Greece’s credit profile is supported by the substantial debt relief granted by the country’s euro area creditors in June, Moody’s Investors Service said in an annual report released on Thursday.
The report said that the debt relief package ensures that Greece’s debt-service obligations will be very manageable over the next 10 years, supporting the government’s return to private capital market funding after a decade of reliance on official-sector financial support.
“The debt relief package is a significant benchmark in Greece’s recovery from its deep economic, fiscal and financial crisis,” said Kathrin Muehlbronner, a Moody’s Senior Vice President and author of the report. “It reflects both the significant progress achieved by the Greek authorities in correcting the causes of the crisis and the strong and continuing support from Greece’s euro area creditors.”
As part of the debt relief, Greece will remain under the close supervision of its euro area creditors, a credit positive in Moody’s view as it should ensure that the Greek authorities remain on a reform path.
The Greek government has made major progress in the fiscal area. It achieved large primary surpluses of around 4% of GDP over the past two years, and has committed to a primary surplus of 3.5% of GDP for the next five years, which should be broadly achievable.
Tax collection has been improved and spending reduced on a structural basis. Progress has also been made to bring Greece’s previously weak and politicised institutions in line with European standards. The Greek authorities have legislated measures to strengthen the key institutions’ effectiveness and operational independence. This gives some confidence that the risk of reform reversal has declined.
In Moody’s base case scenario, Greece’s very high debt burden — at nearly 180% of GDP one of the highest in Moody’s sovereign rating universe — will start to decline from 2019 onwards, but will remain very high for decades to come. The combination of very long debt maturities and low interest rates mitigate the risks from such a high debt level, but Greece might well require further debt relief in the early 2030s, as acknowledged by the euro area.
Greece also needs stronger investment to sustain economic growth over the medium term. Compared to other euro area countries emerging from recession and crisis, Greece’s investment performance has been very weak, with capital formation standing at just 40% of its pre-crisis level.
While the government has committed to reduce the high corporate tax rate and more generally work towards creating a more business-friendly environment, it remains to be seen how quickly such changes will bear fruit. In Moody’s base case, economic growth prospects will remain moderate, with real GDP growth of 2% forecast for this year and next.
The banking sector remains a key vulnerability, despite recent improvements. On a stand-alone basis the systemic banks remain weak, with poor asset quality, low profitability and a large share of lower-quality capital in the form of deferred tax assets. Banks will have to significantly accelerate the disposal of non-performing assets on their balance sheets in order to achieve the targets agreed by the end of next year.
Greece’s sovereign credit rating could be upgraded if the government’s good record of implementing reforms is maintained beyond the end of the adjustment programme. This in turn could result in stronger-than-expected and sustained economic growth and a more rapid reduction in the public debt ratio. Faster-than-expected improvements in the banking sector’s health would also be positive.
Downward pressure on the rating could develop if the Greek government were to deviate from its commitments and reverse reforms, or if tension with official creditors re-emerged. This would jeopardize the euro area’s support for the country.