Ireland Stung by S&P Downgrade

August 25, 2010

Ireland’s financial headache worsened on Wednesday after Standard & Poor’s cut its credit rating in a move criticized by the country’s debt management agency.

In a strongly worded statement, the National Treasury Management Agency said it disagreed with S&P’s view that Ireland faced substantially higher costs to bail out its ailing banking sector.

“In terms of the specific analysis by S&P, this is largely predicated upon an extreme estimate of bank recapitalization costs of up to €50 billion [$63.6 billion],” the NTMA said. “We believe this approach is flawed.”

Concerns over the final bill for purging Irish banks of bad debts clocked up in a decade-long property binge have pushed Ireland back to the centre of the European debt crisis and it is viewed as the second riskiest euro zone country after Greece.

The premium investors demand to hold Ireland’s 10-year bonds over German bunds has been steadily widening in the past few weeks and remained elevated at 327 basis points on Wednesday. The spread finished at 330 bps on Tuesday, its highest level since the Greek financial crisis broke in May.

Brenda Kelly, an analyst at CMC Markets, said she expected Irish borrowing costs to climb on the back of S&P’s move. “I think we are going to have to an awful lot more in interest payments,” she said.

Although Ireland has raised virtually all of the €20 billion [$25.44 billion] of long-term debt targeted for 2010, S&P’s move may make it more difficult for the country’s banks to extend the maturity of their funding later this year and eventually wean themselves off a state guarantee on their debt.

The NTMA will auction treasury bills worth between €400 million [$509 million] and €600 million [$763.2 million] on Thursday as part of a regular sale of short-term paper.

S&P cut Ireland’s long-term rating by one notch to ‘AA-‘, the fourth highest investment grade, and assigned the country a negative outlook late on Tuesday saying the cost to the government of supporting the financial sector had increased significantly

Rating agencies have been steadily hacking away at Ireland’s credit rating and S&P’s is now on a par with Fitch and one notch below Moody’s, which cut its rating to Aa2 last month.

S&P said it expects Ireland will need to spend €90 billion [$114.5 billion] to support its banking system, up from its prior estimate of €80 billion [$101.8 billion] including capital used to improve the solvency of financial institutions and losses taken from loans the government acquired from banks.

Ireland’s budget deficit ballooned to 14 percent of gross domestic product, the highest in Europe, last year due to the cost of propping up nationalized lender Anglo Irish Bank, and it could climb higher if Dublin injects an additional €10.05 billion [$12.79 billion] into the bank.

Ireland’s central bank governor said last week that the final bill for Anglo could be between €22-25 billion [$28 and $32 billion], though the cost of bailing out the lender would not increase debt to an unmanageable level.

(Editing by John Stonestreet)

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