Moody's Investors Service has raised Bulgaria's country ceiling for foreign-currency bonds to Ba1 from Ba2 as the country continues to benefit from policies that conform to prospective membership in the European Union (EU). The country ceiling for foreign-currency bank deposits was changed to Ba1 from Ba3 and the government's ratings for foreign- and domestic-currency bonds have also been raised to Ba1. The outlook on all the ratings is positive.
Bulgaria's likely EU membership provides both the framework and incentives for the government to continue along the path of reform while reducing policy variability, says Moody's. The EU accession treaty is expected to be signed in 2005, with EU entry slated for 2007. EU membership also furnishes support for sustaining the growth momentum now underway and for further improvement in the government's debt and debt-service burden.
Deepening trade, financial and institutional integration with Europe should also bolster Bulgaria's ability to withstand potentially destabilizing capital flows, says Moody's. According to the rating agency, the upgrade balances the benefits of EU accession against the possible risk of overheating that could lead to a costly adjustment because of Bulgaria's currency board monetary arrangement.
Moody's believes that Bulgaria's currency board provides a framework for stability and growth, but the rigidity of the system also means that the large government debt, most of which is denominated in foreign currency, poses serious policy constraints in the event of adverse economic developments or changing investor sentiment.
The possibility of overheating is the result of a rapid pace of domestic credit expansion that is placing pressure on prices and imports. The authorities have redoubled their efforts to contain excess demand growth by reining in government spending more vigorously, steadily introducing measures to contain domestic liquidity expansion, and accelerating the pace of privatization and reform of the all-important energy sector. The main policy challenge is to continue this stance especially in light of national elections scheduled for next year.