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Fitch Affirms Ireland at 'A'; Outlook Stable
July 7, 2017 / 8:12 PM / 5 months ago

Fitch Affirms Ireland at 'A'; Outlook Stable

(The following statement was released by the rating agency) LONDON, July 07 (Fitch) Fitch Ratings has affirmed Ireland's Long-Term Foreign- and Local-Currency Issuer Default Ratings (IDRs) at 'A' with Stable Outlooks. The issue ratings on Ireland's senior unsecured bonds have also been affirmed at 'A'. The Country Ceiling has been affirmed at 'AAA' and the Short-Term Foreign-Currency and Local-Currency IDRs at 'F1'. The issue ratings on short-term foreign-currency and local-currency debt have been affirmed at 'F1', and the rating of National Asset Management Ltd's (NAMA) guaranteed issuance has also been affirmed at 'F1', in line with the sovereign rating. KEY RATING DRIVERS Ireland's sovereign ratings are supported by strong institutions and a wealthy, flexible economy, with among the highest per capita income in the 'A' category. Moreover, economic growth has outpaced peers in the last three years and the sovereign balance sheet is improving rapidly. These factors are balanced by still elevated levels of public and private sector debt, external vulnerabilities and downside risks, primarily related to external developments such as the potential impact of Brexit and shifts in global policies on corporate taxation. Headline GDP and expenditure national accounts have been distorted since 2015 by the impact of the activities of multinational enterprises (MNEs), with the level of GDP boosted substantially by activities often unrelated to economic activity in Ireland (for example, the relocation of intangible assets by foreign firms and increases in contract manufacturing). This has the effect of flattering various credit indicators such as debt/GDP and GDP per capita. At the same time, the underlying picture is one of robust growth in economic activity, which is expected to persist in the medium term. Real GDP growth in 2016 was 5.2%. While investment and trade data are distorted by MNEs' activities, private consumption rose by 3.0% last year, and labour market dynamics corroborate the picture of strong real activity in the Irish economy. Employment growth averaged almost 3.0% on an annual basis in 2016, with unemployment falling sharply from 8.9% at end-2015, to 6.9% at end-2016, and 6.3% in June this year. Fitch expects real GDP growth to be 3.5% this year, before slowing down to 3.0% next year and in 2019. We expect unemployment to average 6.2% this year, before falling further to 5.6% by 2019. Brexit represents a clear downside risk to Irish economic prospects. In the short term, the depreciation of the pound has had an impact on demand for Irish goods and services, even though this has been mitigated by the boost to real incomes from lower inflation. The main risk to the medium to long-term growth outlook concerns the uncertainty surrounding the trade negotiations between the UK and EU and the future trade relationship between the UK and EU. The UK accounts for around 16% of Irish exports, and there are strong financial and investment links between the two countries. Estimates by the Department of Finance suggest that in case of trade between the UK and EU shifting to WTO rules, the level of output in Ireland would be 4% lower than in the counter-factual of no Brexit over the long run. Another downside risk is related to potential changes in corporate tax policies, especially in the US. Ireland has been a favoured destination of foreign direct investment by MNEs over the past 20 years but there is a risk of smaller flows or reversals if corporate tax incentives were to change radically. At end-2015, the stock of US FDI in Ireland was EUR581 billion, more than 2x GDP. The general government deficit was 0.6% of GDP in 2016, down from 2.0% in 2015. This improvement was driven by a lower spending share (of which 0.4pp accounted for by lower interest payments). We expect a broadly unchanged deficit this year, a decline in the deficit to 0.2% in 2018, and a balanced budget in 2019. General government debt was 75.4% of GDP at end-2016, down from 78.7% in 2015. Our public finance projections would be consistent with the debt to GDP ratio falling to just under 69% by 2019. The government debt ratio is substantially higher than both the 'A' and the 'AA' medians (51% and 39% respectively), despite the improvement in debt dynamics. Importantly, government debt as a share of revenues is also substantially higher than peer medians (275% compared with the 'A' and 'AA' medians of 145% and 167%). Private sector indebtedness remains high. Corporate debt was around 240% of GDP at end-2016, although this estimate is inflated by the activities of MNEs. Household debt as a share of disposable income was 142% at end-2016 (the fourth-highest in the EU). Annual growth in credit to the private sector is still negative, despite strong growth in the real economy, suggesting that the private sector's deleveraging process is continuing. The Banking System Indicator for Irish banks is 'bb', weaker than most peer countries. At 3Q16, non-performing loans (NPLs) were 14.6% of total loans. MNEs' activities have brought about a high degree of volatility in the current account. The current account surplus was 4.7% of GDP in 2016 (down by more than 5% on the previous year). We expect the current account surplus to average 7% of GDP over the next three years. Net external debt (excluding internationally-traded financial service activities) remains higher than peers (an estimate of 56% compared with the 'A' median of -11% in 2016), and the net international investment position is strongly negative (an estimate of -176% of GDP at end-16). Taoiseach Enda Kenny resigned in May and Leo Varadkar, the social protection minister, was elected leader of the governing Fine Gael party and subsequently nominated premier by the Dail, on the basis of a continuation of the coalition between Fine Gael and various independent parliamentarians, aided by a confidence and supply agreement with Fianna Fail. Fitch does not expect a substantial change in policy direction by the new government. SOVEREIGN RATING MODEL (SRM) and QUALITATIVE OVERLAY (QO) Fitch's proprietary SRM assigns Ireland a score equivalent to a rating of 'AA' on the Long-Term FC IDR scale. Fitch's sovereign rating committee adjusted the output from the SRM to arrive at the final LT FC IDR by applying its QO, relative to rated peers, as follows: - Public Finances: -1 notch, to reflect still high levels of government indebtedness. MNE activities flatter the level of GDP and therefore fiscal and other credit metrics such as the government debt to GDP ratio. Government debt as a share of revenues is much higher than the peer median. - External Finances: -1 notch. The model gives a 2-notch enhancement for reserve currency but a 1-notch uplift is more appropriate for Ireland given the country's recent financial crisis and need of an IMF programme. Stocks of external debt are high. - Structural Factors: -1 notch, to reflect weakness in the banking system for which the average viability rating is two categories below the sovereign rating. Fitch's SRM is the agency's proprietary multiple regression rating model that employs 18 variables based on three year centred averages, including one year of forecasts, to produce a score equivalent to a LT FC IDR. Fitch's QO is a forward-looking qualitative framework designed to allow for adjustment to the SRM output to assign the final rating, reflecting factors within our criteria that are not fully quantifiable and/or not fully reflected in the SRM. RATING SENSITIVITIES The following factors may, individually or collectively, result in positive rating action: -A continued reduction in government indebtedness -Reduction in external vulnerabilities, including evidence that the economy is resilient to Brexit and shifts in international corporate taxation rules The following factors may, individually or collectively, result in negative rating action: -Reversal of the downward trend in government indebtedness -Weaker economic performance, e.g. triggered by external shocks -A substantial deterioration of banks' asset quality KEY ASSUMPTIONS In its debt sensitivity analysis, Fitch assumes on average, over the next 10 years, a primary surplus of 1.5% of GDP, real GDP growth of 2.6%, an effective interest rate of 2.4%, and GDP deflator inflation rate of 2.0%. On the basis of these assumptions, the government debt to GDP ratio is expected to fall to 50% by 2026. Contact: Primary Analyst Alex Muscatelli Director +44 20 3530 1695 Fitch Ratings Limited 30 North Colonnade London E14 5GN Secondary Analyst Marina Stefani Associate Director +44 20 3530 1809 Committee Chairperson Ed Parker Managing Director +44 20 3530 1176 Media Relations: Peter Fitzpatrick, London, Tel: +44 20 3530 1103, Email: Additional information is available on Applicable Criteria Country Ceilings (pub. 16 Aug 2016) here Sovereign Rating Criteria (pub. 18 Jul 2016) here Additional Disclosures Dodd-Frank Rating Information Disclosure Form here Solicitation Status here#solicitation Endorsement Policy here ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: here. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEB SITE AT WWW.FITCHRATINGS.COM. 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