DBRS Confirms Autonomous Community of Madrid at A (low), Stable Trend

DBRS Ratings GmbH (DBRS) confirmed the Long-Term Issuer Rating of the Autonomous Community of Madrid (Madrid) at A (low) and its Short-Term Issuer Rating at R-1 (low). The trend on all ratings is Stable.

KEY RATING CONSIDERATIONS

The ratings are underpinned by (1) the region’s large and diversified economy; (2) Madrid’s improving fiscal performance in the last three years; and (3) the region’s sound debt structure and continued access to the bond market. DBRS also views positively the financing backstop from the Kingdom of Spain (rated A, Stable, by DBRS), which could support the region, should financing conditions deteriorate. In DBRS’s view, the region’s Long-Term Issuer Rating is currently constrained at the A (low) level by Madrid’s steady increase in its debt stock over the last decade and its corresponding high debt metrics.

The Stable trend on Madrid’s ratings reflects DBRS’s view that the risks to the ratings are balanced. Following the region’s rapid improvement in its financial performance in 2016 and 2017, Madrid’s fiscal consolidation continued in 2018, although mostly driven by the solid growth in the region’s revenues. For 2019, the region’s fiscal target of a near balanced budget position appears within reach, but expenditure control will remain critical in the context of slowing economic growth.

RATING DRIVERS

Upward rating pressures could materialise if any or a combination of the following occur: (1) the Kingdom of Spain is upgraded; (2) Madrid delivers sustained fiscal surpluses; or (3) the region’s debt metrics improve faster than anticipated and it strengthens its liquidity profile.

Downward pressure on the ratings could materialise if any or a combination of the following occur (1) the Kingdom of Spain is downgraded; (2) there is a reversal in the region’s fiscal consolidation leading to widening fiscal deficits; or (3) there is a marked increase in Madrid’s debt metrics.

RATING RATIONALE

Madrid’s Economic Size and Performance Are Key Credit Strengths for the Region

The region represents close to 20% of the Kingdom of Spain’s GDP and has outperformed the national average on most economic indicators in recent years. These include stronger GDP growth in 2018 (provisional 2.7% vs. 2.5% for the national average), markedly higher GDP per capita (at 135% of the national average level) and better unemployment figures (11.5% vs. 14.5% in Q4 2018).

Strong average annual economic growth of 3.3% since 2015 has underpinned Madrid’s fiscal improving position. Higher economic growth has led to a pick-up in tax revenues — regional taxes and regional share of national taxes — which coupled with some expenditure control have enabled Madrid to rapidly reduce its headline deficit to -0.16% of regional GDP in 2018 from -2.48% in 2011.

Strong Fiscal Consolidation Since 2015 is Expected to Continue

Despite this substantial deficit reduction, DBRS highlights that Madrid’s overall budgetary performance remained in line with other Spanish regional governments. Deficit reduction has been a common trend among Spanish regions since 2015. In 2018, the average deficit of Spanish regions was -0.23% of GDP, with seven regions (out of 17) outperforming Madrid’s fiscal results for the year.

Madrid contributes substantially to equalisation mechanisms in the current regional financing system in Spain. DBRS considers that regions’ fiscal consolidation pace is directly affected by the level of taxes redistributed by the national government. Going forward, any revision of the financing system will be monitored as it is likely to have relevant credit implications for Madrid and other Spanish regions.

For 2019, economic growth at around 2.7% should remain strong in the region. As a result, DBRS expects Madrid to be able to meet the 2019 deficit target of -0.1% of GDP. DBRS considers expenditure control for Madrid and other Spanish regions as critical to deliver this target in an environment of slowing economic growth. With regional elections scheduled for May 2019, the risk of loosening expenditure control appears to have increased in DBRS’s view.

High Debt-to-Revenue Ratio but Risks are Mitigated by Sound Debt Structure

The rapid increase in the region’s debt over the past decade is seen as a negative credit feature for the region. Madrid’s debt (DBRS’s adjusted debt figure) represented 206% of its operating revenues at the end of 2017, a high level in a national but also international comparison. While DBRS expects Madrid’s debt sustainability to remain strong going forward given its wide economic base, debt reduction will remain key for the region to strengthen its credit profile further.

On the other hand, Madrid’s debt structure remains sound, with a smooth amortisation profile (7.37 years average maturity at the end of 2018), affordable debt costs (2.21% of the debt stock), and a continued access to the bond market since the financial crisis. In DBRS’s view, bank loans and bond financing (including sustainable bonds) as well as a very limited recourse to the national government’s financing facilities (5% of Madrid’s debt stock), underpin the region’s diversified financing sources. On the liquidity side, the central government’s financing facilities are viewed as potential backstop facilities which reduce Spanish regions’ refinancing risks. However, DBRS still considers that a strengthening of Madrid’s liquidity profile would represent a positive credit development, as it would allow the region to better weather potential exogeneous shocks.

RATING COMMITTEE SUMMARY

The DBRS European Sub-Sovereign Scorecard generates a result in the A – BBB (high) range. The main points discussed during the Rating Committee include: the relationship between the central government and the Autonomous Community of Madrid, the region’s fiscal results, Madrid’s debt metrics and debt structure, Madrid’s economic performance and its governance.

KEY INDICATORS FOR THE KINGDOM OF SPAIN

The following national key indicators were used for the sovereign rating. The Kingdom of Spain’s rating was an input to the credit analysis of the Autonomous Community of Madrid.

KEY INDICATORS

Fiscal Balance (% GDP): -3.1 (2017); -2.7 (2018E); -2.5 (2019F)
Gross Debt (% GDP): 98.1 (2017); 96.9 (2018E); 96.0 (2019F)
Nominal GDP (EUR billions): 1,166.3 (2017); 1,206.9 (2018); 1,259.2 (2019F)
GDP per Capita (EUR): 25,064.4 (2017); 25,824.9 (2018E); 26,871.1 (2019F)
Real GDP growth (%): 3.0 (2017); 2.5 (2018); 2.2 (2019F)
Consumer Price Inflation (%): 2.0 (2017); 1.7 (2018); 1.7 (2019F)
Domestic Credit (% GDP): 207.9 (2016); 199.4 (2017); 194.9 (Sep-2018)
Current Account (% GDP): 1.8 (2017); 0.8 (2018); 0.8 (2019F)
International Investment Position (% GDP): -85.3 (2016); -83.8 (2017); -80.7 (Sep-2018)
Gross External Debt (% GDP): 167.0 (2016); 166.6 (2017); 167.5 (Sep-2018)
Governance Indicator (percentile rank): 81.7 (2017)
Human Development Index: 0.89 (2017)

Notes:
All figures are in euros (EUR) unless otherwise noted. Public finance statistics reported on a general government basis unless specified. Fiscal balance (IGAE/INE/EC/BdE), Gross debt (BdE/INE/EC/DBRS), Nominal GDP (INE/EC), GDP per Capita (BdE/INE/EC), Real GDP Growth (INE/EC), Consumer Price Inflation (INE/EC), Domestic Credit (BdE/INE), Current Account (BdE/INE/DBRS), International Investment Position (BdE/INE), Gross External Debt (BdE/INE). Governance indicator represents an average percentile rank (0-100) from Rule of Law, Voice and Accountability and Government Effectiveness indicators (all World Bank). Human Development Index (UNDP) ranges from 0-1, with 1 representing a very high level of human development.

The principal applicable methodology is Rating European Sub-Sovereign Governments, which can be found on the DBRS website www.dbrs.com at http://www.dbrs.com/about/methodologies. The principal applicable rating policies are Commercial Paper and Short-Term Debt, and Short-Term and Long-Term Rating Relationships, which can be found on our website at http://www.dbrs.com/ratingPolicies/list/name/rating+scales.

The sources of information used for this rating include the Autonomous Community of Madrid, Bank of Spain, Independent Authority for Fiscal Responsibility (AIReF), Instituto Nacional de Estatística (INE). DBRS considers the information available to it for the purposes of providing this rating to be of satisfactory quality.

DBRS does not audit the information it receives in connection with the rating process, and it does not and cannot independently verify that information in every instance.

Generally, the conditions that lead to the assignment of a Negative or Positive Trend are resolved within a twelve month period. DBRS’s outlooks and ratings are under regular surveillance.

For further information on DBRS historical default rates published by the European Securities and Markets Authority (“ESMA”) in a central repository, see:
http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml.

Ratings assigned by DBRS Ratings GmbH are subject to EU and US regulations only.

Lead Analyst: Nicolas Fintzel, Vice President, Global Sovereign Ratings
Rating Committee Chair: Roger Lister, Managing Director, Chief Credit Officer
Initial Rating Date: 1 February 2019
Last Rating Date: 1 February 2019

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