Wednesday, January 29, 2014

Nepal’s sovereign (shadow) credit rating in 2012

Nepal does not have a sovereign credit rating and it does not borrow from the international financial markets. A large part of its budget gap is met through foreign grants and concessional loans. Some of it is met through domestic borrowing. Now, what would Nepal’s credit rating look like if it were rated by the major credit rating agencies?

In a latest working paper, Basu, De, Ratha and Timmer (2013) compute shadow ratings of countries, including the unrated ones, by making it a function of macroeconomic, structural and governance variables. They find that even after the financial crisis, which led to lowering of credit ratings of a majority of the developed countries, several unrated countries appear to be more creditworthy than previously thought and may actually access international capital markets. The latest paper uses a modified version of the methodology used by Ratha, De and Mohapatra (2011). Here they use a ‘relative risk rating’ and find that even if absolute rating is downgraded, relative risk rating can still improve.

In this context, Nepal has a rating of CCC+ (with positive outlook), the same shadow rating as in 2011. In fact, Nepal’s shadow credit rating is as good as Ethiopia’s, and better than Lao PDR, Nicaragua, and Kyrgyz Republic to name a few. In South Asia, Bhutan has B stable and Maldives has B- stable. In 2008 (before the financial crisis), the authors predicted B- stable for Nepal. The lower than expected rating in 2012 is attributed to the worsening rule of law. The major contributor to Nepal’s CCC+ positive rating is the good debt indicator. Positive outlook indicates the possibilities of an upgrade.

The specific variables used to come up with a shadow sovereign rating are GDP growth [3-year moving average], log of GNI per capita, ratio of reserves to imports plus short term debt, ratio of external debt to export plus remittances, GDP volatility [5-year standard deviation], rule of law [from World Governance Indicators], inflation [CPI annual % change], government debt [gross debt as % of GDP], log of GDP, and high income dummy.