Sovereign ratings in the Middle East have the scope to withstand a short regional conflict, Fitch Ratings has said – but further escalation and associated damage to energy infrastructure could lead to downgrades.
The agency predicts that the conflict will last less than a month, noting that attacks by Iran and its proxies will continue and perhaps intensify.
In response to recent events in Iran, Fitch has added a negative qualitative overlay (QO) notch to its sovereign rating models (SRMs) for Israel, Abu Dhabi and the UAE. These have been included in addition to World Bank Governance Indicators on sovereign ratings, which reflect geopolitical risk. The notches provide additional rating headroom, Fitch stated, but added that Israel could receive a downgrade from its current ‘A’ status.
“Israel’s governance indicators already capture some of the exceptional direct security risks, and the hostile external environment is one driver of a negative notch we apply to Israel’s SRM outcome,” Fitch said.
“An extended regional conflict, particularly involving major mobilisation of reservists, could still cause a downgrade, given Israel’s limited headroom at its ‘A’ rating. This is reflected in the Negative Outlook on the rating.”
Across the region, damage to energy export infrastructure is expected to put the most pressure on sovereign ratings. Fitch anticipates that the Strait of Hormuz will remain closed for the duration of the conflict, causing a near-term hit for countries including Bahrain, Kuwait, Qatar and Iraq. However, both Saudi Arabia and the UAE can bypass this route.
The impact on export earnings could be offset by increased energy prices, Fitch adds, stating that countries in the region have sufficient assets in place to provide a buffer to short-term disruption.
Beyond oil, slowed consumer activity and travel and tourism activity will be a temporary issue, Fitch expects – but warns that housing markets could see further stress from expatriate outflows. Low tax in these sectors mean that this will only lightly impact public finances, the agency said.
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