Fitch Ratings has affirmed Romania's Long-Term Foreign and Local Currency Issuer Default Ratings (IDRs) at 'BBB-', with Stable Outlooks. The issue ratings on Romania's senior unsecured foreign and local currency bonds have also been affirmed at 'BBB-'/'F3'. The Country Ceiling has been affirmed at 'BBB+' and the Short-Term Foreign and Local Currency IDRs at 'F3'.

KEY RATING DRIVERS

Romania's ratings are constrained by fiscal uncertainties that stem from continued pro-cyclical fiscal loosening, as well as, a net external debtor position weaker than the median of 'BBB' peers. This is offset by Fitch's expectation of robust economic growth and stability in the banking sector.

Fitch estimates the impact of tax-reducing and expenditure increasing measures under the Fiscal Code raised Romania's 2016 general government fiscal deficit (ESA 2010) to 2.9% of GDP from 0.8% of GDP a year earlier. Further upward pressure on the headline deficit is expected in 2017, with Fitch forecasting a deficit of 3.1% of GDP.

The 2017 fiscal budget has yet to be finalised. However, a series of deficit-widening measures have already been approved by the new Centre-left coalition (Social Democratic Party - Alliance for Democrat Liberals). Together with measures approved by the previous government in 2016, Fitch expects this will have a total net revenue impact close to negative 1.0% of GDP in 2017. The new government anticipates that with the increase in minimum wages, an elimination of the cap on social contributions, and the assumption of 5.2% economic growth, the net negative impact on revenues from further tax cuts in excises and VAT will be contained. However, for the government to achieve its target of keeping the headline deficit below 3% of GDP, further measures will be needed. There is the risk that in order to fulfill electoral promises, higher current spending will be offset by cuts in capital expenditure.

Romania's widening fiscal deficit also puts upward pressure on general government debt, which in recent years has gradually deteriorated towards the median debt ratio of the 'BBB' range. Fitch estimates that general government debt reached 37.7% of GDP in 2016, and we project debt to increase to 39.6% of GDP in 2017. Debt sustainability is further supported by the fact that debt refinancing and interest rate risks are low, with around 85% of total debt stock in medium- to long-term maturities, with fixed rates.

With a new round of fiscal stimulus, Fitch is projecting another year of strong fiscally-induced economic growth, with real GDP growth expected to reach 4.8% in 2017, before slowing down to 4.0% in 2018. Growth will continue to be led by household consumption, with a moderate pick-up in gross fixed capital formation. Meanwhile, the contribution from net exports is projected to stay negative. Strong growth and fading negative base effects from 2016 tax cuts will push inflation back into positive territory in 1H17. Growth will be above the 'BBB' median (2.9%) and one of the fastest in the in the EU. However, progress in converging Romania's GDP per capita levels towards that of higher rated peers has been slow, and the economy still faces structural challenges improving labour market dynamics and efficiency of state-owned enterprises.

Romania's rating remains constrained by its net external debtor position, which is higher than 'BBB' peers, estimated by Fitch at 21.0% of GDP for 2016, compared with the 'BBB' median estimate of 2.3%. The majority of external debt is owed by the private sector. However, its sustainability is supported by ongoing trends of deleveraging and a relatively large share of intercompany lending. Since peaking at 39.2% of GDP back in 2012, Fitch forecasts net external debt to continue gradually declining in 2016-2017.

Romania's ratings are supported by a stable banking sector. Banks are well capitalised (sector capital adequacy ratio 18.8%, 2016), sufficiently funded by local deposits and their balance sheets continue to improve as the share of non-performing loans declines. Legislative risks to the sector have stabilised following a favourable ruling by the Constitutional Court on the Debt Discharge Law, which diminishes the risk of a large financial cost for the sector. However, leglislation on CHF loan conversion law is still pending.

SOVEREIGN RATING MODEL (SRM) and QUALITATIVE OVERLAY (QO)

Fitch's proprietary SRM assigns Romania a score equivalent to a rating of 'BBB+' on the Long-Term FC IDR scale.

In accordance with its rating criteria, Fitch's sovereign rating committee decided not to adopt the score indicated by the SRM as the starting point for its analysis because the SRM output has migrated from 'BBB' to 'BBB+', but in our view this is potentially a temporary improvement.

Assuming an SRM output of 'BBB', Fitch's sovereign rating committee adjusted the output to arrive at the final Long-Term IDR by applying its QO, relative to rated peers, as follows:

- External Finances: -1 notch, to reflect Romania's significantly higher net external debtor position than the 'BBB' median, and lower international liquidity ratio than the 'BBB' median.

Fitch's SRM is the agency's proprietary multiple regression rating model that employs 18 variables based on three year centred averages, including one year of forecasts, to produce a score equivalent to a LT FC IDR. Fitch's QO is a forward-looking qualitative framework designed to allow for adjustment to the SRM output to assign the final rating, reflecting factors within our criteria that are not fully quantifiable and/or not fully reflected in the SRM.

RATING SENSITIVITIES

The Stable Outlook reflects Fitch's assessment that upside and downside risks to the rating are currently balanced. The main risk factors that, individually or collectively, could trigger negative rating action are:
-Significantly higher fiscal deficits and worsening of government debt dynamics.
- A deterioration in external debt dynamics.

The main factors that could, individually or collectively, trigger positive rating action include:
- Credible fiscal consolidation, which improves the long-term trajectory of public debt dynamics.
- Sustained improvement in external finances.
- Sustainable improvement in GDP per capita levels and other structural indicators.

KEY ASSUMPTIONS

Fitch assumes that under severe financial stress, support for Romanian subsidiary banks would come first and foremost from their foreign parent banks.

Fitch assumes Romania's main economic partners in the EU will benefit from a gradual economic recovery.

Source: Fitch statement