14 November 2012

Fitch revises outlook on Ireland to stable; affirms at 'BBB+'

Fitch Ratings has revised the outlooks on the Republic of Ireland's ratings to stable from negative. At the same time, the agency has affirmed the long-term foreign and local currency IDRs at 'BBB+'. Ireland's country ceiling has been affirmed at 'AAA' and short-term foreign currency IDR at 'F2'.

The affirmation and revision of the Outlooks to Stable from Negative reflects Ireland's continued progress with its fiscal consolidation, external adjustment and economic recovery, as well as the sovereign's improved financing options. Fitch judges that the risks surrounding the adjustment path have narrowed and become more balanced, reflecting the following factors.

Fiscal consolidation remains on track, broadly in line with the original trajectory of the EU-IMF programme, which envisaged a 120 per cent debt/GDP ratio in 2012, peaking in 2013-14 before declining. So far, Ireland has met all the quarterly fiscal targets of the programme. Fitch expects the 2012 deficit to be close to the target of 8.6 per cent of GDP, implying a primary deficit of 4.5 per cent, despite some expenditure overruns. More fundamentally, fiscal policy has so far successfully managed to meet the fiscal targets without excessive adverse impact on economic growth in 2011-2012. Nevertheless, significant further adjustment is needed to bring the deficit below 3 per cent by 2015 as required under the EU-IMF programme and the Excessive Deficit Procedure.

A strong improvement in competitiveness is supporting a substantial contribution of net exports to GDP growth and a further improvement in Ireland's current account surplus, which Fitch forecasts at 2.4 per cent of GDP in 2012.

Although Fitch forecasts GDP growth at 0 per cent in 2012, down from 1.4 per cent in 2011, this would still be better than the eurozone average, which Fitch forecasts at -0.5 per cent, and significantly better than other so-called peripheral eurozone countries, highlighting Ireland's progress towards returning to economic growth.

In addition, Ireland has made significant further progress in returning to market financing, issuing five- and eight-year bonds in August and September at lower yields.

However, Ireland's rating remains constrained and faces downside risks from its high public and private debt levels, persistent vulnerabilities in the financial sector and its sensitivity to external demand and financial conditions.

The combination of the recent economic slowdown and adverse financing conditions has increased some vulnerabilities in the financial sector. The mortgage portfolio is a particular source of concern as NPLs are still rising and house prices have shown only tentative signs of stabilisation in 2012, with downside risk persisting, while transaction numbers remain low in the housing market. Consequently, the quality of bank loan portfolios has likely deteriorated close to the stress scenario of the 2011 prudential capital assessment review (PCAR).

Nevertheless average core Tier 1 capital ratio was 16.5 per cent in Q112 and household and corporate deposits have stabilised, despite the recent downward trend in deposit rates, as the banks attempt to improve their weak profitability. Deleveraging of the system has also progressed broadly in line with the EU-IMF programme targets.

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