Bulgaria: Exposure to Russia, Ukraine Is a Drag on Growth; Rating Upside Depends on Euro Progress

The improved economic planning and enhanced political stability under Bulgaria’s new administration since December 2021 bodes well for the credit outlook (rated BBB+ by Scope). The government confirmed plans to adopt the euro by 2024, appropriately prioritising the fight against corruption and strengthening rule of law, areas in which previous governments had made limited progress amid political instability and a lack of political commitment.

The challenge now is preserving political stability and reform momentum – vital for euro-area authorities’ continued political backing of Bulgaria’s accession – amid economic and political repercussions of the Russia-Ukraine war, which will be felt across central and eastern Europe (CEE), particularly on near-term economic growth. For Bulgaria, we forecast real GDP growth of 1.8% in 2022, down from 4.2% in 2021.

Even compared with other CEE EU states, Bulgaria relies heavily on Russia for its energy needs

Bulgaria currently relies on Russia for almost all of its natural gas

Bulgaria currently relies on Russia for almost all of its natural gas. The country’s 10-year deal with Russian state-controlled Gazprom expires at end-2022 and Bulgaria is accelerating projects to start replacing Russian gas. Construction underway of a new gas pipeline connected to a planned liquefied natural gas terminal in Greece, due to be operational by 2023, would allow Bulgaria access to alternative gas supplies from exporters such as the United States, Egypt and Qatar. Entirely replacing reliance on energy imports from Russia, however, will require time.

In the near term, the economic impact of Russia’s war in Ukraine and sanctions imposed on Russia will mostly be felt via higher commodity prices – particularly energy and agriculture – and shortages of some products with an impact on household budgets and corporate profitability. Inflation (HICP) was 8.4% YoY in February, up from 7.7% in January, and higher than a euro area average of 5.9%. Russia and Ukraine together accounted for nearly 10% of Bulgarian aggregate import of goods in 2021 and the two countries are also important sources of wheat.

Institutional reforms are vital for raising economic growth potential

In the medium run, more institutional reforms are vital to boosting economic growth potential to above our current estimate of 2.75% a year in addition to meeting common EU objectives such as addressing environmental risk, ensuring greater digitalisation and raising infrastructure investment via improved use of EU funding. Bulgaria has requested a total of EUR 6.6bn in grant monies under the EU Recovery and Resilience Facility, equivalent to 10% of 2021 GDP.

However, rebuilding popular confidence in the government remains a challenge given resistance of some core judicial institutions in Bulgaria to change, the result of an enduring influence of former premier Boyko Borisov, whose GERB party dominated politics over more than a decade.

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Levon Kameryan is Senior Analyst in Sovereign and Public Sector ratings at Scope Ratings GmbH.