Last week, we found out that both Fitch and Moody’s left Poland’s rating unchanged. However, last year’s decision from S&P, as well as a significant increase in expected debt, caused a clear increase in costs of financing local debt. A commentary from Marcin Lipka, Cinkciarz.pl senior analyst.
One year passed since the widely discussed decision from S&P Global Ratings regarding the downgrading of Poland’s rating. It was very difficult to estimate the scale of this decision’s costs at the beginning. This is because panic reactions from investors usually clearly disturb the long-term perspective. However, we are now able to estimate the current, as well as potential, costs that Poland will pay more accurately.
One of the basic elements we should focus on are changes in the profitability of Polish bonds and their relation against German bonds.
Polish bonds are expressed in the zloty and German bonds are expressed in the euro. Therefore, it would be wrong to compare them in this context, due to many factors (changes in perspectives of Polish, as well as the European interest rates and capital flows related to the American monetary policy).
Due to the elimination of these external factors, we used Polish and German bonds, which were both denominated in the euro.
Approximately two billion in losses
In 2016, Poland’s loan demands went above 180 billion PLN and consisted of new debts (deficit of the public finance sector), as well as debt from previous years.
The average maturity of Polish debt is approximately five years. Therefore, the debt costs are indicated best by market quotations of five-year treasury bonds. In 2014 and 2015, the spread between the profitability of Polish and German bonds was at the level of 0.53%.
However, since S&P downgraded Poland’s rating, the average spread between both of these instruments has been at the level of 0.75%. This means that the costs of financing Polish debt increased by approximately 0.22%, due to Poland’s lower loan credibility. Moreover, due to the fact that Polish loan demands are at the level of 180 billion PLN, the costs of debt financing have increased by approximately 400 million per year.
However, this is only a portion of a larger concern. Approximately 90% of all Polish debt is in instruments with a constant interest. Therefore, the cost of last year’s debt will remain the same over the next four years. We need to multiply 400 million PLN by the average maturity, which gives a total of 2 billion PLN.
It would be illogical to assume that a decision from one rating agency may cause such serious losses. It’s worth noticing that Moody’s downgraded Poland’s loan credibility as well. Moreover, all of the main agencies have been focusing on dangers in the Polish economy for months.
This is mainly a result of the Polish debt perspective. According to the Ministry of Finance’s publication entitled, “The Strategy of the Debt Management in the Public Finance Sector” for the years 2016-2019 (published in September, 2015), the estimated public debt for 2019 is at the level of 1.074 trillion PLN (47.5% of the GDP). The same forecasts from 2016 were at the level of 1.122 trillion PLN (51.1% of the GDP). It’s worth noting that these negative changes occur next to a relatively rapid economic growth in the EU, as well as a positive fiscal situation of Poland’s neighbors (budget surplus in Czech Republic and Germany).
There are minor chances that the Polish fiscal policy will suddenly turn towards savings. Therefore, we may assume that investors will continue to demand higher return rates than they did before the rating changes. At the time when the entire debt’s costs will become 0.2 percentage points higher, yearly losses will reach 2 billion PLN. Moreover, they will increase up to 10 billion PLN by the time that it will be possible to purchase the debt.