Billionaire Business Empire Aids Czech Bonds: East Europe Credit

Czech Finance Minister Andrej Babis says he wants to manage public finances in the same way he ran his $12 billion business. Bondholders approve, awarding the three-month-old government with the lowest yields since May.

The country’s second-richest person, owner of Agrofert AS chemicals and food producer, is forcing companies controlled by the state to send more profits to the government, investing idle public funds in the money market and constraining Prime Minister Bohuslav Sobotka’s calls for extra spending. In this way, Babis sees the budget deficit at 1.8 percent of gross domestic product this year, instead of an earlier 2.9 percent target.

Sobotka and Babis, leaders of the two biggest parliamentary parties, are trying to overcome political differences to combine pro-growth measures, including spending on roads and welfare, with fiscal responsibility a year after the economy exited its longest recession on record. The yield on Czech Eurobonds due in May 2022 has dropped 46 basis points since the cabinet was named on Jan. 29 to an 11-month low of 1.94 percent today, reducing the premium over German bunds to the least since January.

“Compared with the previous administrations, we’ll see some positive fiscal stimulus but without any reckless spending,” Martin Rezac, chief executive officer at Investicni Spolecnost Ceske Sporitelny AS, which manages $8.6 billion of assets in Prague, said by e-mail yesterday. “Mr. Babis will try to impose a rational structure on public spending and will push investment projects with some added value.”

Reversing Austerity

The three-party coalition government is seeking to reverse the austerity drive pursued by Premier Petr Necas from 2010 to 2013. While Necas’s spending cuts helped secure borrowing costs that are the lowest in emerging Europe and below higher-rated U.S., they exacerbated the country’s economic downturn, which lifted unemployment to a record.

Babis, 59, has blocked Sobotka’s plan to boost revenue by lifting taxes on utilities and banks. He says the government should instead save money by fighting tax evasion and running a more efficient state administration, with less red tape to lure foreign investments.

The minister started Agrofert in 1993 with $5,000 in capital and four employees. The company, with assets including food producers, fertilizer makers, forestry and media, had unconsolidated sales of 236 billion koruna ($12 billion) in 2013, according to data from its website.

‘Actively Managing’

“I will run the ministry like a company,” Babis said at his first press conference as finance minister on Jan. 29. “Public finances should not be a mere accounting exercise. Someone should start actively managing the expenditure, so we know in detail what taxpayers are paying for.”

While the government has agreed to keep the public-finance deficit within the European Union limit of 3 percent of GDP, Babis has clashed with Sobotka on spending. The latest fight erupted when Sobotka’s Social Democrats proposed 1.1 billion koruna of aid on April 1 to help miners at New World Resources Plc.’s unprofitable Paskov mine. Babis rejected the sum as too high and negotiated a new deal that cut state support in half.

“We agreed that the state should be saving money,” Babis told public broadcaster Czech Television on April 4. “The Social Democrats only want money. They don’t know what it means to save money, or how to function rationally.”

Tension in the coalition rose when Sobotka urged Babis on March 28 to sell Agrofert to eliminate “questions about any conflict of interest,” CTK news service reported. Babis refused, telling the premier he could dismiss him or find another coalition partner if he is bothered by his ownership.

Growth Acceleration

Babis and Sobotka have agreed to give hospitals more money this year and next, as well as increasing pensions from 2015.

The government is benefiting from accelerating economic growth this year, partly fueled by a central bank intervention in November to weaken the koruna. The Finance Ministry increased its forecast for Czech GDP growth this year to 1.7 percent on April 11 from 1.4 percent predicted earlier. That is still less than the Czech National Bank’s 2.2 percent projection.

The narrowing budget deficit “allows the authorities ample room for fiscal policy maneuvering as they seek to undertake measures to support the economic recovery,” Moody’s Investors Service analysts Jaime Reusche in New York and Dietmar Hornung in Frankfurt wrote in an e-mailed report on April 3.

Moody’s rates Czech bonds at A1, its fifth-highest grade and the best in emerging Europe along with euro-member Estonia.

Bond Rally

The extra yield investors ask to hold Czech Eurobonds due 2022 rather than similar-maturity German notes has narrowed to 70 basis points, or 0.70 percentage point, today at 4:29 p.m. in Prague from 99 basis points on Jan. 29. Comparable rates on higher-rated U.S. Treasuries stood at 2.49 percent, 55 basis points higher than on the Czech euro notes, according to data compiled by Bloomberg.

Demand for Czech bonds rose after the central bank sold 200 billion koruna in the currency market in November to weaken the exchange rate, flooding local investors with extra liquidity. Czech banks, some of the best capitalized in Europe, have been allocating part of the fresh funds to sovereign notes.

The government today sold 11 billion koruna of debt due in 2019, 2025 and 2036, with investors bidding for 19.6 billion koruna of the securities, according to central bank data. The average accepted yield on the October 2019 bond fell to 1.14 percent, the lowest ever for the maturity, from 1.46 percent at its last offering on Feb. 12.

Budget Income

Better-than-expected budget income may allow the government to curb debt sales in 2014 and 2015, Marek Drimal, a strategist at Komercni Banka AS in Prague, said by phone yesterday.

“The narrowing of the budget deficit compared with earlier plans reflects both faster Czech economic growth and relative fiscal prudence of the new finance minister,” Drimal said. “This will make Czech bonds even more resilient to any increase in yields related to the economic recovery.”

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