Moody’s ups Ireland to A3, outlook ‘positive’
Moody’s said its decision to upgrade Ireland’s rating to A3 reflects the following key drivers:
(1) Ireland’s key credit fundamentals have continued to improve at a faster pace than expected even a few months ago, including a stronger economic recovery and a more marked reduction in the public debt ratio, which stood at below 94% of GDP by end-2015. The government’s public finances also continued to improve at a rapid pace last year;
(2) In Moody’s view, the risk of a reversal of the fiscal consolidation seen over the past several years is low. The recent political agreement between the two largest parties in parliament and the recent election of a minority government led by Fine Gael, which has established a strong track record of fiscal management over the past several years, give comfort that the budget deficit will be reduced further in coming years.
The oulook on the ratings remains positive and reflects Moody’s view of a likely continuation of these trends in the coming years. While the rating agency expects economic growth rates to moderate compared to the outstanding growth of last year, Ireland will likely see continued robust growth on account of substantial competitiveness gains as well as strong export and productivity growth supported by a large and expanding multinational sector. The strong growth in turn will facilitate a continued reduction in Ireland’s public and private debt levels, in Moody’s view.
Concurrent with the rating action on the sovereign, Moody’s has also upgraded the rating of the National Asset Management Agency (NAMA) to A3 from Baa1 with a positive outlook, given that NAMA’s debt obligations are explicitly guaranteed by the Republic of Ireland.
In addition, Ireland’s long-term foreign and local-currency bond and deposit ceilings have been upgraded to Aaa from Aa1. The short-term foreign-currency bond and deposit ceilings remain unchanged at P-1.
The first driver for the upgrade is the continuing and material improvement in Ireland’s growth performance and debt burden reduction over the past year. In 2015, real and nominal GDP growth were much stronger than Moody’s expected at 7.8% and 13.5% respectively, which in turn helped to reduce the public debt ratio to just below 94% of GDP, compared to a peak of over 120% of GDP three years earlier and also compared to Moody’s own expectation for 2015 of a ratio around the 100% mark. The government’s public finances continued to improve, with the general government deficit reduced to 2.3% of GDP from 3.8% in 2014. Leverage in the private sector has also continued to decline, and the risk posed by the Irish banking sector to the government’s balance sheet continues to diminish. The recovery is increasingly broad-based, not fuelled by unsustainable credit growth as in the pre-crisis boom period.
The banking sector is also much smaller in scale than it was then and has a sounder funding base and higher capital levels. While there are signs of emerging price pressures in parts of the commercial real estate sector, Moody’s notes that the Irish central bank reacted early to emerging house price pressures by imposing macro-prudential measures to cool down the housing market.
The second driver for today’s upgrade relates to the rising confidence that fiscal policy will remain on a prudent course, following the recent agreement between the two largest parties in the Irish parliament. The recently elected minority government led by Fine Gael has established a strong fiscal track record over the past several years and there seems to be broad consensus on the need to reduce the budget deficit and public debt further. Moody’s considers the government’s longer-term fiscal objective of a budget surplus by 2018 to be credible and achievable.
Set against those positive trends, Ireland’s growth tends to be much more volatile than its peers’, principally on account of its openness and integration into multinationals’ global value chains. Ireland is also more exposed than most peers to potential shifts in global taxation rules, given that its low corporate tax rate has been instrumental in attracting many multinational companies to its territory. A higher degree of economic volatility requires larger financial and fiscal buffers to deal with negative shocks. Countries with similarly high levels of economic volatility — examples in Europe include the Baltic states — have materially lower debt ratios than Ireland. The fact that Ireland’s debt ratio is much higher than that of its peers in the A-rating category and will remain so for many years remains an important constraint on the credit.
The positive outlook reflects Moody’s view that Ireland’s key credit metrics might improve further in the coming years, notwithstanding the above-mentioned constraints. While GDP growth will likely moderate compared to last year’s exceptional growth, Ireland will continue to grow at above-trend rates over the next two to three years, on account of strong and sustained competitiveness gains and the large and expanding presence of high value-added multinational firms that have driven recent increases in exports.
Investment prospects are positive, not only in the multinational sector, and longer-term demographic trends are also more favourable in Ireland than in most other European peers. Moody’s forecasts real GDP growth of around 5% and 3.5% in 2016 and 2017 respectively. While a UK exit from the EU would have negative repercussions on Ireland, given the close economic ties, Moody’s considers that this risk would be manageable for the Irish economy.
Such robust GDP growth rates are in turn expected to enable further reductions in the public debt ratio. Moody’s expects the debt ratio to stand at below 87% of GDP by the end of 2017, a ratio broadly in line with that of many of Ireland’s euro area peers. The downward debt trajectory is robust to a range of stress scenarios, including lower GDP growth, higher interest rates and slower fiscal consolidation. The debt trend might turn out more favourably than under Moody’s baseline assumptions should the government sell some of the bank shares it still holds.