New York, August 24, 2017 -- Moody's Investors Service has today changed Chile's ratings outlook
to negative from stable and affirmed the long-term issuer,
debt ratings and shelf ratings at Aa3/(P)Aa3.
The decision reflects the gradual but broad-based erosion in Chile's
credit profile, which the negative outlook signals may continue.
In Moody's view, Chile's GDP growth has undergone a structural shock,
due to lower average copper prices and a decline in productivity,
from which it is unlikely to fully recover its former strength.
Lower economic growth has coincided with higher social demands that have
eroded the fiscal position and led to a persistent rise in government
debt. While Chile's institutions remain very strong,
it is less clear that existing fiscal arrangements will effectively address
the erosion that has been observed in government debt metrics.
Finally, the marked and quite rapid build-up of economy-wide
external indebtedness, particularly in private non-financial
corporations, increases external vulnerability.
The rating affirmation at Aa3 reflects our view that Chile's credit
profile retains, at least for now, important strengths,
with its scores on governance and policy effectiveness broadly in line
with peers in the Aa category and well above the average for regional
peers. Chile's government debt ratios remain lower than many
Aa rated peers, despite economic and fiscal deterioration,
and the government has significant flexibility to respond to shocks,
due to the accumulation of assets during high growth years.
Chile's country ceilings are unchanged. The long-term foreign
currency bond ceiling remains at Aa1, the long-term foreign
currency deposit ceiling at Aa3, and the long-term local
currency bond and deposit ceilings at Aa1. Chile's short-term
foreign currency ratings remain at P-1.
RATINGS RATIONALE
RATIONALE FOR THE NEGATIVE OUTLOOK
SLOWDOWN IN GDP GROWTH AND A LOWER TREND GROWTH
In Moody's view, GDP growth in Chile has undergone a structural
shock from which it is unlikely to fully recover. Growth was 4%
on average during 2008-2013 but since 2014, when copper prices
began to collapse, the economy has grown on average 2%,
investment has significantly declined, and total factor productivity
has been negative. Moody's expects growth to remain around
2% this year and next, and sees little prospect of a return
to historical growth rates thereafter.
One driver of lower growth was the decline in copper prices, which
materially affected Chile since copper represents around 8% of
the country's GDP and 46% of total exports. Prices
have declined substantially from their peak in early 2012 and although
they appear to face a rebound in 2017-18, Moody's expects
them to linger below historical levels, given the deceleration and
rebalancing of China's economy, the main user of base metals.
However, in addition to that externally-sourced shock,
Chile's ore grades are falling, which forces producers to
process more ore to produce the same quantity of refined copper,
increasing the sector's costs and negatively affecting its productivity.
Even though productivity in the non-mining sectors has increased
by around 1% of GDP, growth remains heavily dependent on
natural resources, and thus total factor productivity growth has
been slightly negative since 2010. Even though Moody's expects
total factor productivity to improve due both to a modest recovery in
the mining sector and to the government's efforts to stimulate long-term
growth in other sectors (e.g. non-financial services,
agriculture), total factor productivity will remain low due to infrastructure
bottlenecks, low human capital and an aging population.
Low business confidence and private investment have exacerbated those
twin shocks, leading to an average growth of 1.6%
in 2016-17. But even when confidence and investment improve,
it is unlikely that growth will recover to the levels of 4% to
5% seen prior to the commodities shock. Investment peaked
in 2012 at 26% of GDP, driven by the mining super-cycle.
In Moody's view, invesment is unlikely to return to those levels,
in part because of the continued negative impact of the tax, labor
and possibly upcoming pension reform in companies' profit margins,
labor costs and thus investment prospects, coupled with red tape.
Over the medium term, growth will likely be around 3%.
DETERIORATING FISCAL AND DEBT METRICS IN THE CONTEXT OF LOWER GROWTH
The slowdown in economic growth, and consequently lower government
revenues, have coincided with a higher demand for more inclusive
growth and better public goods (e.g. education, health,
pensions) by the growing middle class.
These trends have led to a shift in the fiscal position to deficit from
surplus and to a steady rise in government debt. Total revenues
shrank 1.3 percentage points of GDP on average from 2012-16
vs the 2007-11 period, despite a tax reform in 2014,
while expenditures increased by 1.7 percentage points of GDP in
the same period. Fiscal spending has been channeled mostly to education,
health services and infrastructure.
While the debt position remains very strong, it has eroded markedly
and persistently in recent years. Debt to GDP ratio has increased
17 percentage points of GDP, albeit from very low levels,
in the last seven years and the interest payments to revenue has doubled
in the same period, again from a very low level. Moody's
expects these trends to continue, with debt to GDP reaching 25.2%
this year and close to 28% in 2018, and shy of 30%
by 2020. What was once a standout feature which offset weaker aspects
of Chile's credit profile is becoming less marked. The negative
outlook partly reflects Moody's view, as the debt position
continues to erode, that weaker aspects of Chile's credit
profile -- low GDP per capita relative to Aa-peers,
lower growth, higher external exposure -- will assume a greater
significance.
USE OF THE STRUCTURAL BUDGET RULE UNDERMINES CONFIDENCE THAT CHILE'S
VERY STRONG FISCAL POSITION WILL BE PRESERVED
To date, Chile's very high fiscal strength, and Moody's
high confidence that the government would take the necessary steps to
preserve that strength, have been an important support to the Aa3
rating. However, that confidence has waned in recent years,
in part because of the government's application of Chile's
structural budget rule.
The structural budget rule is a mechanism to reduce volatility in economic
growth by encouraging counter-cyclical fiscal policy. The
government estimates a structural budget balance based on a calculated
potential GDP growth rate and on the medium-term (10 years) price
of copper, parameters that are estimated by an independent panel
of experts. The rule seeks to balance structural revenues with
structural expenditures, disregarding the impact on the actual fiscal
position or the overall level of debt. The difference between structural
and actual revenues determines if there is a need for fiscal adjustment,
but the Minister of Finance determines the pace.
The implementation of the structural budget rule was very effective in
achieving fiscal surpluses, and accumulating government assets,
during periods of high growth. But with the economy having grown
below potential since 2013, adherence to the rule has encouraged
the continuous deterioration of fiscal and debt indicators, which
has eroded the sovereign's fiscal position. Given our expectation
of tepid growth, we expect application of the rule to continue to
cause fiscal and debt metrics to deteriorate.
HIGHER EXTERNAL VULNERABILITY RISK DUE TO AN INCREASE IN CORPORATES'
EXTERNAL DEBT
In parallel with these developments, Chile has experienced a marked
build up in economy-wide external indebtedness. External
debt levels have been rising since 2011, and grew to 64%
of GDP in the first quarter of 2017, from 39.6% of
GDP in 2011. The majority of gross external debt is private,
owed by non-financial corporations (NFCs). More than half
of NFC debt is denominated in foreign currency. Even if principally
seen in the NFC sector (public sector external debt is less than 5%
of GDP), the build-up in external exposure has broader implications
since there are significant balance sheet linkages between NFCs,
banks, insurers, pension funds and households.
A rapid build-up in external debt raises potential risks associated
with global financial conditions and/or a sudden reversal of capital inflows.
Even though the impact of a potentially adverse scenario is mitigated
by several factors, including that a significant share of external
debt is FDI-related and that Chilean firms use derivatives to hedge
their exposures, the rising trend of external indebtedness in the
country is moderately increasing external vulnerability risk.
RATIONALE FOR RATING AFFIRMATION AT Aa3
The rating affirmation at Aa3 reflects our view that Chile's credit
profile retains, at least for now, important strengths.
Institutional strength related to scores on governance and policy effectiveness
remains broadly in line with peers in the Aa category and well above the
average for regional peers. Debt is rising to 25% of GDP
this year but metrics remain lower than peers, with the debt to
GDP ratio of the Aa-median at 30% of GDP in 2016.
Even though GDP growth is significantly lower than in the past,
it remains in line with peers in its Aa2-A1 rating range,
which averaged 2.4% in 2014-16.
In addition, the sovereign's accumulation of assets during high
growth years provide the country with significant flexibility to respond
to shocks. Government financial assets are close to 20%
of GDP and approximately half of these (10% of GDP) are held in
two sovereign wealth funds (SWFs), with 6% of GDP exclusively
reserved for covering fiscal deficits or pay back public debt.
The other 10% of GDP of financial assets outside the sovereign
wealth funds are comprised of various funds of different public ministries
and state-owned enterprises. Even though Chile is no longer
a net creditor since 2016, it retains significant flexibility with
net debt at only 1% of GDP. Very low financing costs,
ample access to funding and a reliable domestic investor base also support
the rating.
Moreover, upcoming presidential elections open the possibility that
the next administration will implement a more forceful policy response
to the economic and fiscal deterioration and could play a pivotal role
in economic expectations. A new administration could lead to a
faster paced fiscal adjustment than the one in place, with the possibility
of stabilizing the debt trend in the rating horizon, which is not
the base case at this time. Moreover, if the new administration
is perceived as market friendly, this could prompt an improvement
in business confidence sufficient to spur new investment and lead to a
faster-than-expected recovery in GDP growth, possibly
surpassing the new potential rate of 3%.
WHAT COULD MOVE THE RATING DOWN
The evolution of Chile's credit profile will be heavily influenced
by the actions policymakers take to address the combination of slowing
growth and rising public and external debt. Moody's would
likely downgrade Chile's rating should the rating agency conclude
that the policy response would be unlikely to arrest the continued rise
in the debt burden over the medium term, and to sustain growth levels
in line with Chile's potential growth rate of 3%.
WHAT COULD MOVE THE RATING UP
Given the negative outlook, an upgrade is unlikely at this time.
The rating would be stabilized at the current level should Moody's
conclude that the policy response is likely to be effective in addressing
those challenges. The reversal could be led by a faster paced fiscal
adjustment than the one currently in place, which Moody's
concludes will stabilize the debt burden over the next 2-3 years
with only limited increases over that period; and/or by the convergence
of actual GDP growth to Chile's potential, or even an increase
in potential economic growth that signals an improvement in total factor
productivity and/or a resumption in income convergence with the Aa-median.
GDP per capita (PPP basis, US$): 24,113 (2016
Actual) (also known as Per Capita Income)
Real GDP growth (% change): 1.6% (2016 Actual)
(also known as GDP Growth)
Inflation Rate (CPI, % change Dec/Dec): 2.7%
(2016 Actual)
Gen. Gov. Financial Balance/GDP: -2.7%
(2016 Actual) (also known as Fiscal Balance)
Current Account Balance/GDP: -1.4% (2016 Actual)
(also known as External Balance)
External debt/GDP: 66.3% (2016 Actual)
Level of economic development: Very High level of economic resilience
Default history: No default events (on bonds or loans) have been
recorded since 1983.
On 23 August 2017, a rating committee was called to discuss the
rating of the Chile, Government of. The main points raised
during the discussion were: The issuer's economic fundamentals,
including its economic strength, have materially decreased.
The issuer's governance and/or management, have materially decreased.
The issuer's fiscal or financial strength, including its debt profile,
has materially decreased. The issuer has become increasingly susceptible
to event risks.
The principal methodology used in these ratings was Sovereign Bond Ratings
published in December 2016. Please see the Rating Methodologies
page on www.moodys.com for a copy of this methodology.
The weighting of all rating factors is described in the methodology used
in this credit rating action, if applicable.
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 credit rating action on the support provider and in relation to
each particular credit 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 credit rating action,
and whose ratings may change as a result of this credit 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.
Ariane Ortiz-Bollin
Asst Vice President - Analyst
Sovereign Risk Group
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653
Atsi Sheth
MD - Sovereign Risk
Sovereign Risk Group
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653
Releasing Office:
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653
