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Rating Action:

Moody's affirms the Czech Republic's A1 sovereign rating and maintains stable outlook

19 Jul 2013

New York, July 19, 2013 -- Moody's Investors Service has today affirmed the Czech Republic's A1/(P) P-1 ratings, and maintained the stable outlook. The key drivers for the affirmation are:

1) The Czech government's significant fiscal consolidation to date and its continued commitment to the sustainability of its public finances.

2) Limited contagion from the euro area debt crisis, owing to prudent policymaking and the health of its banking system.

Concurrently, Moody's has changed the Czech Republic's ceilings for local-currency country risk, and foreign-currency bond risk, to Aa2 from Aa3.

RATINGS RATIONALE

The main driver underlying Moody's decision to affirm the Czech Republic's ratings is the sovereign's significant progress and commitment to enacting forceful measures to continue narrowing the deficit, which have been key in preserving fiscal-policy credibility and creating fiscal space ahead of a government transition. In 2012, the authorities over-complied with consolidation targets for the third consecutive year despite a very unfavourable macroeconomic environment and political tensions that have led to the collapse of the governing coalition.

The government recorded a deficit of 4.4% in 2012 following the substantial fiscal adjustment that yielded a better-than-expected general government deficit of 3.25% of GDP in 2011. However, when adjusted for one-off effects, the 2012 underlying fiscal deficit was 2.5% of GDP, reflecting the government's substantial structural consolidation despite the challenges associated with a lengthy recession. The economy contracted by 1.2% in 2012, and Moody's forecasts that economic activity will further contract by 0.3% in 2013. Nevertheless, the rating agency believes that the headline fiscal deficit will come in at close to 3% of GDP in 2013, although there is a likelihood of stop-and-go policies stemming from the political transition. Fiscal policy is likely to ease in 2013-14, but debt ratios should stabilise below 52% of GDP owing to a nascent economic recovery and the progress achieved on consolidation.

The second driver underpinning the affirmation of the Czech Republic's A1/(P) P-1 ratings and stable outlook is Moody's assessment that contagion from the euro area debt crisis has been limited. The sovereign's key credit strengths serve as effective buffers that insulate its credit profile from shocks that could otherwise undermine creditworthiness. These strengths include a very liquid and well-capitalised banking system that provides a stable funding pool to the sovereign, thereby decreasing the government's reliance on non-resident financing and providing insulation from volatility in financial markets. Prudent policymaking has also been an important factor in suppressing funding-cost increases, anchoring fiscal-policy credibility as investors continue to view the Czech sovereign as a regional "safe haven."

The Czech financial system remains healthy, with banks operating under a traditional business model that focuses on deposit-funded lending. Contagion through the financial system is therefore unlikely and reduces the probability of the crystallisation of contingent liabilities, thereby insulating the government's balance sheet from a domestic financial shock. Moreover, the authorities have introduced a new liquidity management framework in 2013 that pools public entities' excess cash into a single treasury account (STA). As a result of the STA framework, the state treasury's total liquidity has steadily increased at a stronger-than-expected pace, providing an extra cash buffer that can be tapped by the Ministry of Finance to cover unexpected financing needs and streamline liquidity management. This enhancement further highlights the authorities' conservative approach to protecting the government's finances from funding stress or financial market volatility.

WHAT COULD MOVE THE RATING UP/DOWN

Moody's would consider upgrading the sovereign's rating if there was a significant improvement in the government's balance sheet as a result of a major reduction of debt levels. The rating agency would also view positively substantial structural reforms that enhance competitiveness and boost potential growth rates.

Conversely, a sustained deterioration in fiscal-policy credibility and rising debt following a substantial easing of deficit targets would undermine creditworthiness. Moreover, a reversal of structural reforms and institutional arrangements that seek to entrench fiscal sustainability would be viewed negatively.

COUNTRY CEILINGS

Moody's has today also changed the Czech Republic local-currency country risk ceilings to Aa2 from Aa3. This is the maximum credit rating achievable in local currency for a debt issuer domiciled in the country. The rating agency has also changed the Czech Republic's foreign-currency bond country ceiling to Aa2 from Aa3, while maintaining the short-term foreign-currency bond country ceiling at P-1, the country ceiling for foreign-currency bank deposits at A1 and the short-term foreign currency bank deposit ceiling at P-1. These ceilings are constrained by the local-currency ceiling as they also capture foreign-currency transfer and convertibility risks.

METHODOLOGY USED

The principal methodology used in determining these ratings was Moody's "Sovereign Bond Ratings", published in September 2008. Please see the Credit Policy page on www.moodys.com for a copy of this methodology.

The weighting of rating factors is described in the methodology used in this rating action, if applicable.

GDP per capita (PPP basis, $): 26,426 (2012 Actual) (also known as Per Capita Income)

Real GDP growth (% change): -1.2% (2012 Actual) (also known as GDP Growth)

Inflation Rate (CPI, % change Dec/Dec): 2.4% (2012 Actual)

Gen. Gov. Financial Balance/GDP: -4.4% (2012 Actual) (also known as Fiscal Balance)

Gen. Gov. Debt/GDP: 45.9% (2012 Actual)

Current Account Balance/GDP: -2.5% (2012 Actual) (also known as External Balance)

External debt/GDP: 50.7% (2012 Actual)

Level of economic development: High level of economic resilience

Default history: No default event (on bonds and/or loans) has been recorded since 1983.

On 12 July 2013, a rating committee was called to discuss the rating of the Czech Republic, Government of. The main points raised during the discussion were: The issuer's economic fundamentals, including its economic strength, have not materially changed. The issuer's institutional strength/framework, have not materially changed. The issuer's governance and/or management, have not materially changed. The issuer's fiscal or financial strength, including its debt profile, has not materially changed. The issuer's susceptibility to event risks has not materially changed.

REGULATORY DISCLOSURES

For ratings issued on a program, series or category/class of debt, this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series or category/class of debt or pursuant to a program for which the ratings are derived exclusively from existing ratings in accordance with Moody's rating practices. For ratings issued on a support provider, this announcement provides certain regulatory disclosures in relation to the rating action on the support provider and in relation to each particular rating action for securities that derive their credit ratings from the support provider's credit rating. For provisional ratings, this announcement provides certain regulatory disclosures in relation to the provisional rating assigned, and in relation to a definitive rating that may be assigned subsequent to the final issuance of the debt, in each case where the transaction structure and terms have not changed prior to the assignment of the definitive rating in a manner that would have affected the rating. For further information please see the ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.

For any affected securities or rated entities receiving direct credit support from the primary entity(ies) of this rating action, and whose ratings may change as a result of this rating action, the associated regulatory disclosures will be those of the guarantor entity. Exceptions to this approach exist for the following disclosures, if applicable to jurisdiction: Ancillary Services, Disclosure to rated entity, Disclosure from rated entity.

Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.

Please see www.moodys.com for any updates on changes to the lead rating analyst and to the Moody's legal entity that has issued the rating.

Please see the ratings tab on the issuer/entity page on www.moodys.com for additional regulatory disclosures for each credit rating.

Jaime C. Reusche
Asst Vice President - Analyst
Sovereign Risk Group
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

Bart Jan Sebastian Oosterveld
MD - Sovereign Risk
Sovereign Risk Group
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

Releasing Office:
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

Moody's affirms the Czech Republic's A1 sovereign rating and maintains stable outlook
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