Fitch Ratings has downgraded Ireland’s credit ratings, citing the cost of bailing out the country’s troubled banks.

On Wednesday, the rating agency downgraded its long-term foreign and local currency issuer default ratings and its short-term foreign currency IDR. Fitch maintains a negative outlook.

“The downgrade of Ireland reflects the exceptional and greater-than-expected fiscal cost associated with the government’s recapitalization of the Irish banks, especially Anglo Irish Bank,” said Chris Pryce, director in Fitch’s Sovereign Group. “The negative outlook reflects the uncertainty regarding the timing and strength of economic recovery and medium-term fiscal consolidation effort.”

Typically a negative outlook implies a slightly greater than 50% probability of a further downgrade over a 12-24 month horizon, it says, noting that the ratings could be downgraded further if the economy stagnates and broad-based political support for and implementation of budgetary consolidation weakens. Conversely, a revision of the outlook to stable would require evidence of sustained economic recovery and fiscal consolidation.

Fitch says it believes that the latest government estimate of the fiscal cost of recapitalizing Irish banks are “plausible”, and it notes that ongoing bank funding support from the European Central Bank means that Ireland still retains considerable financial flexibility.

The government’s total direct bank bailout costs are expected to rise to 45 billion euros from the 23 billion euros assumed at the time of Fitch’s last rating action in November 2009, it notes. Of this 45 billion, 29.3 billion euros will be accounted for by Anglo Irish Bank, which is already 100%-owned by the state. The remainder will be spread over the other four Irish banks.

General government gross debt will rise to 99% of GDP at end-2010 from the 78% previously predicted by the government, and the broad general government deficit for 2010 will be equivalent to an unprecedented 32% of GDP, it says. Although it notes that this reflects an accounting treatment, Fitch believes stripping out these one-off transactions provides a more appropriate measure of the underlying fiscal position which is now forecast to be a deficit of 11.9% of GDP, close to the initial government forecast for 2010.

The timing and strength of economic recovery is critical to firmly placing public finances on a sustainable path, Fitch says. “A rebalancing of the economy is underway. Ireland is regaining its international competitiveness lost during the ‘boom’ years and the current account of the balance of payments is expected to move to balance during 2011. Moreover, the drag on growth from the collapse of the construction boom has mostly run its course,” it says. “Nevertheless, the ongoing distress in the housing and commercial real estate markets, household sector de-leveraging and the uncertainty over the global economic outlook, especially important given Ireland’s open and internationally orientated economy, weigh on growth prospects and fiscal outlook.”

IE