Credit Agencies Look Past Israeli Turmoil to Find a Thriving Economy

S&P may upgrade Israel Friday amid strong metric on debt, GDP growth

A pedestrian passes in front of Standard & Poor's headquarters in New York, U.S., on Tuesday, Feb. 5, 2013
Bloomberg

On Friday, Standard & Poor’s — one of the big three credit rating agencies — will release its half-year report on Israel. The news could be good, in the form of the country’s first upgrade in seven years.

Even if it’s not, and S&P keeps Israel’s credit rating at A-plus, it’s destined eventually to be lifted. A year ago, the agency raised Israel’s outlook to “positive” from “stable,” and in February it said a raise would probably occur in the next 18 months.

If the raise doesn’t happen this week, it’s probably because the S&P analysts think Israel’s fiscal situation hasn’t improved enough and they would prefer to wait.

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S&P isn’t alone is looking favorably on Israel: Two weeks ago Moody’s Investors Service, another of the big three, revised Israel’s sovereign debt outlook to “positive” from “stable.” It now rates Israel A1, the equivalent to A-plus on its ladder.

A listers
Changes in S&P credit ratings over 30 years

The fact that Israel stands in such good favor with the world’s credit rating agencies might come as a surprise to Israelis or people abroad. Israel seems to be a cauldron permanently astir with armed conflicts, terrorism, frequent social fissures, coalition crises and politicians under investigation.

But from the view of the credit agencies this is mostly irrelevant: They want to know whether the country or company they are rating can repay its debt to bondholders on time. It’s a cold calculation but one that cuts through a lot of extraneous factors and focuses on economic performance.

On that account, Israel in recent years has been in an envious position: Compared to other developed economies, economic growth has been brisk, its fiscal situation has improved and its population is growing.

“Countries, like big corporations, are big ships that are slow to change course,” said one economist familiar with the work of the agencies.

“Even if a particular year look problematic economically, when you look at the big picture you rarely feel it. In recent years Israel has been involved in military conflicts, but they didn’t cause long-term harm to the economy. The Bank of Israel’s policies have strengthened the economy,” he said.

He looks at the work of credit agency analysts as a “lie detector” that looks past official spin or bearish headlines.

More than providing investors with a way to assess who they’re lending to, credit ratings are a seal of approval for the countries and companies that get them. When an agency issues a “positive” outlook or raises a rating, finance ministers are quick to issue press statements lauding the “vote of confidence.”

Falling risk
Price of credit default swaps for Israeli government
dollar debt, basis points

Conversely, governments can lash out at agencies that give them a bad report card, or threaten to. In June, Turkish President Recep Tayyip Erdogan threatened to conduct an “operation” against Moody’s after it placed the country on review for a downgrade.

Seven years ago, when S&P downgraded the mighty U.S. government’s rating from Triple-A to Double-A-plus it was sharply criticized by Treasury officials and the Obama administration. Not long after S&P replaced its president, Deven Sharma, in what was widely seen as an effort to mend relations with the U.S. Treasury.

Governments like good report cards, but bad ones cost them money: A lower rating means they will have to pay a higher rate of interest when they borrow because they have deemed a bigger credit risk. Thus, when cabinet ministers are pressing to increase spending and increase the budget deficit, treasury officials are wont to warn them about what it will mean for Israel’s rating.

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Israel’s rating now is A-plus or the equivalent at all three agencies (Fitch Ratings is the third), a rating it shares with such disparate countries as Japan, Bermuda and China.

The agencies provide an updated forecast twice a year, but the work they do is ongoing. It involves not only poring through official data on government spending, inflation, economic growth and the like but looking at subjective data often gleaned from the news media. Having timely and reliable data and a free press works in a country’s favor.

Once a year, a delegation of credit analysts will actually come for a visit, meeting with officials from the Bank of Israel and the treasury. They will also take time out to meet with bankers, business people, army brass and journalists.

With so much hanging on a sovereign rating, officials will offer up formal presentations and answer questions. Even the finance minister and governor make time to meet with the analysts.

A final decision on the rating is taken by a committee of three or five analysts and a draft of the report is then sent to the Finance Ministry, where officials can suggest comments or corrections. The fact is the treasury, like corporations, pays for the rating — a fee equal to 0.0675% of the proceeds of a bond issue, or at least $100,000. With the final approval, the formal report is published.