Poland’s sovereign rating raised

Capital Intelligence (CI), the international rating agency, today announced that it has raised the long-term foreign currency rating of the Republic of Poland to ‘A-’ from ‘BBB+’ and affirmed its short-term foreign currency rating of ‘A2’. The outlook on the ratings is stable.

The upgrade reflects improved economic fundamentals and good prospects for more durable growth, as well as the country’s comfortable external position.

The Polish economy grew by more than 6% in 2006 and 2007 and is expected to expand by a respectable 5% annually in 2008-09. Corporate profitability and performance have increased following several waves of restructuring over the past decade and surveys indicate that business and consumer confidence is currently high.

The upturn has been accompanied by a substantial decline in unemployment while inflation and the external current account deficit have so far remained at manageable levels. The export sector is competitive and reasonably diversified and benefits from steady inflows of foreign direct investment (FDI). The share of exports of goods and services in GDP has almost tripled since 1992 and has increased more-or-less annually over the past five years from 28.6% in 2002 to about 42% in 2007.

Poland’s external debt is moderate and is projected by CI to remain below 110% of current account receipts (CARs) to 2009. Although the current account deficit is expected to continue widening over the coming years, further increases are likely to be consistent with fundamentals and, as in recent years, should be largely covered by net foreign direct investment and EU capital transfers. Net external debt, which takes into account the foreign assets of the central bank and commercial banks, is a manageable 59% of CARs. The banking sector is a net external creditor while general government external debt is on a downward path.

Poland’s ratings are constrained by structural economic weaknesses and limited fiscal flexibility.

Although living standards have risen progressively over the past 15 years, the income gap between Poland and its EU peers is large. GDP per head, expressed in purchasing power standards, was the lowest of all EU member states in 2006 and was equivalent to just 51% of the EU-25 average. Poland is lagging behind in large-scale privatisations and state involvement in the economy is reasonably high compared to many other EU countries. Private sector growth is inhibited by an excessive regulatory burden, high taxes on labour, a comparatively weak legal system and poor infrastructure. The employment rate is low and labour shortages have begun to emerge despite reasonably high unemployment, which points to shortcomings in the education and training systems.

The general government budget deficit has trended downwards over recent years but is still likely to be above 3% of GDP in 2008-09 unless fiscal reform efforts are stepped up. Poland’s deficit bias is underpinned by a sizeable government payroll and social commitments, which translate into a rigid spending structure. As a result, there is insufficient fiscal space to enable the budget to be used as a counter-cyclical policy tool and buffer against economic shocks. Given the fiscal structure, the government debt to GDP ratio of 47% is reasonably close to prudential limits.