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The credit rating of the Irish government has been downgraded by Standard & Poors.

Previously, Ireland enjoyed the top AAA ranking, that many Western nations still hold, including the UK. It has now been downgraded to AA+, but with a negative outlook meaning S&P anticipate there could be further downgrades.

This has a big impact, because the cost of borrowing for a government, like for an individual country, goes up as credit ratings decrease. This could make the difficulties the Irish economy is suffering even worse, as they will find it more difficult to borrow and spend their way out.

Ireland has felt the economic downturn particularly badly. The markets are very nervous of Irish banks, as demonstrated by the Credit Default Swap premium. These are effectively insurance policies against the possibility of the banks defaulting on their bonds. The market clearly believes the potential for default is quite high, which may explain why the Irish banks are offering such high rates at the moment.

There is the possibility that further nations could experience downgrades. The most pessimistic of forecasters believe it is possible that this could happen to the UK. If so, this would exacerbate and lengthen the economic crisis, and we could be affected for years.

On balance, this looks unlikely but the government will need to keep an eye on their spending and borrowing, and make sure it is sustainable. That AAA rating is vital to their recovery plans.

 

Mike Deverell, Investment Manager