Fitch: Political risk dominates Western Europe sovereign outlook
Feature Highlight
Trends in government debt-to-GDP will remain the most important driver of ratings in the region.
Political risk facing Europe in 2017 has been ratcheted up by the surge in support for populist and eurosceptic political parties across the continent, according to Fitch Ratings.
In a new report on the outlook of Western Europe, released in London on Tuesday, the rating agency also sees upcoming elections in France, Germany and the Netherlands as key risks, including Brexit negotiations, US President-elect Donald Trump, immigration pressures, terrorism threats and difficult relations with Russia and Turkey.
Fitch says it does not expect populist, eurosceptic parties to come to power in France or Italy, but such a tail risk would have severe political, economic and financial consequences across the EU. Most of the 22 Fitch-rated sovereigns in the region are on a Stable Outlook. However, four are on Negative Outlook compared with two on Positive Outlook, signalling that risks are tilted to the downside.
Trends in government debt-to-GDP will remain the most important driver of ratings in the region. Failure to reduce high debt, for example owing to fiscal loosening, could lead to negative rating actions, while declining debt ratios could lead to positive rating action.
Other key rating sensitivities, according to Fitch, are the robustness of economic growth, the heightened risk of or materialisation of political shocks, deterioration in banking sector fundamentals, and current account balances and progress in reducing high levels of external indebtedness.
Uncertainty about the path of Brexit and the process of negotiations will dominate the outlook for the UK and the EU in 2017. Fitch views Brexit as a substantial negative shock to the UK economy and public finances. It will also have a moderate impact on EU growth and increases political tail risks.
Fitch believes it is unlikely the UK will remain in the EU single market, given its apparent prioritisation of sovereignty and controlling immigration.
The rejection of constitutional reforms in the referendum on 4 December and resignation of Prime Minister Matteo Renzi have increased downside risks in Italy, for which Fitch revised the Outlook on the sovereign's 'BBB+' ratings to Negative in October. Key challenges include forming a stable government, revising the electoral law and recapitalising the banking sector, while reducing government debt-to-GDP ratio and reviving growth prospects.
Fitch forecasts eurozone GDP to grow 1.4% in 2017, down slightly from 1.6% in 2016 and 2.1% in 2015. “We expect the ECB to adjust its eligibility criteria and continue quantitative easing beyond its current March 2017 horizon,” it says. “However, rising global bond yields and political risk premiums will lead to some increase in marginal funding costs. Overall, the EU will continue to loosen fiscal policy in 2017 owing to political pressures and minimal market discipline. This will support short-term growth, but reduces scope for lowering public debt and undermines the credibility of EU fiscal rules.”
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