Introduction
Sovereign credit ratings have become increasingly important as countries around the world turn to international bond markets. These ratings – which are issued for sovereign entities such as national governments – take into account political risks, regulatory risks, and other unique factors to determine the likelihood of default. The three most well-known providers of sovereign credit ratings are S&P, Moody’s, and Fitch.
Where to Find Sovereign Credit Ratings
The major sovereign credit ratings are published by three main credit rating agencies – Standard & Poor’s, Moody’s, and Fitch. While there are also a number of smaller companies that provide ratings, these three agencies have the greatest influence on market decision-makers. Investors can find sovereign credit ratings from these three agencies on their respective websites.
How Sovereign Credit Ratings Are Calculated
Rating agencies use various quantitative and qualitative methods to calculate sovereign credit ratings. However, in a research paper published in 1996 titled “Factors and Impacts of Sovereign Credit Ratings,” Richard Cantor and Frank Packer used regression analysis to narrow the process down to six critical factors that explain over 90% of the variance in credit ratings. Individual income comes into play, as a larger tax base increases the government’s ability to service debt, while it can also be an indicator of the country’s political stability. Strong GDP growth makes the country’s existing debt easier to service over time, as this growth usually leads to an increase in tax revenues and an improvement in fiscal balance. High inflation can indicate not only problems with the country’s financial situation but also long-term political stability. A country’s external debt can become a problem if it becomes unmanageable. Countries with a history of default are considered to have a higher credit risk. Economically developed countries are considered less likely to default.
Impacts of Sovereign Credit Ratings
Sovereign credit ratings affect many countries around the world. Numerous studies have shown that better sovereign credit ratings are associated with lower credit spreads. In turn, these lower spreads mean lower funding costs for countries issuing bonds. Cantor and Packer estimated in the aforementioned report that a one-notch downgrade could raise these spreads by as much as 25%.
Effects of these higher spreads and lower funding costs include:
- Inflation risks: Central banks that print more currency to cover current and future debt face inflation risks, which can lead to a number of economic problems.
- Political instability: Countries that do not want to or cannot print more currency may face austerity measures to reduce their costs, leading to civil unrest.
- Fewer options: Central banks facing high borrowing costs may find it uneconomic to provide stimulus packages or other growth incentives during tough times.
However, other researchers remain skeptical. A study by Martin Gonzalez-Rozada and Eduardo Levy Yeyati, titled “Global Factors and Emerging Market Spreads,” found that sovereign credit ratings reflect changes in spreads rather than predict them. But in either case, sovereign credit ratings represent a useful tool for international investors to assess the investment quality of countries.
Key Takeaways
Sovereign credit ratings have become increasingly prevalent as countries seek to leverage bond markets and investors look for opportunities. These ratings are calculated by companies like Standard & Poor’s or Moody’s based on a number of different criteria. Better sovereign ratings can reduce inflation risks, ensure political stability, and make borrowing cheaper when needed.
Do
Was this page helpful?
Thank you for your feedback! Tell us why?
Sources:
- Federal Reserve Bank of New York. “Sovereign Credit Ratings,” page 2. Accessed May 17, 2021.
- Bank of Canada. “Bank of Canada’s and Bank of England’s Sovereign Default Database: What’s New in 2020?” Accessed May 17, 2021.
- Federal Reserve Bank of New York. “Factors and Impact of Sovereign Credit Ratings,” Economic Policy Review, October 1996, pages 41 and 48-49. Accessed May 17, 2021.
- Federal Reserve Bank of New York. “Factors and Impact of Sovereign Credit Ratings,” Economic Policy Review, October 1996, page 45. Accessed May 17, 2021.
Source: https://www.thebalancemoney.com/what-are-sovereign-ratings-1979209
.lwrp .lwrp-list-item.lwrp-empty-list-item{
background: initial !important;
}
.lwrp .lwrp-list-item .lwrp-list-link .lwrp-list-link-title-text,
.lwrp .lwrp-list-item .lwrp-list-no-posts-message{
}@media screen and (max-width: 480px) {
.lwrp.link-whisper-related-posts{
}
.lwrp .lwrp-title{
}.lwrp .lwrp-description{
}
.lwrp .lwrp-list-multi-container{
flex-direction: column;
}
.lwrp .lwrp-list-multi-container ul.lwrp-list{
margin-top: 0px;
margin-bottom: 0px;
padding-top: 0px;
padding-bottom: 0px;
}
.lwrp .lwrp-list-double,
.lwrp .lwrp-list-triple{
width: 100%;
}
.lwrp .lwrp-list-row-container{
justify-content: initial;
flex-direction: column;
}
.lwrp .lwrp-list-row-container .lwrp-list-item{
width: 100%;
}
.lwrp .lwrp-list-item:not(.lwrp-no-posts-message-item){
}
.lwrp .lwrp-list-item .lwrp-list-link .lwrp-list-link-title-text,
.lwrp .lwrp-list-item .lwrp-list-no-posts-message{
};
}
Leave a Reply