Ireland downgraded by Moody's

Moody's slashed Ireland's credit rating five notches on Friday and warned of further downgrades if the country cannot regain command of its debts and tame its deficit.

Dietmar Hornung, senior Ireland analyst for Moody's, said it remained an open question whether Ireland could sharply reduce its deficit from its eurozone-record levels while taking tens of billions from a new EU-IMF bailout fund.

Hornung lauded Ireland's deficit-fighting plan to impose €10 billion ($13.3 billion) in cuts and €5 billion ($6.65 billion) in tax increases by 2014, but cautioned that pulling so much money out of an already fragile economy "represents a further considerable drag on the country's recovery prospects."

Moody's dropped Ireland's rating to Baa1 — just three steps above junk-bond status — in a move similar to last week's BBB+ downgrade by rival ratings agency Fitch. The other major agency, Standard & Poor's, cut Ireland two notches to A on Nov. 23 and is expected to drop its grade further in coming days.

While Fitch has put Ireland on a stable outlook, meaning no further downgrades are expected, Hornung said Moody's was keeping Ireland on a negative outlook because it sees more negatives than positives in Ireland's future.

Banks still vulnerable

He said Ireland remained vulnerable to further dud-loan shocks in its banks, which invested hundreds of billions in foreign borrowings on Ireland's runaway property market during the Celtic Tiger boom of 1994-2007, and has suffered catastrophic losses since the market collapsed in 2008.

Ireland that year imposed a blanket guarantee on all Irish banks' debt obligations in a failed effort to keep their funding streams healthy. Ireland has since has been forced to nationalize or take major equity stakes in five of the six insured banks, and funded bailouts estimated to total €50 billion ($66.5 billion) as unconvinced investors continued pulling their money out of the banks.

The loan agreement reached Nov. 28 in Dublin with the European Union and International Monetary Fund will provide Ireland a credit line of up to €67.5 billion ($90 billion) at interest rates averaging 5.8 per cent. EU and IMF regulators also permitted Ireland to redeploy €17.5 billion ($23 billion) from its own cash and pension reserves, taking the total bailout figure to €85 billion ($113 billion).

Hornung estimated that the extra debt financing would drive Ireland's national debt to a peak of 140 per cent of gross domestic product in 2013, compared to 66 per cent in 2009. That figure is higher than the debt-to-GDP forecasts of many economists.

Bonds, shares down

Investors dumped Irish bonds Friday on news of the downgrade. The yield on 10-year Irish bonds rose to 8.4 per cent, a two-week high. Shares in Ireland's three listed banks — Allied Irish, Bank of Ireland, and Irish Life & Permanent — fell 5.5 per cent, eight per cent and 2.8 per cent, respectively.

Ireland plans to take €10 billion from the EU-IMF fund immediately to boost the cash reserves at Dublin's five state-supported banks. It has earmarked €50 billion more to finance its deficit spending through 2014, while the remaining €25 billion ($33.25 billion) will be kept on standby for further bank-bailout activity.

Ireland has a 2010 deficit of 32 per cent of GDP, a post-war European record, but hopes its austerity plans will achieve a reduction to three per cent by 2014. European officials, skeptical of Irish growth forecasts, already have extended the deadline to 2015 for Ireland to get back to three per cent, the debt ceiling that eurozone members are supposed to observe.

The European Central Bank pressed Ireland to take an international bailout because Ireland's banks in recent months have grown unsustainably reliant on short-term loans from the ECB. Irish borrowing from the Frankfurt bank surged in the summer after Ireland's initial bank-debt guarantee expired and was replaced by an insurance system that offered less protection to some bondholders.