Serbia faces fiscal deficits, subdued growth; vulnerable to markets

Serbia’s B1 government bond rating incorporates the government's relatively high fiscal deficits and rising government debt burden, as well as the economy's uncertain growth prospects, while debt-servicing costs are vulnerable to exchange-rate fluctuations, Moody's Investors Service said in annual credit report.
The rating, which carries a stable outlook, also incorporates the institutional and economic benefits that will accrue as Serbia proceeds along the path of accession to the EU.
Moody’s said that Serbia's general government fiscal deficit increased to 6.4% of GDP in 2012 from 2.6% of GDP in 2008, while government debt has risen to 59% of GDP from 33.4% over the same period, and is expected to rise to 63% of GDP in 2013. As a large portion of total government debt is denominated in or indexed to foreign currencies, the government's debt-servicing costs are vulnerable to exchange-rate fluctuations.
Moreover, in contrast to its historical reliance on multilateral and bilateral debt, over the last few years the government has turned to the international bond market for its deficit-financing needs. Consequently, its public finances are increasingly vulnerable to international market volatility and interest-rate trends as well.
On the other hand, Moody's noted that Serbia's scores on survey indicators of governance have improved over the last few years, and compare well to those of several similarly rated peers. The rating agency also noted that Serbia's per capita income levels are relatively high compared to similarly rated peers, as are infrastructure and labour force education levels.
However, having averaged about 5% in the five years prior to the global financial crisis, GDP growth has decelerated to an average of 0.3% in the past three years, largely reflecting the effect of euro area uncertainties on trade and investment.
GDP contracted by 1.7% in 2012 and Moody's expects GDP growth to range between 1.5% -2.5% in 2013-14, which is lower than the median growth rate for similarly rated peers. Serbia's rating also incorporates macroeconomic imbalances, as reflected in wide current account deficits, high inflation and unemployment and rising external debt.
The rating outlook would improve with a material reduction in government fiscal deficits and debt levels; or, a sustainable acceleration in growth that also reduces existing macroeconomic imbalances.
Conversely, downward pressure on the rating could arise from continued high fiscal deficits and increases in government debt levels to levels beyond what the economy can sustain; or, a slowdown or disruption in the EU accession process that suggests that anticipated institutional and operating environment improvements will not occur.