameters with the EU, IMF, and ECB.

In Greece's case, we do not consider the general government debt-to-GDP ratio to be the sole metric for assessing the sustainability of public debt. Although general government debt to GDP was a very high 178% at year-end 2014, other features of Greece's public debt profile are less pronounced, in our view. These include its unusually long debt maturities--16.5 years for the total stock and 30 years on official bilateral and EFSF financing--and the very low effective interest rate. Including concessional interest rates, Eurosystem retroceded interest earnings, and the interest rate grace period on official debt, we estimate Greece's general government interest to GDP at year-end 2014 at less than 3% of GDP.

We regard the political uncertainty and weak GDP growth (both nominal and real GDP) as a pronounced risk to Greece's debt sustainability. Past uncertainties regarding Greece's membership in the eurozone (European Economic and Monetary Union), an uneven track record on delivering structural reforms, and short-lived government administrations appear to have weighed on confidence, and consequently investment, which has more than halved to 11% of GDP in 2014 from 24% of GDP in 2008. We therefore regard the new government's promise to attempt to raise public investment and to try to link debt sustainability metrics more closely to growth performance as potentially constructive. We also think that SYRIZA's battle against corruption and vested interests, as well as its efforts to strengthen the judiciary and improve tax collection, could weigh positively on the new government's negotiations with official creditors.

In its pre-election program, SYRIZA also envisaged, among others, an increase in the minimum wage, the elimination of the property tax, and the easing of the budget primary surplus target. In our opinion, these policy proposals are not in line with the current Memorandum of Understanding agreed between the previous Greek government and official creditors. Following the formation of the new Greek government, we expect the authorities will start talks on the terms and conditions of further financial support from official creditors. In our central scenario, we continue to assume that the negotiators will reach a consensus on the terms and conditions of additional funding, particularly in view of the strong incentives for Greece and its eurozone creditors to avoid a payment default. In our current ratings, we also factor in our assumption that private creditors will not be asked to participate in a third rescheduling of debt repayments as part of the negotiations.

Standard & Poor's sovereign ratings address the capacity and willingness of a sovereign to pay its commercial debt. A rescheduling of official debt that left commercial debt untouched would not constitute a default under our criteria but would likely signal declining creditworthiness.

If the negotiations are successful, we expect Greece's economy will continue recovering gradually, despite the current policy uncertainty caused by the early elections, which may have delayed investment decisions and prompted deposit outflows. Conversely, we think that a protracted inability to strike an agreement could damage Greece's economic recovery prospects and budgetary performance, while exacerbating risks related to the banking system's financial stability.

Lastly, we view the recent accelerated pace of deposit withdrawals from Greek banks, and the concomitant increase in ECB financing to the banks, as a credit concern. This is particularly so because access to the ECB, as a lender of last resort, will continue to be linked to the new Greek government's signing of an agreement with official creditors, including the ECB.

Source: S&P