ArmInfo. Moody's changes outlook on Armenia's rating to positive from stable; B1 rating affirmed, according to the March report of the official website of the agency.
Given Armenia's small size, low levels of incomes, open economy and significant reliance on external funding, the sovereign's credit profile is vulnerable to external shocks. While some vulnerabilities remain, improvements in the effectiveness of macroeconomic policies should bolster Armenia's resilience to potential external shocks. Moreover, Moody's expects that prolonged tax reforms will in time strengthen the fiscal position of Armenia.
The positive outlook is underpinned by macroeconomic policies that should reduce Armenia's vulnerability to external shocks. Moreover, ongoing reforms of the fiscal framework may shore up fiscal strength over time.
Armenia's B1 rating balances credit strengths from robust growth potential and improving institutional strength against credit challenges stemming from a small and low income economy that remains exposed to external developments, a moderately high debt burden that relies on external funding, and latent geopolitical tensions with neighboring Azerbaijan.
Moody's has also raised Armenia's long-term local-currency bond and deposit ceilings to Baa3 from Ba2. Armenia's long- term and short-term foreign currency bond and deposit ceilings remain unchanged at Ba2/"Not Prime" and B2/"Not Prime", respectively.
This was illustrated during the 2014-16 regional economic shock, caused by the sharp drop in commodity prices. The Armenian dram depreciated the least among peers in the CIS region (by 22% between January 2014 and February 2016), while inflation expectations were anchored, preventing a flight to US dollars. Inflation peaked at 5.8% year-on-year in March 2015 and averaged 1.6% between 2014 and 2017. The deterioration in banks' asset quality was limited and non- performing loans have fallen to 5.5% of total loans in December 2017, below the January 2014 level. In turn, this allowed bank credit to continue to expand, supporting economic activity.
Armenia's fiscal metrics remain exposed to external shocks that weaken the currency and affect GDP growth. Indeed, general government debt increased markedly to 58.6% of GDP in 2017 from 40.8% in 2013. However, a continuation of monetary and prudential policies effective at mitigating the extent of the currency depreciation would limit that exposure.
Moreover, the full implementation in July 2018 of mandatory pension contributions will help raise domestic savings and reduce further the savings-investment gap, the source of Armenia's external vulnerability. The pension reform requires mandatory contributions for employees born after 1 January 1974, which make up an estimated 60% of Armenia's workforce. Moody's expects that the formalisation of savings worth 10% of wage incomes -- 5% by the employee with the state topping up another 5% -- would, over time, reduce Armenia's reliance on external funding and create a sizeable domestic institutional investor base for long-term dram assets.
The impact of these measures on Armenia's fiscal strength will only materialise over time and through economic cycles. Taking into account the government's fiscal plans, Moody's expects the government's fiscal deficit to narrow to 2.6% of GDP in 2018 and 2.5% in 2019, from 4.7% in 2017. Moody's also expects Armenia's general government debt to gradually decline to 56.5% of GDP by end-2018 and 54.2% by end-2019.