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Moody's changes outlook on Lithuania's ratings to negative from stable



London, 07 November 2008 -- Moody's Investors Service has today changed the outlook on the government of Lithuania's A2 local and foreign currency debt ratings to negative from stable. The outlook on the A2 foreign currency deposit ceilings has also been changed to negative. The outlook on the Aa1 country ceiling for foreign currency debt remains stable.


The change in Lithuania's rating outlook was precipitated by the worsening economic slowdown, which is likely to be amplified by the impact of the global liquidity crisis on the small, open economy. The negative impact on the economy and financial system will probably cause a larger and longer-lasting impact on the government's balance sheet than previously assumed, resulting in a deterioration in the government's credit metrics relative to peers.


"There is growing evidence that Lithuania will experience a difficult economic adjustment that could last several years," says Kenneth Orchard, Vice-President/Senior Analyst in Moody's Sovereign Risk Group. "The economy was already rapidly decelerating prior to the onset of the global liquidity crisis in mid-September. Given Lithuania's relatively large external imbalances, a 'hard landing' scenario now seems unavoidable."


However, Moody's does not expect the country to undergo a major financial crisis. "Lithuania should be buffered by the structure of the foreign exchange market, which makes speculation difficult, and the dominance of Nordic-owned banks in the financial system," says Mr. Orchard. "The recent announcement by the Swedish Government of a scheme to guarantee Swedish banks' new medium-term liabilities should prevent a sudden stop in external financing, even though deleveraging is likely to continue."


Moody's also notes that the Lithuanian government is not exposed to imminent refinancing risk, as its next Eurobond does not mature until 2012.


In the event that the balance-of-payments situation deteriorates further, Lithuania would be eligible for official financing from the International Monetary Fund and European Union, explains Mr. Orchard. "The recent package provided to Hungary demonstrates that EU members can rely upon significant financial assistance when necessary."


Moody's emphasises that the change in outlook is primarily related to the expected weakening of the government's financial strength. Earlier in 2008, Moody's analysed Lithuania's ratings in a Special Comment entitled "When Macroeconomic Tensions Result in Rating Changes: How Vulnerable Are Emerging European Sovereigns?". That analysis concluded that the country's ratings could come under significant pressure if vulnerabilities were to materialize, as the government's debt ratios would probably increase significantly.


The government will probably need to increase new financing significantly over the next few years to cope with larger budget deficits caused by the economic slump. "There is also a possibility that the government may need to extend financial assistance to some of the locally-owned banks, as has happened in other countries around the world," adds Mr. Orchard. "Given that the economic slowdown is now projected to last longer than previously thought, it is unlikely that the increase in government debt will be reversed rapidly."


Moody's cautions that the government's rating could be downgraded by one notch (to A3) if the economic and external financing situation continues to deteriorate. "Moody's central scenario is a difficult recession in 2009-10 and an associated increase in government debt of approximately 10% of GDP over the next two to three years," says Mr. Orchard.


"Alternatively, a milder economic slowdown and rapid recovery would probably lead to the outlook returning to stable, while a more severe recession and larger blow to the government's balance sheet could cause additional downward rating pressure," Mr. Orchard continues.


"In any event, the country's fundamental economic and institutional strengths should prevent an abrupt decline in the government's creditworthiness. Lithuania should remain a solid investment-grade country," Mr. Orchard concludes.


London

Pierre Cailleteau

Managing Director Sovereign Risk Group