Gaining steam

The resurgent American economy is improving creditworthiness around the globe. But it isn’t doing too much for the U.S.

Analysts of countries’ creditworthiness are convinced that the U.S. economic locomotive has gotten up a full head of steam and has well and truly pulled out of the station. After three years of slow growth, U.S. real gross domestic product increased at an 8.2 percent annual rate in 2003’s third quarter and 4.1 percent in the fourth. For the whole of last year, GDP growth was 3.1 percent, compared with 2.2 percent in 2002.

The U.S. rebound stoked growth in dozens of countries around the world that view the U.S. as a titanic shopper whose charge card never maxes out. That growth makes lending to these exporting nations a safer bet. But paradoxically, the U.S.'s own credit standing did not benefit much from the economy’s strong recovery: The weak dollar and the twin deficits -- budget and current account -- more or less canceled out the growth dividend.

The economists and country risk analysts from banks, securities firms and money managers worldwide who participated in the current installment of Institutional Investor‘s exclusive Country Credit survey found accelerating economic growth worldwide strong enough to raise the global credit rating to 41.6 on a 100-point scale -- a substantial gain from last September’s 39.6. If the generally low scores of the 21 countries added to the survey six months ago were excluded, the global average would have risen to 44.6, its highest level since March 1982.

Rating increases are broad-based, with 128 of 172 countries rising by 1 or more points; only ten declined by that much. By contrast, in the September 2003 survey, only 54 countries saw their scores rise by at least 1 point, while 36 nations lost 1 point or more. Changes of 1 or more points are considered statistically significant.

In a profession given to understatement, Gregor Eder, a senior economist at Dresdner Bank in Frankfurt, says enthusiastically, “We have seen considerable improvement in country risk.” Anna Gaworzenska, a senior economist at Lloyds TSB Bank in London, credits “mainly the U.S. rebound and the generally more benign climate we’ve had.” The economic news is good, and the political news is not getting any worse, she explains.

The one truly eye-catching rating change was for Kuwait, which fell 13.2 points -- one of the largest moves in the survey’s history -- as it gave back an even bigger increase from last September, following the Iraq War. Kuwait’s rating is now only 2.1 points higher than it was in March 2002. The fears that brought Kuwait back to earth are the same ones that held Iraq to only a 0.3-point increase this time, putting its rating at 8.7, down from 9.6 two years ago: Saddam Hussein may be gone, but Iraq faces an extremely uncertain future.

Kuwait posted the only double-digit rating change, up or down, so the overall upsurge in ratings was driven by dozens of solid but smaller increases, gains of 2, 3 and 4 points.

Only a few upgrades stemmed from specific local economic developments; in most cases, credit analysts marked up broad swaths of countries in line with global macroeconomic developments.

The single most important of these was the resumption of strong growth in the U.S. Survey participants were consistent in their conviction that the U.S. economy had entered an expansionary phase and that this would benefit countries everywhere. Industrial nations all rose, including Japan, which climbed a solid 5.1 points after years of floundering. And there were plus signs in nearly all of the emerging markets.

North America rose 2.5 points, to 81.8, although the U.S., catalyst for so many other countries’ gains, rose only a modest 1.2 points. Most U.S. economic indicators are pointing straight up, and President George W. Bush’s administration is expected to do all it can to keep the recovery going during this election year. Yet enthusiasm for the U.S. as a borrower has waned a bit. “There are the problems of the debt and the dollar,” says Lloyds’ Gaworzenska. “Efforts to hold the dollar stable don’t seem to be doing very much.” Dilip Shahani, Asia-Pacific head of fixed-income credit research for HSBC in Hong Kong, is one of those concerned about the U.S. Given the problems with the dollar and the deficit, he says, “on a fundamental basis, I don’t see why there should be optimism.” He was outvoted, however, by those who see the swooning dollar as a boon for U.S. exports and believe that growth will ultimately dilute the deficits.

The U.S. expansion did help boost Canada by 1.6 points, and it gave a jolt to Mexico, up 4.9 points. “Since 80 percent of its trade is with the U.S., good news north of the border offset lingering concerns about the efficacy of the [Vincente] Fox regime,” says one New York hedge fund manager (see story, page 53).

Western Europe, which has been trying to establish itself as an independent economic force, shouldn’t start patting itself on the back for its collective 2.7-point rise, to 86.1, its highest level in the more-than-two-decade history of the survey. Yes, all 20 countries in the region rose by more than a full point and some by considerably more, but that, says one London bank economist, is “more just a reflection of a generally stronger world climate than anything intrinsic.” Karim Pakravan, the director of country risk management at Bank One in Chicago, agrees: “It’s just that the U.S. is doing better, and Europe is not doing any worse.”

One of Western Europe’s smallest countries, Malta, experienced the biggest increase, rising 8.9 points. “It’s one of the accession states,” notes Conrad Schuller, chief economist at Erste Bank in Vienna. “That says it all.” Malta is one of ten nations slated to join the European Union this May. Some other big gainers: Turkey, which rose 5.0 points, was a beneficiary of increased financial assistance from both the U.S. and the International Monetary Fund; and Greece, up 4.8 points, and Ireland, up 3.4 points, were seen as in prime position to capitalize on any quickening to come in European economic growth.

Western Europe’s most interesting credit-score turnabout may be Germany. It rose 6.0 points, reversing a decline of 5.5 points in last September’s survey. Why the roller-coaster ride? “Six months ago Germany faced a breach with the U.S., splits in the EU, a seemingly uncontrollable budget deficit and stasis on welfare and labor policies,” says one New York banker. “There’s been a little progress on the problems -- and a lot more willingness to say this is not the end of the world.”

Eastern Europe‘s collective rating rose 1.4 points, to 38.6. That is its highest level since September 1990. The region’s rating has been rising steadily since reaching its nadir, 21.8, precisely ten years ago amid heightened concerns about emerging-markets debt. Sixteen of the 27 countries in the region rose by 1 point or more in the current survey, and only two fell by that much. Two words explain most of the movement: accession and oil.

As Eastern Europe prepares for two waves of admission to the EU, first this May and then in 2007, the accession process is accelerating the rate of economic reform throughout the region. “The largest countries -- Poland, Hungary, the Czech Republic -- are facing some very serious problems in getting their act together on the fiscal side before May,” says Bank One’s Pakravan. “There are perceptions of weakness in passing tough budgetary measures.” The three have stopped climbing in the ratings (see story, page 123). By contrast, says the banker, the prospects -- if not necessarily the achievements -- of reform in Croatia (+1.4) and Slovakia (+2.3), both slated to join the EU in May, as well as in Romania (+1.2) and Bulgaria (+1.5), which are on the 2007 timetable, “improved significantly.”

Farther east, strong oil revenues helped Russia continue its upward march in the ratings as it climbed 4.2 points, to 49.3, to rank 59th. Along with the positive economic results, the country benefited from a sense among observers that though Vladimir Putin might not be a democrat at heart (he dismissed his prime minister and cabinet in one fell swoop in mid-February), he does know how to maintain political stability, even if that entails occasionally locking up a captain of industry or two. Rising oil prices also boosted Azerbaijan (+4.2) and Kazakstan (+2.9).

Apart from Estonia (1.0), only Bosnia & Herzegovina suffered a decline in Eastern Europe, a sharp 3.8-point drop. This shard of the former Yugoslavia made its debut in the survey six months ago, scoring 26.0. Since then respondents seem to have had second thoughts about its prospects for political stability.

Asia-Pacific is a region bursting with good news. Sums up one New York banker, “Asia is once again the growth area of the world.” The region’s combined rating climbed 2.3 points, to 42.8, although that is still well off its all-time high of 66.1 in March 1980. Twenty-eight of the area’s 30 countries were up, 24 of them by at least 1 point; two countries had negligible declines.

The region’s most noteworthy gain was Japan’s 5.1-point increase (see box). Once ranked No. 1 in the survey, Japan sank to the teens in 2000 and then the low 20s, barely ahead of the likes of Iceland, as its economy bogged down in deflation. Now signs of renewed economic growth have spurred optimism. “There are clear technical improvements and some traces of structural improvement as well,” Bank One’s Pakravan says.

Improbably, the region’s other big gainer was North Korea, up 5.6 points (see box). Despite the fact that the country’s economy is in default and disarray, sovereign-risk analysts figure that President Kim Jong Il can trade his real or imagined nuclear capabilities for some kind of aid from the U.S.

For the rest of Asia, the story is export-driven growth. Central banks in several Asian countries had already stimulated domestic demand, and now the U.S. recovery is driving growth in the region. Burgeoning exports will help countries like Malaysia (+1.5) and China (+3.5) continue to build huge foreign exchange reserves.

Credit analysts were impressed that China had so far sustained its rapid economic growth, which in turn boosted Hong Kong by 4.0 points. (Hong Kong is still rated separately because it issues its own bonds and currency.) One New York hedge fund manager, however, predicts that India (+2.7) will be Asia’s next big thing. “Suddenly, it’s on everybody’s radar screen,” he says. As a destination for outsourced U.S. and European jobs, India is rarely out of the news abroad. But at home the entrepreneurial flair of its technology sector is igniting other parts of the economy. Most of the other Asian economic powers also did well, including Indonesia (+3.1; see box), Australia (+2.3), Singapore (+2.2), Taiwan (+1.2) and Thailand (+1.4). One exception was the Philippines: It rose only 0.8 point, because of concerns about the upcoming presidential elections.

Perhaps the proof that optimism is in the air is analysts’ attitude toward turbulent Afghanistan, which rose a substantial 3.2 points. For that matter, consider the ratings gains of such comparatively new Asian economies as Cambodia (+1.7) and Laos (+1.5). Want further evidence of a rosier outlook? Bhutan climbed 4.6 points, and Vanuatu 5.5 points.

Latin America‘s regional rating rose 3.1 points, to 37.5. All told, 24 of the region’s 26 countries registered ratings increases. And the gains were surprisingly strong. According to Cristina Panait, an emerging-markets analyst at Los Angelesbased investment management firm Payden & Rygel, “If you look at Latin America as a region, there were elections in key countries such as Brazil [up 5.6], where President [Luiz Inácio] Lula [da Silva] has been more market-friendly than investors thought during the campaign. He has implemented important economic reforms and maintained fiscal responsibility.”

In addition to Brazil there were gains for Colombia (+4.8), Peru (+4.1), Uruguay (+4.1) and even politically troubled Venezuela (+4.2). There was even a sense that Argentina had turned a corner: It climbed a smart 3.1 points.

Big movements occurred among smaller countries in Central America and the Caribbean. The Dominican Republic fell 3.3 points when the government strained its finances by bailing out a troubled bank (see box). “Weak fundamentals compounded with low liquidity in Dominican Republic external debt triggered a sharp sell-off in the country’s bonds,” explains Panait.

Elsewhere in the neighborhood, however, the news was better. Grenada climbed a flashy 8.9 points, Guatemala rose 6.3 points, and Honduras gained 4.3 points.

Haiti’s 1.1-point gain, meanwhile, does not reflect the recent political upheaval. Cuba’s 2.2-point rise, its second in a row, is also surprising. “Don’t know why,” shrugs a Swiss banker: “Maybe it’s because Fidel [Castro] is getting old and has to be leaving the scene soon.”

The Middle East‘s collective rating rose 1.2 points, to 46.5, close to its September 2000 high of 47.9. Ten of this unstable region’s 15 countries rose by 1 point or more, while only Kuwait declined by at least that amount, as noted above. Iraq’s meager 0.3-point rise, to 8.7, allowed it to retain its preIraq War hold on the 170th position of 172 countries rated in the Country Credit survey, ahead of just Zimbabwe and Somalia.

But survey participants were surprisingly benevolent toward other countries in the region, even with the states most embroiled in the area’s many conflicts: Israel rose a solid 4.6 points despite ongoing violence and a diplomatic stalemate that has constrained its economic growth. Meanwhile, Egypt rose 1.0 point, Lebanon gained 1.4 points, Jordan climbed 2.7 points, and Syria added a solid 4.9 points. “Syria is looking more likely to sue for peace, and that’s good for it and for Israel,” says one British respondent. Syria’s president, Bashar al-Assad, has shown greater willingness to negotiate with Israel.

The big Middle Eastern oil producers did not benefit as much as might have been expected from firm oil prices. Saudi Arabia was up 2.1 points, and Bahrain rose 3.1 points. But the United Arab Emirates climbed a mere 0.6 point, and Oman fell 0.3 point. Qatar did much better, up 4.4 points. “In contrast to these other countries, it had a very high foreign debt because of gas development projects,” notes Erste Bank’s Schuller. But now the gas projects are coming on stream and, he says, Qatar is better able to service its debt.

Even beleaguered Africa felt the spray from the wave of optimism. Its overall rating rose 1.5 points, to 23.4. Thirty-two countries climbed by at least 1 point, and six fell by at least that amount. The two main economies, South Africa (+1.6) and Nigeria (+2.1), and those of two dozen lesser sub-Saharan countries all rose because of a general sense that things are getting better in Africa. “There were not specific issues that led to the increase in ratings,” says Dresdner’s Eder. “Stronger commodity prices might have helped, as would the World Bank’s Heavily Indebted Poor Countries Initiative to ease the external debt situation.”

Moreover, there are fewer wars and ultimately better economic prospects -- if not yet results -- than there were six months ago. Now that warlord Charles Taylor is out, Liberia climbed 3.1 points; and Sierra Leone, Sudan, Congo, Angola, Ethiopia and Côte d’Ivoire all rose on signs that peace was taking hold.

The biggest of Africa’s losers was Algeria, whose 4.4-point decline undercut its 8.2-point rise last September, as analysts concluded that the country’s political situation looked less attractive than they’d thought six months ago. Zimbabwe, meanwhile, fell 2.3 points on concern that President Robert Mugabe would drive it completely into the ground. The only other losers were Morocco (1.0 point), Seychelles (1.4), Botswana (1.5 points) and Malawi (2.0).

In Africa and elsewhere, survey respondents are seeing glasses that are half full rather than half empty, economies that are poised for growth rather than decline. “You’ve got no bad news and some good news rather than a tremendous improvement” in much of the world, says Bank One’s Pakravan. “A lot of ratings improved because people expected bad things and they didn’t happen.” Imagine what might happen to the ratings if there were a lot of good news.

HSBC’s Shahani, however, warns that much depends not only on the U.S. locomotive economy continuing to gain momentum but on U.S. interest rates staying low. “If the U.S. is poised to move interest rates upward,” he says, “then people’s perception of risk will change.” With dollar interest rates at 40-year lows, investors have been seeking extra yield by turning to once-overlooked areas such as Central America. The real test, says Shahani, will be when the U.S. begins raising interest rates: “How many countries will have moved sufficiently forward in their structural reforms to offset the pullout of money that could occur then?” Higher rates in the U.S. will not only attract money that has been going elsewhere; these higher rates will also reverberate through global markets, raising borrowing costs in many nations. That may damage their ratings one of these days. But right now analysts only see plenty of reasons for optimism.


Six months ago Germany’s Country Credit survey rating plunged by a sharp 5.5 points; this time around it rose a hefty 6.0 points, ranking 8th in the survey. Did that much happen in six months? Well, that depends on whom you ask.

In September the German economy was stalled, burdened with high unemployment, a swollen budget deficit, growing social security costs and more than a few ailing banks. And of course, Berlin was suddenly at odds with Washington over Iraq.

Today rapprochement with the U.S. is moving forward. The German government recently passed legislation trimming unemployment benefits and cutting social security taxes. Ratings agencies have taken several banks off their watch lists. “Germany’s economic situation is now improving steadily,” says a country risk analyst at Sumitomo Life Insurance Co. in Japan.

Not so fast, says Conrad Schuller, chief economist at Erste Bank in Austria: “One important indicator should be the public debt or budget, and Germany has not improved that much this year.” The economy actually shrank 0.1 percent last year, following two years of near stagnation. That’s the longest slump since German unification swamped the economy in 1990.

Germany’s economic and financial fate now seems to hinge on the euro, which, ironically, is now a strong currency rather than the weak one many Germans feared. As a result, it is pricing German exports, accounting for two thirds of the economy, out of many markets.

North Korea

Most movements in country ratings reflect tangible developments -- war and peace, boom and bust, economic expansion and contraction. But the countries at the lower depths of creditworthiness are a different story. They often seem to serve as Rorschach tests, reflecting whatever it is that survey respondents want to see. In this month’s survey, North Korea, which ranks 161st, shot up an impressive 5.6 points, to 13.1, the biggest six-month gain in the Asia-Pacific region. That’s a 60 percent increase, but has anything actually happened to warrant such a dramatic change?

“From what numbers we get, the economy has deteriorated, and the political risk has actually increased,” says Dilip Shahani, head of Asia-Pacific fixed-income credit research at HSBC in Hong Kong.

But more respondents seem to be convinced that the U.S., having dispatched Saddam Hussein, will now attempt to buy off North Korea, persuading it to forgo its nuclear capabilities in return for economic aid. President Kim Jong Il, the theory goes, will happily take the money, particularly if his weapons of mass destruction turn out to be evanescent. And if the U.S. cozies up to the North, South Korea will be close behind, pouring in official aid, private sector investment and family remittances.

It’s as plausible a theory as any about this hermetically sealed nation. “No one has any real knowledge of North Korea, but no one has any real money invested there either, nor any intention of putting any in for a while. So a good story is enough to boost its rating,” says one Australian banker.

Dominican Republic

Credit ratings have been surging in much of Central America and the Caribbean, but not for the Dominican Republic. When a massive bank fraud last year rocked the Dominican banking system, it cost the government upward of $2 billion, nearly forcing it to default on portions of its $1.8 billion in external private debt. Yet survey participants marked the country, ranked 85th, down only 3.3 points, a testament to the general optimism about country credit.

The fraud became known last spring when Banco Intercontinental, then the nation’s second-largest bank, toppled and brought down two other banks. The government said Baninter had been keeping two sets of books since 1989.

Last year the government began renegotiating its debt with the Paris Club of creditor nations, and in August the International Monetary Fund tentatively agreed to a two-year, $600 million standby loan. But talks dragged on as the Fund waited for an austerity budget and banking law reform. Spreads on Dominican debt shot up from 480 basis points over U.S. Treasuries at the end of 2002 to twice that a year later as economic problems seemed to spiral out of control. The country was late in paying $27 million in interest in January 2004. Since June 2003, Standard & Poor’s has cut its long-term sovereign and senior unsecured debt rating three times, to CC.

Early this year the government passed the tighter budget and banking reform, so the IMF is expected to open its tap. Even so, says a New York banker, the Dominican Republic “came this close to being the first default of the new year.”


Though a rising tide in Asia has lifted most boats, Indonesia’s still seems leaky. Yes, its rating was up 3.1 points in the current survey and a robust 11.8 points over the past two years, the biggest Asian gainer since March 2002. Then it ranked 102nd; today, it is 84th.

Yes, the economy grew 4 percent last year, and GDP is projected to increase at nearly 5 percent this year. Stocks surged 63 percent in 2003, and in October Standard & Poor’s upgraded Indonesian bonds to a B, though that’s well below the triple-B rating Indonesia had before the 1997'98 Asia financial crisis.

Still, many observers believe the country’s revival is shaky. Public debt fell from 99 percent of GDP to 70 percent last year, but “the economy remains heavily indebted,” says John Koch, a vice president at Bank of New York.

“The political transition still remains a bit delicate,” Koch continues. The government expects to win parliamentary elections in April and the first-ever direct presidential election in July, he says, but “it may not gain enough support to continue its program of reform.”

The October 2002 terrorist attack in Bali reminded investors that Indonesia is the world’s most populous Islamic country; religious tensions persist. “There’s been some growth,” one Australian banker says, “but the International Monetary Fund is withdrawing” after completing a five-year program, “and that’s a concern.” Financiers, he warns, “need to be cautious.”


It was September 1986, and a declining dollar and rising budget deficits had finally pushed the U.S. from first place in the Country Credit standings. Its replacement was Japan, the Asian export colossus. But Japan’s bubble economy burst a few years later, and by March 1999 the country had fallen to tenth place in the survey. Since then it has continued sinking, to the low 20s. Now, perhaps, Japan’s 5.1-point rise, to 82.3, which boosted its rank two notches to 21st, might finally signify a turnaround in its fortunes.

Two years ago Japan’s long-dormant economy began to grow. GDP rose 2.6 percent last year, and analysts predict 2.1 percent growth in 2004. After years of deferring spending, Japanese firms are buying capital equipment again.

Of course, notes Dilip Shahani, Asia-Pacific head of fixed-income credit research at HSBC in Hong Kong, “there have been a lot of problems in the banking system. But a good proportion of the insolvency or debt problems have been fiscalized, so the private sector can start moving to a greater extent.”

Even so, economists fear that the strong yen may stifle Japan’s export-led growth. Domestic consumption remains weak, and an aging population dims long-term growth prospects. Says London-based Lloyds TSB Bank senior economist Anna Gaworzenska: Japan’s future “is not a settled thing. There could be some slippage.”

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