London, April 14, 2022 -- Moody's Investors Service ("Moody's") has today changed the outlook on the Government of Moldova's ratings to negative from stable and affirmed the foreign- and domestic-currency long-term issuer ratings at B3.
The decision to change the outlook on Moldova's B3 ratings to negative reflects the heightened geopolitical event risks from Russia's ongoing military invasion of Ukraine (Caa2, review for downgrade) given Moldova's proximity to the military conflict, the potential for the Russian-backed separatist Transnistria region to be a source of instability, and Moldova's very significant energy dependence on Russia. While not Moody's base case, a crystallization of these political risks, including a possible expansion of the conflict to Moldova or a prolonged disruption in gas supplies, would severely weigh on Moldova's economic and fiscal prospects, which Moody's expects would not be fully offset by increased financial support from the European Union (EU, Aaa stable) and international financing institutions.
The affirmation of the B3 ratings balances Moldova's limited economic resilience with moderate government debt and the significant support to its credit profile from the provision of sizeable international financial assistance. This financial assistance helps to mitigate risks that relate to the banking sector, liquidity and Moldova's external vulnerability. The election in July 2021 of a pro-EU majority government focused on anti-corruption reforms places Moldova in a favourable position to leverage additional financial support from the International Monetary Fund (IMF) and EU to help mitigate the negative economic and fiscal spillovers from the military conflict, including the large inflow of refugees. Moldova is also better placed than some regional peers to withstand the economic effects of the military conflict, particularly given its relatively limited reliance on remittances from Russia.
Moldova's local- and foreign-currency ceilings remain unchanged at Ba3 and B2, respectively. The relatively narrow three-notch gap (Ba3 vs B3) between the local-currency ceiling and the sovereign rating reflects the elevated political risks from geopolitical tensions and volatile domestic politics, somewhat elevated external vulnerabilities and moderate predictability of government and institutions. The two-notch gap (B2 vs Ba3) between the foreign-currency ceiling and the local-currency ceiling reflects very limited capital account openness, weak policy effectiveness, and somewhat elevated external indebtedness which push the foreign-currency ceiling below the local-currency ceiling.
RATINGS RATIONALE
RATIONALE FOR THE CHANGE IN OUTLOOK TO NEGATIVE FROM STABLE
The decision to change the outlook on Moldova's B3 ratings to negative reflects the heightened geopolitical event risks from Russia's ongoing military invasion of Ukraine. While not Moody's base case, Moldova's shared border with Ukraine and the unresolved conflict with the Russian-backed separatist region of Transnistria increases the risk of the military conflict in Ukraine spilling into the country, while Moldova's high dependence on Russian gas exposes the country to disruptions amid the heightened geopolitical tensions.
In particular, Russia's invasion of Ukraine has heightened the geopolitical risks to Moldova's credit profile stemming from the unresolved regional conflict over Russian-backed Transnistria. The region declared independence in 1990, and a conflict erupted between Moldova and Transnistria in 1992. Diplomatic efforts to resolve the regional conflict had intensified in recent years, but Russia's military conflict in Ukraine has increased the risk of renewed instability in Moldova, particularly if the Transnistria region were to intensify efforts to become part of Russia. Furthermore, the region houses a small Russian military contingent which increases the risk of the military conflict in Ukraine spilling over into Moldova, although there is no information to confirm a mobilization of troops in the region according to the Moldovan Ministry of Foreign Affairs.
Nevertheless, while not Moody's base case, an outright conflict and a significant increase in instability within the country would weigh heavily on Moldova's economy and fiscal prospects. While the economic relevance of the region has fallen significantly since the Soviet regime, Transnistria plays still an important role in Moldova's energy security given that gas pipelines from Russia cross through the region and that the country's main gas-fired power plant is located there, too.
Moldova is also exposed to the risk of a sustained disruption in gas supplies from Russia during this escalation in geopolitical tensions, particularly given the recent election of a pro-EU government which positions Moldova as "non-aligned" with Russia. While not Moody's baseline scenario, the economic and fiscal impact of a sustained supply disruption would be significant given Moldova imports almost all its gas from Russia, which is used for heating as well as for producing a significant portion of the country's electricity. Moldova's tense relationship with Russia has often given rise to fractious negotiations with Gazprom, including most recently in October 2021 when Russia temporarily reduced gas supplies during protracted negotiations on an eventual new 5-year supply agreement, while Gazprom continues to claim significant unpaid energy debt.
Moldova has recently strengthened its energy security which can help the country to withstand periods of disruption. The completion of the extension of the gas pipeline to Romania (Baa3, stable) helps to diversify its gas supply and the recent synchronization of its electricity grid with the EU will allow it to import directly from Europe. Furthermore, support from the EU can help to mitigate the financial impact of purchasing more expensive energy from Europe. For example, the EU provided €60 million in October 2021 to help Moldova cope with a spike in energy costs during the protracted negotiations on a new gas supply agreement with Gazprom.
That said, Moldova's ability to fully replace Russian gas imports with these alternative sources is untested and pipeline capacity from Romania is unlikely to be sufficient to meet all of Moldova's needs in colder months. Furthermore, a wider disruption to energy supply in Europe would significantly reduce the capacity of EU countries to provide support even as Romania produces the vast majority of its own gas. Moldova is also vulnerable to any damage to pipelines arising from fighting in Ukraine because it receives most of its gas this way.
RATIONALE FOR AFFIRMING THE B3 RATINGS
The affirmation of Moldova's B3 ratings reflects its limited economic resilience, given low wealth levels and a narrow economic base, as well as weak but gradually improving institutional strength given the progress achieved under the last IMF programme to strengthen monetary and fiscal policy settings as well as the banking sector's resilience. This is balanced by a moderate government debt relative to peers comprised largely of concessional financing in foreign currency which supports Moldova's high debt affordability.
The affirmation of the B3 ratings also reflects the significant support to Moldova's credit profile from the provision of sizeable international financial assistance, which helps to mitigate banking sector, liquidity and external vulnerability risks, particularly in the absence of any international bond issuances. The election in July 2021 of a pro-EU majority government focused on anti-corruption reforms has bolstered financial and technical support from international organisations and donors, placing Moldova in a favourable position to leverage additional financial support to mitigate the negative economic and fiscal spillovers from the military conflict.
This financial support – which includes a 40-month $558 million (around 4% of 2021 GDP) economic reform programme agreed with the IMF in December 2021 and a €150 million (around 1% of 2021 GDP) macro-financial assistance programme adopted by the European Council in April 2022 – will provide a sizeable buffer to Moldova's external government debt repayment needs of around $150 million in 2022 (although domestic roll-over needs are much higher). Moldova's formal submission to join the EU following Russia's invasion of Ukraine could also help facilitate access to additional financial and technical support, even as Moody's considers EU membership to be a distant prospect.
The government has requested an augmentation to the IMF programme to help manage its increased fiscal needs following Russia's invasion and the large inflow of refugees into Moldova from Ukraine. Moody's anticipates continuous support from the EU and institutions such as the IMF as Moldova deals with the challenging situation. A recent donor conference raised around €660 million (around 5% of 2021 GDP) in aid for Moldova. Moody's forecasts the budget deficit to rise to 7.4% of GDP in 2022 given the weaker economic outlook, higher energy prices and the costs of providing basic needs and shelter to refugees. According to the United Nations, around 400,000 people have crossed the border into Moldova with an estimated 100,000 (around 4% of Moldova's population) expected to remain in the country. Given Moldova's adverse demographics, the inflow of skilled labour could help mitigate some of the negative impact of Moldova's high emigration rates and population ageing on the country's medium-term growth prospects provided these refugees choose to remain in the country and are able to integrate into the labour force.
Moldova is also relatively better placed than some regional peers to manage the economic and fiscal spillovers from the military conflict. Remittance income is an important source of financing for consumption but at around 14% of GDP in 2020 remains less important than many other Commonwealth of Independent States (CIS) countries such as Tajikistan (B3, review for downgrade) and Kyrgyz Republic (B3, review for downgrade). Furthermore, Moldova's reliance on remittances from Russia has fallen in recent years to around 14% of total in 2020 according to the National Bank of Moldova, while remittances from the EU account for around half the total.
Nevertheless, the military conflict will have a notable impact on Moldova's economic confidence, trade and investment prospects, and Moody's expects real GDP growth of 0.2% in 2022. A sustained military conflict would likely lead to a more substantial impact on economic growth although Moody's expects further significant financing and trade support from the EU and other international partners would help to mitigate liquidity pressures. Moldova's foreign exchange reserves have grown significantly since 2015, benefitting from donor support, to stand at around $4 billion (according to Moody's definition) at the end of 2021. Moldova's reserve coverage of its external debt repayments, as measured by Moody's, is stronger than many regional peers.
ENVIRONMENTAL, SOCIAL AND GOVERNANCE CONSIDERATIONS
Moldova's ESG Credit Impact Score is highly negative (CIS-4), reflecting moderate exposure to environmental risk, high exposure to social risks and very weak governance profile, the latter also explaining - along with low wealth levels - the relatively low resilience despite relatively favorable debt burden and affordability metrics.
Moldova's credit profile is moderately exposed to environmental risks, reflected in its E-3 issuer profile score. Moldova's exposure to physical climate risk is exacerbated by the importance of the agricultural sector (both in terms of economic contribution and employment) which makes the country vulnerable to climate change. Historical evidence suggests that droughts can create severe economic, fiscal and social costs. Moldova also faces environmental risks from water scarcity and weak management of natural capital.
Exposure to social risks is high (S-4 issuer profile score), and it is mainly related to unfavourable demographics, weak health outcomes and impaired access to basic services while education is not a material source of risk. Since Moldova gained independence in 1991, a significant share of the country's population has emigrated, mainly because of a lack of job opportunities and relatively higher poverty levels and the contraction in Moldova's working-age population is likely to accelerate. The shrinking population will be a major constraint on the economy as it weighs on labour input.
Moldova has a very highly negative governance profile score (G-5 issuer profile), reflecting weak rule of law and high levels of corruption but also the sovereign default track record. These aspects result in a relatively low resilience due to low institutional capacity to respond to environmental and social risks, only in part mitigated by favorable fiscal metrics.
The publication of this rating action deviates from the previously scheduled release dates in the UK sovereign calendar published on www.moodys.com. This action was prompted by Russia's ongoing invasion of Ukraine which increases the risk of the military conflict expanding to Moldova.
GDP per capita (PPP basis, US$): 12,935 (2020 Actual) (also known as Per Capita Income)
Real GDP growth (% change): -7% (2020 Actual) (also known as GDP Growth)
Inflation Rate (CPI, % change Dec/Dec): 0.9% (2020 Actual)
Gen. Gov. Financial Balance/GDP: -5.3% (2020 Actual) (also known as Fiscal Balance)
Current Account Balance/GDP: -7.7% (2020 Actual) (also known as External Balance)
External debt/GDP: 73.2
Economic resiliency: b2
Default history: At least one default event (on bonds and/or loans) has been recorded since 1983.
On 11 April 2022, a rating committee was called to discuss the rating of the Government of Moldova. The main points raised during the discussion were: The issuer's economic fundamentals, including its economic strength, have not materially changed. The issuer's institutions and governance strength, has not materially changed. The issuer's fiscal or financial strength, including its debt profile, has not materially changed. The issuer has become increasingly susceptible to event risks.
FACTORS THAT COULD LEAD TO AN UPGRADE OR DOWNGRADE OF THE RATINGS
The negative outlook suggests an upgrade is unlikely in the near term. The outlook could be changed to stable if geopolitical tensions were to abate – both within the wider region and between Moldova and Transnistria – and in turn reduce the risks to Moldova's credit profile from the military conflict. For example, an end to Russia's invasion of Ukraine or evidence that fighting will be concentrated away from Moldova's border, making it less likely that the military conflict will spill over into Moldova, would be consistent with a stable outlook, as would a further proven diversification in energy imports away from Russia. Evidence of significant and sustained provision of international financial support, helping to mitigate the economic and fiscal effects of the neighbouring military conflict and contain liquidity risks, would be a key factor supporting the stabilization in the outlook.
Moldova's ratings could be downgraded if geopolitical risks stemming from Russia's ongoing invasion of Ukraine were to crystallise. For example, if conditions in the Transnistria region were to deteriorate significantly which threatened domestic stability, or evidence of a large mobilization of Russian troops in the region which materially increased the likelihood of the military conflict spilling over into Moldova. Furthermore, a prolonged disruption in Russian gas supplies to Moldova which cannot be mitigated by technical and financial support from the EU would also be negative for the rating. Evidence of increased domestic political risk which jeopardises the large commitments of international financial support and leads to a reversal in the reform progress achieved under the previous IMF programme would also be negative for the rating.
The principal methodology used in these ratings was Sovereign Ratings Methodology published in November 2019 and available at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1158631. Alternatively, 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 further specification of Moody's key rating assumptions and sensitivity analysis, see the sections Methodology Assumptions and Sensitivity to Assumptions in the disclosure form. Moody's Rating Symbols and Definitions can be found at: https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_79004.
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Evan Wohlmann
VP-Sr Credit Officer
Sovereign Risk Group
Moody's Investors Service Ltd.
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Alejandro Olivo
MD-Sovereign/Sub Sovereign
Sovereign Risk Group
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