“The cost of insuring Polish debt has fallen to levels that have not been seen for 10 years. In addition, lower than expected inflation means that bond yields have clearly been decreasing, which allows to reduce the costs of debt services,” writes Marcin Lipka, Conotoxia Senior Analyst.
Poland can increasingly cheaply service its debt and incur new financial liabilities. The yields on 5-year treasury bonds fell to 2.25%, the lowest level since October 2016. The downward trend in recent weeks is the effect of inflation being below expectations. However, the market assessment of the country's insolvency, the second factor influencing the cost of financing national economy, also plays a positive role. It is currently at the lowest level since 2008.
CDS at record low levels
There are many ways to assess the risk of a country’s insolvency. They are used, for example, by other rating agencies. In the past few years, CDS (Credit Default Swaps) contracts have also gained popularity. They give a relatively easy comparison of the probability of losing financial liquidity by a given country.
CDS is expressed in basis points and with this an attempt can be made to estimate the percentage risk of going bankrupt. Currently, the insurance of Polish debt is the cheapest since June 2008 and is around 45,000-48,000 dollars per year for every 10 million dollars of debt. This is also identical to the 45-48 points of CDS value. A year ago, these values were 20 points higher.
From simplified calculations, it would seem that the probability of Poland’s bankruptcy is about 0.5% for next year. However, even in an insolvency scenario, creditors usually manage to recover part of the borrowed capital (e.g. 40%). As a result, the risk of Poland's bankruptcy in the next year may be estimated at approximately 0.80% (45,000-48,000 USD out of the 6 million USD actually endangered). However, what is the reason for the improvement of Poland’s financial position?
External and internal factors
The frequently used saying in the market that 'high tide raises all boats' fits well with the recent decrease in CDS for most countries. The good global economic situation means that even for economic marauders (e.g. Italy), CDS has significantly decreased. Only a year ago, it was approx. 200 points, and it is now close to 100 points. Poland also benefits from fast global development, which contributes to the record low risk of bankruptcy.
However, national elements can not be underestimated. The tightening of the tax system in Poland has made it possible, at least in part, to finance higher spending for social purposes. The credit rating agencies’ concerns regarding the growing insolvency risk, which in the beginning of 2016 caused an increase in CDSs above 100 points, have not yet been realized. This is an important argument for the decline in CDS.
How the internal problems of individual countries influence CDS values is also shown by the recent situation in Russia. CDS for the Russian Federation increased from 100 to 150 points in the last month. The imposition of new US sanctions clearly increased the risk of Moscow's insolvency despite the highest oil prices since November 2014 and the lack of capital outflow from other economies in the region.
The chances of a positive scenario are increasing
The combination of low inflation expectations and growing market credibility in Poland means that this country may reduce its borrowing needs. The costs of servicing the existing debt are also decreasing. This positive feedback may help us achieve good budgetary results this year as well. If the saved funds can be used for the necessary structural reforms, then perhaps the weak Polish perspectives for GDP growth for the period after 2020 may be raised.