Fitch Affirms Armenia at ‘B+’; Outlook Stable

KEY RATING DRIVERS

Credit score Fundamentals: Armenia’s ‘B+’ IDRs mirror sturdy per-capita earnings, governance and enterprise setting indicators relative to friends, in addition to a strong macroeconomic and financial coverage framework and credible dedication to reform, underpinned by IMF help. Set in opposition to these strengths are a excessive share of foreign-currency denominated public debt, comparatively weak exterior funds, and geopolitical dangers.

Optimistic Financial Spillovers from Ukraine Battle: The Ukraine battle and sanctions on Russia have triggered a considerable migration of Russian, Ukrainian and Belarusian residents to Armenia since March, with customer numbers rising 515% yoy in 1H22. That is additional supported by a 200% yoy improve in cash transfers from Russia to Armenia in 1H22. A big proportion of the migrants are believed to be extremely educated professionals, notably from the data and communications expertise sector. These developments helped enhance development 13% yoy in 2Q22 (1Q22: 8.7% yoy) and will present momentum in 2H22. Fitch has upped its actual GDP development projections for 2022 to six.4% as remittances enhance private consumption, and export efficiency (notably to Russia) holds up. Fitch expects development will common 4.7% in 2023-24.

Geopolitical Dangers: Armenia maintains a cautious method to managing relations with the US, UK and EU close to sanctions on Russia. Whereas authorities are dedicated to de-risking the banking sector to keep away from sanction violations, commerce relations with Russia stay sizeable. As of June 2022, Russia accounted for 31% of Armenia’s exports and 36% of imports, and an estimated 40% of FDI. Russia was the supply of 32% of cash transfers (together with remittances) earlier than the Ukraine battle began. Armenia can also be exceptionally depending on Russia for its vitality provide, and because the begin of the Ukraine battle, has began making funds for Russian pure fuel imports in roubles. There’s little signal that diversification of export markets is more likely to happen within the brief to medium time period.

Relations with Azerbaijan have worsened in current months, with navy engagement between the 2 nations in Nagorno-Karabakh in August leading to casualties on either side, and additional reported territorial positive aspects by Azerbaijan. Tensions are anticipated to stay excessive within the brief time period as Azerbaijan has begun resettling previously expelled residents of Nagorno Karabakh within the area, though Fitch doesn’t presently count on it will have broader macroeconomic implications.

Overheating Dangers: The big inflow of migrants and resultant enhance to demand added to inflationary pressures, with client worth development reaching an 11-year excessive of 10.3% in June, effectively outdoors the Central Financial institution of Armenia’s (CBA) 4% (+/- 1.5pp) goal. Property leases, pushed by rising demand from expatriates, rose by 23.4% yoy in June and can pose upside dangers to inflation. The power of the dram, which appreciated 16% in opposition to the US greenback in February-July, acts as a restraint on worth development to some extent, given the very excessive dependence on meals imports. Retail vitality worth pressures are extra restricted, on condition that Armenia has locked in pure fuel provides from Russia at 2021 costs. The CBA has raised charges by a cumulative 175bp in 2022 to 9.5% as of August, and is anticipated to scale back charges solely step by step, to eight.5% by end-2023. Whereas the inflation focusing on regime is broadly credible, the excessive stage of dollarisation (42% of banking sector deposits and 39% of loans to residents as of July 2022) impedes the transmission mechanism of financial coverage to some extent.

Decreased Exterior Liquidity Dangers: The big improve in cash transfers and different remittances, and the drawdown of the ultimate USD35 million tranche of a USD415 million IMF Stand-By Settlement Facility in 1H22 boosted FX reserves to a 20-year excessive of USD3.5 billion as of July (representing an 11.4% improve since February 2022). Nonetheless, Fitch expects the pattern to stage off within the context of traditionally massive present account deficits (CAD; annual common of 5.3% of GDP in 2012-21). Fitch initiatives the CAD to succeed in 4.8% of GDP in 2022 and common 6.2% in 2022-23 (present ‘B’ median: 4.1%). The online exterior debt ranges of Armenia, at a projected common of 46.4% in 2022-24, will stay effectively above the present ‘B’ median of 25.5%.

Strong Exterior Creditor Assist: Armenia advantages from sturdy help and technical help from a spread of multilateral and bilateral collectors. As of end-1H22, 48% of basic authorities debt was owed to official lenders. Authorities intend to depend on a pipeline of concessional borrowing to construct up money buffers in 2022-24. These embrace the World Financial institution, Asian Growth Financial institution, and the French Growth Company, which can preserve borrowing prices low and scale back liquidity dangers.

Fiscal Overperformance Possible in 2022: Tax income overperformance owing to sturdy nominal development in 1H22, in addition to capex under-execution will assist scale back the fiscal deficit from 4.6% of GDP in 2021 to three.1% in 2022 (under the pre-pandemic five-year common of three.5%). A robust dram reduces debt servicing prices and is web constructive for the funds. Fitch forecasts the fiscal deficit to additional fall to 2.6% in 2023 and a pair of.3% in 2024, outperforming the ‘B’ median of 4.4%. We anticipate that authorities will stay dedicated to returning to adherence to fiscal guidelines in 2022, following the activation of the escape clause for 2020 and 2021.

Excessive FX Debt: Publicity to change charge volatility is the important thing danger to debt dynamics within the medium time period, on condition that 64.7% of gross basic authorities debt (GGGD) was foreign-currency denominated at end-June (present ‘B’ median: 63.4%). Fitch initiatives the substantial appreciation of the dram vs the US greenback in 2022 and powerful nominal GDP development will scale back GGGD/GDP by almost 10pp to 50.5%, however that subsequent depreciation might elevate it again to round 54% in 2023-24.

ESG – Governance: Armenia has an ESG Relevance Rating (RS) of ‘5’ Political Stability and Rights, and ‘5[+]’ for the Rule of Legislation, Institutional and Regulatory High quality and Management of Corruption. These scores mirror the excessive weight that the World Financial institution Governance Indicators (WBGI) have in our proprietary Sovereign Score Mannequin. Armenia has a medium WBGI rating on the forty ninth percentile reflecting a current report of peaceable political transitions, a reasonable stage of rights for participation within the political course of, reasonable institutional capability, established rule of legislation and a reasonable stage of corruption.

RATING SENSITIVITIES

Elements that would, individually or collectively, result in destructive score motion/downgrade:

– Exterior Funds: A worsening of exterior imbalances or emergence of exterior financing pressures resulting in a pointy fall in reserves and/or an increase within the exterior curiosity burden.

– Public Funds: Fiscal deterioration that ends in financing difficulties and/or a sustained improve on the whole authorities debt/GDP over the medium time period.

– Macro: A extreme macroeconomic shock, associated to spillovers from Russia or renewed hostilities in Nagorno-Karabakh, which vastly undermines development and monetary stability.

Elements that would, individually or collectively, result in constructive score motion/improve:

– Public Funds: Improved confidence on the whole authorities debt/GDP returning to a agency downward path over the medium time period.

– Exterior Funds: A sustained enchancment in exterior indicators; for instance, a fall in web exterior debt ranges to nearer to the ‘BB’ median, supported by improved present account stability and FDI inflows.

– Structural: A marked and sturdy discount in geopolitical dangers.