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Fitch downgrades Ukraine to CCC.

February 11, 2014

Fitch Ratings has downgraded Ukraine's Long-term foreign currency Issuer Default Rating (IDR) to CCC from B-, and affirmed the Long-term local currency IDR at B-. The Outlook on the local currency IDR is Negative. The issue ratings on Ukraine's senior unsecured foreign and local currency bonds are also downgraded to CCC from B- and affirmed at B- respectively. The Country Ceiling is downgraded to CCC from B- and the Short-term foreign currency IDR is downgraded to C from B.

According to the agency, political instability has increased significantly since Fitch's last rating review on Nov 8 2013, adding to pressure on the sovereign credit profile.  The agency downgraded the ratings due to the escalation of social and political tensions in the country, and the associated risk of a severe administrative crisis and/or prolonged political uncertainty.

The government reaction to the protests has weakened its popular legitimacy and put diplomatic ties under pressure. PM Mykola Azarov has resigned in January along with the rest of the government. Opposition leaders have rejected a power-sharing offer and called for constitutional changes and early presidential elections in return for ending the protests, however talks between them have so far progressed slowly. This raises the risks of a prolonged impasse and renewed disorder, and increased policy uncertainty, the agency believes.

Fitch notes that sovereign access to external financing and its ability to refinance a significant external debt repayment schedule, have worsened. In addition, Russia has decided to wait with disbursement of further financial aid until the formation of a new government. Fitch has previously warned that further Russian support is likely conditional on President Yanukovych's continued political survival. Fitch no longer believes that Russian loan will be disbursed in full, while Ukraine has lost external market access. Ukraine's international reserves declined to USD 17.8bn in January from the already low level of USD 20.4bn at end-2013, reducing the buffer available to the sovereign to service external debt.

Political turmoil in the country has added to a weakening in confidence in the Ukrainian hryvnia and in the exchange rate policy. The National Bank of Ukraine (NBU) sold at least USD 2bn to support the currency since the beginning of January, and the hryvnia has depreciated 7% against the USD. Even though, orderly currency depreciation may help external adjustment (the current account deficit reached 8.9% of GDP in 2013) and ration NBU reserves, there is a risk of a steep and uncontrolled depreciation. Political uncertainty raises the risks of capital flight and financial instability.

The NBU has decided to impose temporary rules for stabilization of the currency market. The rules are aimed at strengthening of control and transparency of interbank operations of legal persons. Following the situation on the currency market stabilizes, those measures will be abolished.  In particular, the NBU has imposed a temporal ban on sale of foreign currency at the interbank forex market for early redemption of loans, investments abroad, and also for insurers' partly covering actuarial reserves.

The resolution also supposes setting zero rate of funds reservation under the banks' contracts on raising funds in foreign currency from non-residents for the term of up to 183 running days. The NBU underlines, the measures stipulated in Resolution 49 are required to ensure stability of the hryvnia, protection of depositors' interests, and maintaining price stability. These developments pose liquidity and asset quality risks, given the large amounts of foreign currency debt on private sector balance sheets, Fitch sums up.

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Source: IntelliNews - Weekly Reports

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