Fitch affirms Ukraine at `CCC`

Fitch Ratings has affirmed Ukraine`s Long-Term Foreign and Local Currency Issuer Default Ratings (IDRs) at `CCC`, the agency reported on its website.
The issue ratings on Ukraine`s senior unsecured foreign and local currency bonds have also been affirmed at `CCC`, the agency said in its statement.
The Country Ceiling has been affirmed at `CCC` and the Short-term foreign-currency IDR at `C`.
”The affirmation of the ratings reflects a lack of progress on the reform programme needed to unlock donor support, which has been exacerbated by political wrangling,” the statement reads.
Fitch says it expects the new government to move ahead with the reforms required to secure the delayed IMF tranche ($1.7 billion), now likely in early Q3 of 2016. However, given the coalition`s narrow majority as well as weak party discipline within President Poroshenko`s party, Fitch expects progress on further reforms to be piecemeal with continued delays in IMF financing highly probable.
Delays in securing IMF and donor disbursements highlight the vulnerability of Ukraine`s external position, as international reserves fell to $12.7 billion, or 2.9 months of current external payments in March, from $13.4 billion at December 2015.
Fitch expects international reserves to rise to $17.7 billion end-2016, assuming that most disbursements ($8 billion in total, of which $5.2 billion is IMF disbursements) go ahead as planned.
”Failure to secure all planned disbursements would not undermine Ukraine`s capacity to meet its external debt repayment obligations over the rating horizon, but would exert continued downward pressure on the hryvnia and jeopardize the recovery,” Fitch stressed.
Capital controls remain in place to curb foreign exchange demand but will be progressively lifted, according to Fitch.
The IMF`s decision to lend to countries in arrears to official sector creditors removed a potential stumbling block that could have prevented further IMF support, as noted in the statement.
As known, Ukraine had failed to repay a disputed $3 billion Russian-owned eurobond in December 2015. Although the status of this obligation is as yet unresolved it should not impact the future IMF disbursements under the program, Fitch said.
Fitch expects the current account deficit to widen to 3% of GDP in 2016, from 0.2% in 2015, as exports contract a further 11% following the suspension of the free-trade agreement with Russia, while imports contract more modestly as the economy begins to recover.
A combination of expenditure restraint and higher revenue saw the consolidated budget deficit narrow to 1.6% of GDP in 2015 against a target of 3.7%. Lower gas prices, combined with higher tariffs resulted in the government spending less to subsidize Naftogaz, the state-owned oil and gas company. As a result, the consolidated budget deficit (including Naftogaz) fell to 2.6% of GDP (IMF target: 7.3%), down from a five-year average of 6.8% of GDP and below the peer median of 4.3%. The decision to cut employers` social security contribution by half as well as cancel import surcharges, with no offsetting expenditure cuts, will make achieving the government and IMF`s deficit target of 3.7% of GDP challenging, according to Fitch.
Government indebtedness is high, exceeding 80% of GDP, including sovereign and sovereign- guaranteed debt.
Fitch expects the economy to return to growth in 2016, following a 9.9% contraction in 2015. Medium-term potential growth (2%) is well below the peer median of 3.9%, constrained by a permanent loss of Russian export demand, damage resulting from military conflict in the east, low commodity prices and a weakened financial sector.
Inflationary pressures have eased, with inflation moderating to 20.9% in March 2016 from a peak of 60.9% in May 2015. Fitch expects inflation to average 15% in 2016.

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