BMI Sovereign Ratings Index Methodology
The BMI Sovereign Risk Ratings Index has been compiled to give a clear, forward looking and mutli-faceted view of sovereign risk. The index gives a balanced perspective, measuring countries' ability to honour their debt obligations and also their willingness to do so. We have rated each country over a five-year period (incorporating both historic and in-house forecasts) in order to assess the evolution of sovereign risk over an extended duration over what is proving to be a crucial period in the development of these emerging economies. On the Ability To Pay side, we consider key economic indicators, including growth, its deviation from its long-term trend, inflation, trade, and the level of external debt in relation to GDP and to exports. We also assess the level of foreign exchange reserves, which are fundamental to paying external debt obligations, and the primary fiscal balance, which we view as a particularly useful indication of the government's commitment to covering its debt servicing costs. Another important element is foreign exchange rate risk which is especially important for measuring the risk of country's exposure to dollar or euro denominated debt. Finally, we also take into account BMI's own short-term economic risk ratings, which are compiled from an in-depth analysis of a wide selection of key macroeconomic variables.
In the Willingness To Pay section, we dissect the authorities' attitudes towards their financial obligations. To do this, we have considered the extent to which the government has proved itself committed to servicing its debt, both in its public pronouncements and in its policy responses. The fiscal outlook in particular is closely examined in order to gauge exactly how prudent the government plans to be with regard to making the necessary cut-backs to prioritise debt repayments. Emphasis is also placed upon the extent to which the government has a mandate to enact crucial fiscal reforms, and whether there is policy cohesiveness and agreement in the top levels of government. Our assessment of the credibility of the monetary authorities and monetary policy is also factored in to the rating in order to assess whether inflation and money supply growth are likely to be kept under control. Obviously, political risk influences the government's willingness to service its debt, and we analyse possibility of political turmoil, whether in the form of corruption, changes within or between administrations, weak governments, or potentially destabilising elections. The latter may well prompt a relaxation of fiscal discipline even if they are unlikely to lead to a hand-over of power. BMI's short-term political risk ratings, which quantify domestic political considerations including policy-making capability, succession, public participation in the democratic process, and unemployment, are also factored in to our calculations.
Finally, we quantify our own technical view of the market in the Market Outlook section. This is based on how we view the market trending over the coming year. We use five-year credit default swaps (CDS) instead of benchmark sovereign bonds to assess future market performance, as in many cases, these derivatives are more heavily traded and allow investors a much easier way of expressing a negative stance on a particular country. This view encompasses not only the outlook for the domestic economy but also the external investment climate for emerging markets debt, thus weighing up conditions including key commodity prices, global growth, political risk and interest rates.
