(Fitch Press Release) Fitch Ratings has downgraded the Republic of Ireland's (Ireland) Long-term foreign and local currency Issuer Default Ratings (IDRs) to 'A+' from 'AA-' respectively. The Outlooks on the Long-term IDRs are Negative. Fitch has simultaneously downgraded Ireland's Short-term foreign currency IDR to 'F1' from 'F1+'.
The Euro Area Country Ceiling of 'AAA' remains unchanged. The notes issued by the National Asset Management Agency (NAMA) have also been downgraded to 'A+' from 'AA-' and to 'F1' from 'F1+', in line with the sovereign ratings.
"The downgrade of Ireland reflects the exceptional and greater-than-expected fiscal cost associated with the government's recapitalisation of the Irish banks, especially Anglo Irish Bank," said Chris Pryce, Director in Fitch's Sovereign Group. "The Negative Outlook reflects the uncertainty regarding the timing and strength of economic recovery and medium-term fiscal consolidation effort."
Typically a Negative Outlook implies a slightly greater than 50% probability of a further downgrade over a 12-24 month horizon. The triggers for a revision of the Outlook to Stable would be evidence of sustained economic recovery and fiscal consolidation. The ratings could be downgraded further if the economy stagnates and broad-based political support for and implementation of budgetary consolidation weakens.
Fitch believes that the latest government estimate - announced on 30 September - of the fiscal cost of recapitalising Irish banks and the transfer of assets to NAMA are plausible, particularly if account is taken of the additional EUR5bn estimated for the stressed case. Moreover, the large cash buffer of more than EUR20bn, around EUR14bn of uncommitted funds of the National Pension Reserve Fund (NPRF) as well as ongoing bank funding support from the ECB means that Ireland still retains considerable financial flexibility. Despite the weak performance of the economy, the underlying budgetary position remains in line with the targets set out in the 2010 Budget and Fitch expects a further strengthening of the fiscal consolidation effort to be set out by the Minister of Finance in November.
On the basis of its central case, the government's total direct bank bailout costs will rise to EUR45bn from the EUR23bn assumed at the time of Fitch's last rating action on 4 November 2009. Of this EUR45bn, EUR29.3bn will be on account of Anglo Irish Bank ('BBB-'/RWN), already 100%-owned by the state. The remainder will be spread over the other four Irish banks. In some cases government assistance has been given indirectly by the state-owned NPRF in which case the transactions will show up as a rise in net debt, rather than the more commonly used gross debt measure.
General government gross debt (excluding debt issued by NAMA to fund asset transfers from the banks) will rise to 99% of GDP at end-2010 from the 78% previously predicted by the government. This increase is explained by the issuance of promissory notes to re-capitalise Anglo Irish Bank and Irish Nationwide Building Society in 2010 and by a downward revision to the estimated level of nominal GDP for 2010. While the promissory notes have an immediate full impact on the stock of gross debt, their funding cost is spread over a 10-15 year period. Net government debt that takes into account the government's cash buffer and the assets of the NPRF is forecast to be around 76% of GDP by year-end (90% excluding NPRF assets). Moreover, though the cost of bank recapitalisation is much greater than anticipated, the estimated cost of transferring assets to NAMA has consequently fallen to EUR31bn from EUR54bn. NAMA debt is not formally counted as part of government debt (though it is guaranteed by the state). However, it does represent a significant contingent liability. Fitch believes it is reasonable to assume that NAMA will over the long-term break-even given the average 58% discount that has been applied to transferred assets compared with an original forecast of around 30%.
The broad general government deficit for 2010 will be equivalent to an unprecedented 32% of GDP. However, in large part this reflects a ruling by the European statistical agency, Eurostat, that the issue of promissory notes by the government to the banks should be treated as 'above the line' budgetary expenditure. Fitch believes stripping out these one-off transactions provides a more appropriate measure of the underlying fiscal position which is now forecast to be a deficit of 11.9% of GDP, close to the initial government forecast for 2010.
A key element of strengthening confidence in the sustainability of public finances over the medium-term will be the announcement in early November of a 'four year profile' (2011 to 2014) for the budget including details of the adjustment necessary in terms of tax revenue as well as public expenditure. Broad-based political support would help strengthen the credibility of the medium-term fiscal consolidation effort.
The timing and strength of economic recovery is also critical to firmly placing public finances on a sustainable path. A rebalancing of the economy is underway. Ireland is regaining its international competitiveness lost during the 'boom' years and the current account of the balance of payments is expected to move to balance during 2011. Moreover, the drag on growth from the collapse of the construction boom has mostly run its course. Nevertheless, the ongoing distress in the housing and commercial real estate markets, household sector de-leveraging and the uncertainty over the global economic outlook, especially important given Ireland's open and internationally orientated economy, weigh on growth prospects and fiscal outlook.