Fiscal Conditions, Political Stability, and Sovereign Credit Ratings of Countries Across the Globe

This study examines the direct effects of fiscal condition indicators (fiscal balance and external debt) and political stability on sovereign credit ratings, and the moderating role of political stability, using panel data from 71 countries covering the period from 2002 to 2023, which was further decomposed based on economic development levels. I used the dynamic BCMM to estimate the baseline results and applied the DKSE estimator for robustness checks and sensitivity analysis. The BCMM results show that fiscal balance and political stability positively affect sovereign credit ratings, while external debt has a negative effect. The magnitude of these effects varies, and they are more pronounced in EMDEs. The empirical results also show that political stability makes fiscal balance have a net positive marginal effect on sovereign credit ratings, while it turns the negative effect of external debt positive, especially in EMDEs. However, the study finds no statistically meaningful non-linear thresholds for political stability, implying a monotonic relationship when political stability interacts with fiscal balance and external debt. Among the control variables, economic growth, FDI, trade openness, and financial market depth are significantly and positively associated with sovereign credit ratings, while the current account balance and inflation are significantly and negatively associated. In comparison, the study finds empirical evidence that advanced economies' more favorable ratings than EMDEs can be attributed to better debt management capacity, deeper financial markets, and greater global trade, along with lower risks from current account deficits and inflation. The findings have significant implications for policymakers and global rating agencies in formulating policies that ensure better, more objective sovereign credit ratings and competitiveness in international capital markets.