Global sovereign outlook is negative due to persistent low growth, fiscal concerns and political risks

The outlook for sovereign ratings globally for the coming 12 to 18 months is negative, Moody's Investors Service said in its annual Global Sovereign Outlook. That outlook reflects Moody's assessment of the direction of fundamental credit conditions for sovereigns over the coming year.

The key drivers of the negative outlook are a combination of continued low growth, a shift towards fiscal stimulus that will increase already high public sector debt, and rising political and geopolitical risks. Many emerging markets remain exposed to the risk of a reversal in capital flows.

That broad outlook is reflected in Moody's ratings. 26% of Moody's 134 rated sovereigns currently carry a negative outlook, compared to 17% a year ago, the largest proportion since late 2012. The share of sovereigns with a stable outlook has fallen to 65% from 75% last year, while 9% have a positive outlook, similar to last year with 8%.

 

"One of the key credit constraints for most rated sovereigns is the persistently low growth environment," said Alastair Wilson, Moody's Managing Director -- Sovereign Risk. "Monetary policy's ability to support growth in advanced economies is diminishing, and in many emerging markets it is constrained by above-target inflation and exchange-rate pressures. So we are seeing a gradual but broad-based shift in policy towards loosening fiscal policy in order to lift growth".

Fiscal stimulus, for example in the form of higher public investment funded by historically cheap debt, can support growth in the near-term and also have positive longer-term effects if investment raises productivity growth.

However, a shift towards looser fiscal policy carries risks for the creditworthiness of many sovereigns, given generally already elevated debt levels. Any increase in debt to finance current spending that has little lasting benefit to economic growth prospects would be negative.

Political dynamics complicate the outlook for many sovereigns. There are increasing risks of policy inertia and reversal, including of policies that have brought large benefits to the global economy, such as those that expanded global trade. Geopolitical risks are rising in many regions as well.

Country- and region-specific risks include the uncertain impact of the US (Aaa stable) election outcome on the US's medium-term fiscal strength, and of its future trade and security policies on the rest of the world.

In Europe, Moody's notes the lack of cohesion and risk of further 'fragmentation' following, among other things, the vote of the UK (Aa1 negative) to leave the EU.

Many commodity-exporting countries have to adjust their growth expectations and public finances to less favourable external conditions.

A fourth risk factor is, as it was last year, the possibility of a significant and sustained reversal of global capital flows away from emerging market economies with a high dependence on foreign capital. Elevated volatility in financial markets and sharp movements in exchange rates could exacerbate already weak economic fundamentals and existing political risks, in particular in countries dependent on external capital inflows.

Some countries, including commodity exporters in Sub-Saharan Africa, already face significant liquidity pressures. The implications of the US election outcome for the direction of global capital flows are hard to predict at this stage.

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