About ratings in general

A sovereign rating is a rating agency's assessment of a sovereign's ability and willingness to meet the country's debt obligations in the future. The sovereign credit rating forms usually the rating ceiling for all the enterprises in the country and determines the price of credit. Rating agencies assess the sovereign's ability to meet its obligations both in foreign exchange and in its own currency. The local currency rating may be higher than the foreign currency rating, since it is assumed the sovereign is able to raise national taxes or print more money to meet the obligations nominated in its local currency. From the international viewpoint it is the foreign currency rating that counts the most and this is what is meant when one speaks about the sovereign rating.

A rating outlook indicates the potential future direction of a rating. Rating outlooks are divided into four categories: positive, negative, stable and developing.

Rating review/watchlist. If a rating agency is of the opinion that certain events or conditions are likely to affect the rating in the short term (usually within 90 days), the agency may place the rating on the watchlist for possible upgrade or downgrade.

More prominent international rating agencies:
       Moody's Investors Service
       Standard & Poor's
       Fitch Ratings

Symbols for long-term ratings

The process of assigning ratings

The aim of rating agencies in assigning a country's credit rating, i.e., sovereign rating, is to provide an independent, objective and very high-quality assessment of the government's ability and will to timely meet the country's debt liabilities in the future, proceeding from relevant and reliable information the agencies consider necessary. Ratings are assigned on a preliminary basis and changed in retrospect by a decision of a ratings committee. The chief analyst for an enterprise, country or asset type prepares a report to the ratings committee, including a rating recommendation together with justifications. A ratings committee normally consists of the chief country analyst, a back-up analyst and other agency representatives.

When rating agencies assess a country, they use both quantitative economic indicators and quantitative evaluations of the country's credibility.

   More significant economic indicators include, for example, economic growth, per capita income, fiscal balance, public and private sector indebtedness, current account deficit, the ratio of imports to external reserves, several financial stability indicators, etc.
   Quantitative analyses use such assessments as general and economic policy stability, relations with neighbouring countries and trading partners, etc.

The process of determining a sovereign rating broadly consists of three parts:

   assessing general economic strength and resilience to shocks;
   assessing public finances and payment risks;
   determining the final rating taking into account the results of the two previous steps, the ratings of comparable countries and other factors, if necessary.

The assessment of general economic strength is based on GDP per capita, as well as on economic versatility, competitiveness and the soundness of institutions. The factors looked at when assessing the government's debt servicing ability include indicators of indebtedness and debt servicing, as well as market access and the government's ability to create resources for debt servicing. In respect of assigning the foreign currency rating, agencies consider the sovereign's balance of payments situation and thus also the private sector's external liabilities along with servicing those liabilities. The banking sector situation is also important here, from the point of view of financing possibilities, balance of payments and potential liabilities.

Estonia's sovereign rating 1997-2010

Since 1997 Estonia is being assessed by three main international rating agencies: Standard & Poor's, Moody's Investors Service and Fitch Ratings. Eesti Pank manages relations between Estonia and the rating agencies. This includes rating agencies' visits once a year and day-to-day communication with the analysts. All the ratings assigned to Estonia by the three agencies have been within the investment grade. Among the factors supporting Estonia's sovereign ratings the rating agencies have highlighted the outlook for joining the euro area, the foreign-owned banking system, strong fiscal policies and flexible economy. The ratings assigned to Estonia have been higher compared with other countries in the region. The following table presents the factors supporting and weakening Estonia's ratings as listed in the most recent reports issued by the rating agencies.

	Factors supporting ratings	Factors weakening ratings
Standard & Poor's (August 2010)	A strong record of fiscal prudence and sizable government liquidity buffer.    Competitive and open economy that is flexible enough to cope with temporary demand shocks    A competitive and open economy that is flexible enough to respond to temporary demand shocks.	Relatively low income level.    Potentially high contingent liabilities from the financial system, which are partly mitigated by supportive Nordic ownership.    Reliance on external market conditions.
Fitch Ratings (April 2010)	The rating is supported by the country's institutional strengths. Estonia outperforms the BBB range and A range medians on the World Bank's Governance Indicators and the Ease of Doing Business index. Reforms over the past decade have reduced structural rigidities and increased labour and product market flexibility. The wage adjustment now underway also illustrates the relative flexibility of the economy. Income per capita is significantly higher than in most BBB range peers and in line with A range sovereigns.    Foreign bank ownership limits the sovereign's contingent liabilities through the provision of liquidity and capital support to the domestic banking system. It also mitigates the risk to the external finances, as 48% of Estonian GXD takes the form of parent daughter bank financing, which Fitch expects to be rolled over if needed.    Estonia's public finances are strong, with low general government debt/GDP (7.2%) and deficit/GDP (1.7%). That such a large economic contraction was able to take place with minimal impact on the government debt stock speaks to the fiscal rectitude of the authorities. Strong public finances bodes well for Estonia's likely future within the euro area.	While the economy's net external debt position (38% of GDP) is reasonable by Baltic comparison (48% of GDP for Lithuania and 70% for Latvia), it is higher than the BBB range median (2% of GDP). Furthermore, although the process of external deleveraging has begun, capital market conditions remain fragile. Given Estonia's low international liquidity, the external balance sheet remains a risk to the rating until euro area membership is assured.    Private sector indebtedness is high and out of line with the country's income per capita level. This poses a downside risk to medium term growth, as the deleveraging process within a deflationary environment will likely suppress consumption and investment.

Sources used:

   www.standardandpoors.com
   www.moodys.com
   www.fitchratings.com