S&P Downgrades Irish Debt

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International ratings agency Standard & Poor's on Tuesday cut the Irish Republic's sovereign credit rating, citing the country's larger than expected borrowing requirements to finance its troubled banking system.

The credit rating was cut by two notches to A from AA- and the short-term rating was lowered by one notch to A-1 from A-1+. Both were placed on CreditWatch with negative implications, meaning more downgrades are likely.

The rating action comes as Dublin prepares to unveil its four-year budgetary plan to cut its public spending deficit to under 3% of output from the current 14.4%.

"The lower ratings reflect our view that the Irish government will have to shoulder additional costs associated with further capital injections into Ireland's troubled banking system," S&P analyst Frank Gill said.

On Sunday, Ireland confirmed that it was applying for a financial rescue package from the European Union and the International Monetary Fund to repair its public finances, with reports estimating the size of the package at 80-90 billion euros.

Prime Minister Brian Cowen announced that the lossmaking banking sector will be reduced in size so it can be put back on its own two feet. Ireland's quasi-nationalized banking sector, which has already absorbed around 45 billion euros of taxpayer funds, is largely financed by emergency European Central Bank funding.

S&P said the impending bailout had saved the country from a more drastic downgrade.

"We think it reasonable to expect that the E.U.-I.M.F. Program currently being negotiated should help Ireland manage its downsizing of the commercial banks' balance sheets," Gill said.

"However, accelerated asset disposal could in our view hasten the need for additional capital requirements as some assets could be liquidated at prices below carrying values."

While the rescue deal may instill greater market confidence, it will not reduce the levels of private and public debt, S&P warned. The agency forecast net Irish government debt at the end of 2012 to exceed previous projections of 113% of G.D.P.

"The outlook for future costs to the government from financial retrenchment remains uncertain," Gill said. "In our view, Ireland's banking system is unlikely to be in a position to support the country's economic growth."

S&P expects near-zero economic growth in Ireland for 2011 and 2012 as a consequence of the high overhang of private debt, fiscal austerity, and the uneven outlook for external demand in Europe.

The agency said more downgrades could be on the way if negotiations over the terms of the E.U.-I.M.F. program or over Ireland's 2011 Budget fail to stem wholesale funding outflows. Other factors include a weakening of the domestic policy consensus or the emergence of a European sovereign debt restructuring framework.

However, S&P ruled out the possibility of Ireland's debt rating falling out of the investment-grade category to "junk" status.

Budget cutbacks totaling at least 15 billion euros over the next four years will be unveiled later today as part of Dublin's budgetary strategy to address the deficit. The government is poised to frontload 6 billion-euro worth of cuts in its 2011 Budget.

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