DBRS Ratings GmbH (DBRS Morningstar) confirmed the Republic of Ireland’s Long-Term Foreign and Local Currency – Issuer Ratings at A (high). The rating trends on the Long-Term Ratings have been changed to Positive. At the same time, DBRS Morningstar confirmed its Short-Term Foreign and Local Currency – Issuer Ratings at R-1 (middle). The rating trends on the Short-Term Ratings remain Stable.
KEY RATING CONSIDERATIONS
The Positive trend reflects DBRS Morningstar’s view that Ireland’s performance in the face of challenging external developments points to enhanced macroeconomic resiliency. Ireland’s economy was on a path of high growth and diminishing vulnerabilities before the onset of the pandemic, resulting in DBRS Morningstar changing the ratings trend to Positive in January 2020. Reported GDP expanded on average by 7.6% each year from 2017 to 2019. On public finance, the robust economy and healthy tax windfalls generated six consecutive years of primary surpluses and a headline fiscal surplus in 2019. The steady decline of measurements of gross government debt also reflected improved debt sustainability metrics. Moreover, the 2019 Brexit Withdrawal Agreement and the subsequent UK-EU trade agreement avoided the worst-case scenario.
Pandemic uncertainty led DBRS Morningstar to return the ratings to Stable trend in May 2020. The COVID-19 crisis and Ireland’s implementation of stringent containment rules severely affected the domestic economy and increased crisis-related deficit spending. The COVID-adjusted unemployment rate increased to 21% and private consumption declined by 10.4% at the end of last year. Yet, strong growth by the multinational sector prevented the dramatic output contraction seen elsewhere. Ireland was the only EU country with positive GDP growth last year. Even when excluding distortions stemming from the activity of multinationals, last year’s contractions of real modified domestic demand (MDD) was comparatively contained. Thus, standard measures of public finances in Ireland deteriorated less than its peers, despite the Irish government adopting one of Europe’s largest direct fiscal support packages.
Ireland’s A (high) ratings are underpinned by the country’s institutional strength, robust trade and investment flows, flexible labour market, young and educated workforce, and its access to the European internal market. These features support the economy’s competitiveness and its medium-term growth prospects. The country’s credit strengths are countered by several weaknesses, including volatile fiscal revenue sources and medium-term fiscal cost pressure. Rising expenditure demands come at a time when efforts to change the global corporate tax landscape could challenge revenues. Using various debt ratios, Ireland is among the countries in Europe with the highest stocks of public debt.
The ratings could be upgraded if DBRS Morningstar continues to see evidence of enhanced resiliency of the Irish economy to external developments; or if sound fiscal management results in gradual consolidation of the deficit once crisis conditions have passed.
The ratings could be downgraded if the current health crisis or an alternative shock cause substantial deterioration in Ireland’s medium-term economic outlook; or if the country experiences a more permanent relaxation of fiscal discipline that significantly weakens its public debt position. The trend could return to Stable if there is a longer than expected economic shock that significantly delays repair to the public balance sheet.
Ireland’s Economic Growth Performance Was An Outlier In 2020
The COVID-19 shock has exacerbated what has long been an economy operating at two-speeds. Irish GDP expanded by 5.9% in 2020 due to the strong performance of external-facing sectors such as pharmaceutical and the information and communications technology (ICT). However, the shock to the domestic oriented economy continues to be more severe. The COVID-adjusted unemployment rate, which increased again in February 2021 to 27%, declined to a still elevated 18% in June 2021. Some 600 thousand people still received income support as of June 2021. As of the first quarter of 2021, private consumption declined by 11.3% y-o-y and modified investment remained 4.2% weaker.
Notwithstanding the asymmetrical performance, conditions are hopeful for a recovery of the domestic economy. Higher rates of inoculation, the slow unwinding of COVID restrictions, and pent-up demand from increased household gross income and savings should lift economic activity in the months and years to come. Following the 4.9% contraction of MDD in 2020, the government forecasts it to expand around 3.3% on average over the medium-term. Statistical considerations specific to the volatility of Ireland’s national accounts overstate economic risk in DBRS Morningstar’s scorecard, supporting our positive qualitative assessment in the “Economic Structure and Performance” building block.
Public Support Measures Resulted In A Return To A Large Fiscal Deficit And Further Elevated Public Debt
Counter-cyclical expenditure measures implemented to support the economy have been large. The total fiscal response has thus far amounted to EUR 48.4 billion, or 12.9% of GDP (22.7% of GNI). More than four-fifths of the response consists of direct expenditure measures to support employees, households, and businesses as well as increased health and capital spending. Revenues last year also proved resilient. In particular, corporate tax expanded by nearly 9% in 2020 and income tax receipts were broadly unaffected, despite the significant loss of employment. From a budget surplus of EUR 2.5 billion in 2019, the deficit in 2020 widened to EUR 18.4 billion (4.9% of GDP or 8.8% of GNI). This result was considerably better than the EUR 30 billion shortfall the Government expected in the second quarter of 2020.
While indirect revenue streams such as VAT and excise taxes should recover this year along with the economic rebound, expenditures for 2021 are still large. Spending commitments are dominated by income and business support measures, health expenditures, and temporary cuts to taxation. The July 2021 Summer Economic Statement (SES) expects a 5.1% of GDP deficit in 2021 that narrows below 3.0% by 2023. However, the balance appears worse when measured against a modified denominator. The deficit is expected to be 9.4% of GNI* this year and does not decline below 3.0% until mid-part of this decade. These statistical considerations weigh negatively on DBRS Morningstar’s assessment in the “Fiscal Management and Policy” building block. Furthermore, ongoing efforts at the multinational level to reform the global corporate tax system risks reducing Ireland's corporate tax base. The government expects profit-sharing changes to global taxation could cost roughly EUR 2 billion in corporate tax receipts over the next four years.
All measures of Irish government debt will increase as a result of the health crisis. Ireland’s general government gross debt increased from EUR 204 billion in 2019 to EUR 218 billion in 2020, equivalent to 59.5% of GDP or 105.1% of GNI. The still large fiscal deficit this year will lead to further debt accumulation. The SES expects the stock of debt to reach EUR 242 billion in 2021, a debt to GNI ratio of just under 112%, before gradually declining. When using this or other alternative measures of debt, Ireland is one of the most highly indebted countries in Europe. This factor weighs negatively on DBRS Morningstar’s “Debt and Liquidity” building block assessment. Despite the rapid increases in public indebtedness, financing conditions for the Irish treasury remain favourable. Interest expenditures are forecast to remain below 1% of GDP over the five-year forecast period.
Following Considerable Progress, The COVID-19 Shock Will Likely Renew Challenges For The Banking Sector
Progress has been made over the years in restructuring the Irish banking system and in reducing impairments. Ireland’s banking crisis a decade ago left a large stock of impaired assets on bank balance sheets. Non-performing loans of the banking sector as a share of total loans, having declined according to the IMF from 25.7% in 2013 to 3.5% in 2020, are below the EU average of around 5%. The improved financial sector has been evident by profitable banks with healthy levels of capital and stronger funding profiles. The deceleration of property price growth in Ireland and strong macroprudential measures also strengthens the financial sector. The COVID-19 crisis will likely once again challenge the sector. Notwithstanding ECB liquidity support measures and loan payment break programmes offered by the government, DBRS Morningstar expects the crisis to over time weaken banking sector asset quality.
External Accounts Are Distorted; Changes To Global Tax Policies May Affect Future Investment Flows
The IMF’s measure of the headline current account deficit for 2019 was 11.4% of GDP, followed by a surplus of 4.6% in 2020. The EC forecasts similar surpluses over the forecast period. The large swings in the data are due to the activity performed by large multinational firms. Contract manufacturing affects the accounting for exports, while movement of intellectual property products impacts imports. The government calculates a measure of the current account surplus modified for these effects to have reached 11.5% of GNI* in 2020. Ireland’s large negative net international investment position (-157% of GDP) last year overstates external sector risks. This supports DBRS Morningstar’s positive adjustment to the “Balance of Payments” building block.
Negotiations to reform the global corporate tax landscape have recently intensified. International tax reform as currently envisioned by the OECD/G20 has two main pillars, each with possible varying effects on Ireland's budget, its existing capital stock, and future direct investment. The consequences for Ireland would depend on which pillars of reform are agreed upon and how the Irish government and the corporate sector respond. While proposed reforms to global taxation may affect future direct investment inflows, DBRS Morningstar is of the view that consensus around global tax reforms will be difficult to achieve and implement. Furthermore, Ireland has significant advantages that keep it competitive should reforms threaten the country's economic model.
Ireland’s Institutional Strengths Evident By Effective Crisis Management During Government Formation Negotiations
Ireland’s general election in February 2020 coincided with the early spread of COVD-19 across Europe. The election resulted in a significant loss of seats for the two main political parties, Fine Gael and Fianna Fáil, and gains by Sinn Féin and the Greens. Though the inconclusive election occurred at a challenging time, the political cycle did not undermine Ireland’s strong institutional quality or its stable macroeconomic policy-making. A new coalition government that includes Fine Gael, Fianna Fáil, and the Greens took office in June 2020 and seamlessly continued the plan for containing the pandemic and supporting the economy. Ireland is a strong performer on the World Bank’s governance indicators, and its governments over the last decade have demonstrated policy continuity.
Brexit-related challenges have not been fully resolved. A Free Trade Agreement between the UK and EU was agreed in December 2020 following a long negotiation. The deal allows for tariff-free trade, and in conjunction with the 2019 Withdrawal Agreement, the worst-case scenarios concerning risks associated with lower output potential and a physical border on the island of Ireland from no-deal have for now been averted. However, goods moving between the UK and the EU are subject to customs and controls that require extra processes. Due to these non-tariff barriers, Brexit will likely result in lower levels of aggregate trade between the two blocks. Additional agreements around the trade of services and the contentious Irish Protocol will likely be necessary before accurately assessing the consequences of Brexit on Ireland.
A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework can be found in the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings at https://www.dbrsmorningstar.com/research/373262.
For more information on the Rating Committee decision, please see the Scorecard Indicators and Building Block Assessments. https://www.dbrsmorningstar.com/research/381738.
EURO AREA RISK CATEGORY: LOW
For more information regarding rating methodologies and Coronavirus Disease (COVID-19), please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/357883
All figures are in Euros (EUR) unless otherwise noted. Public finance statistics reported on a general government basis unless specified.
The principal methodology is the Global Methodology for Rating Sovereign Governments (July 9, 2021) https://www.dbrsmorningstar.com/research/381451/global-methodology-for-rating-sovereign-governments. Other applicable methodologies include the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings https://www.dbrsmorningstar.com/research/373262/dbrs-morningstar-criteria-approach-to-environmental-social-and-governance-risk-factors-in-credit-ratings (February 3, 2021).
The sources of information used for this rating include Department of Finance (Summer Economic Statement July 2021), Central Bank of Ireland (Quarterly Bulletin July 2021), Central Statistics Office Ireland, NTMA (Investor Presentation July 2021), European Central Bank, European Commission (Summer Forecast 2021), Eurostat, IMF WEO (April 2021), IMF IFS, Statistical Office of the European Communities, OECD, World Bank, UNDP, The Economic and Social Research Institute, Irish Fiscal Advisory Council, Global Carbon Project, Social Progress Index, World Economic Forum, Bloomberg, BIS, and Haver Analytics. DBRS Morningstar considers the information available to it for the purposes of providing this rating to be of satisfactory quality.
DBRS Morningstar does not audit the information it receives in connection with the rating process, and it does not and cannot independently verify that information in every instance.
Generally, the conditions that lead to the assignment of a Negative or Positive trend are resolved within a 12-month period. DBRS Morningstar’s outlooks and ratings are under regular surveillance.
For further information on DBRS Morningstar historical default rates published by the European Securities and Markets Authority (ESMA) in a central repository, see: http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. DBRS Morningstar understands further information on DBRS Morningstar historical default rates may be published by the Financial Conduct Authority (FCA) on its webpage: https://www.fca.org.uk/firms/credit-rating-agencies.
The sensitivity analysis of the relevant key rating assumptions can be found at: https://www.dbrsmorningstar.com/research/381737.
This rating is endorsed by DBRS Ratings Limited for use in the United Kingdom.
Lead Analyst: Jason Graffam, Vice President, Global Sovereign Ratings
Rating Committee Chair: Thomas R. Torgerson, Managing Director, Co-Head of Sovereign Ratings
Initial Rating Date: July 21, 2010
Last Rating Date: January 29, 2021
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