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Scope Ratings GmbH (Scope) has today upgraded the Republic of Ireland’s long-term local-currency and foreign-currency issuer ratings to AA- and has revised the Outlook to Stable, from Positive. The Agency has upgraded Ireland’s senior unsecured debt in local and foreign currency to AA- and revised the Outlook to Stable. The sovereign’s short-term issuer ratings are affirmed at S-1+ in local and foreign currencies, with Outlooks Stable.

Rating drivers

The upgrade of Ireland’s sovereign credit ratings to AA- from A+ reflects the following ratings drivers:

1. Ireland’s comparative resilience amid the current crisis together with a reduction of external risks as the global economy enters a fresh expansion cycle. Economic contingencies with relation to Brexit have moderated, and global trade conflicts eased after US elections. EU institutional development alongside learnings from policies deployed successfully in this current crisis are expected to make Ireland more resilient in future economic downturns;
    
2. Continuation of deleveraging in the private sector and improvements in household balance sheets, alongside strengthening of the balance sheet of the Irish banking system – enhancing macro-economic stability; and
    
3. Expectation for renewed reduction in government debt ratios after the crisis is past, as the Covid-19 crisis has represented primarily a transitory shock to Ireland’s strong economic growth potential and the government holds capacity to consolidate current excess budgetary deficits.

The ratings upgrade to AA- reflects changes under the ‘domestic economic risk’ and ‘financial stability risk’ categories of Scope’s sovereign ratings methodology.

The Stable Outlook reflects Scope’s assessment that risks to Ireland’s credit ratings are considered balanced over the forthcoming 12 to 18 months.

The AA-/Stable ratings/Outlooks could be upgraded if, individually or collectively: i) improvements in the public finance, economic growth and EU institutional outlooks bring significant improvements in medium-run debt sustainability above and beyond Scope’s current expectations; ii) reductions of high private-sector debt take additional significant strides, financial system risks are curtailed and banking system cushions re-strengthened; and/or iii) vulnerabilities to external risks relevant to the Irish economy are further materially trimmed. The latter could, for example, relate to further significant reduction in elevated external debt and/or an improved assessment regarding the resilience of Ireland’s very open and interconnected economy to future global downturn.

Conversely, the ratings/Outlooks could be downgraded if: i) economic growth after this crisis or Ireland’s growth potential proves substantially weaker than presently anticipated, such as due to shifts in international corporate taxation policies, or if fiscal discipline weakens significantly, threatening an increasing general government debt ratio over the medium term; ii) private-sector and financial-system risks increase meaningfully, impacting longer-term macro-economic and financial stability; and/or iii) net external debt increases or an external shock significantly impairs government and domestic banks’ balance sheets.

Rating rationale

The first driver of Scope’s decision to upgrade Ireland’s sovereign ratings to AA- is reduction of external risk impacting the economy over the forthcoming rating-relevant horizon. Contingent business-cycle-related risk for Ireland’s small, highly open economy have been reduced for the forthcoming period as the global economy shifts in direction of a fresh expansionary cycle – giving space likewise for public and private sectors to repair balance-sheet damage sustained in the crisis. In addition, comparative resilience demonstrated by the Irish economy and financial system over the course of this global downturn since 2020 is credit positive as one demonstration of enhanced resilience under adverse global conditions.

On a real Gross Domestic Product basis, economic growth of Ireland performed significantly better than peer economies in 2020 with growth (NSA) of +3.4%, the strongest growth of member countries of the European Union. This was driven by export performance of the multi-national enterprise (MNE) sector, such as pharmaceuticals and information and communications technology, which, despite large declines in global output, observed strong 18.1% growth in output last year due to unique demand amid the current crisis for immunological drugs, the shift to home-working alongside Irish MNEs falling under traditionally more defensive sectors. The underlying Irish economy, as measured via modified final domestic demand, by contrast, contracted 5.4% in 2020 – more comparable to scales of recession of Ireland’s peer European economies (the euro-area average: -6.6% growth last year) amid comparatively more stringent containment policies of Ireland in the crisis. Private consumption declined 9%, slightly worse than an EU average. In 2021, we expect real GDP to rebound 5%, with 3% growth in the underlying economy, as pent-up demand is activated alongside support from still highly accommodative monetary and fiscal policies with recoveries as well in main trading partners such as the euro area, the US and the UK.

The fundamental steps taken by Ireland and European policy makers since the Great Financial Crisis have increased the economy’s resilience in crisis events. At the European level, institutional advancement of the European Union during this present crisis holds more durable implications for the credit standing of its member countries, including the flexibility of European Central Bank asset purchases across jurisdiction, time and asset class. Scope expects this innovation of flexibility in securities purchases adapted to market condition to remain a permanent feature of the ECB toolkit in future aggregate crises, supporting member states seeing greater market stress. Expanded ECB purchases have meant nearly 30% of Irish debt is expected to rest on the Eurosystem balance sheet by end-2021. This reduces the outstanding stock of Scope-rated privately-held Irish debt. Similarly, the European Commission’s EUR 750bn Recovery Fund is credit positive as this relates to Ireland. Although forthcoming joint EU bond issuance increases contingent liabilities of Ireland, with Ireland being a lesser beneficiary of fund inflows (only EUR 900m), the developments represent improvements in the EU architecture. As an example, Ireland has benefitted from EUR 2.5bn drawn from the EU SURE funding instrument this year. Moreover, lessons from this crisis in respect to success of specific extraordinary policy interventions at national level such as the Employment Wage Support Scheme, cash-flow support to pre-crisis profitable companies, counter-cyclical investment and support for small and medium-sized enterprises and/or forbearance and national recovery fund and credit guarantee schemes will also strengthen the Irish government’s policy response toolbox in event of future liquidity crises.

Finally, UK’s exit from the European single market and customs union with a trade agreement has curtailed cliff-edge Brexit risk and associated disruption potential of the United Kingdom’s exit from the EU for the Irish economy. This is even acknowledging that trading friction created by Brexit has, nonetheless, curtailed trade between Ireland and Great Britain. In addition, the lack of a comprehensive deal for services under the trading framework with the United Kingdom is especially relevant for Ireland due to Ireland’s 10% of GDP (provisionally, 2020) services surplus with Great Britain. Still, external risks from global trade disputes and an attenuation in multilateralism over preceding years have, critically, eased following US elections of November 2020, with the US administration of President Joseph Biden seeking rapprochement and improvement of relationships with international trading partners including in economic relations with EU partners.

The second driver for upgrade of Ireland’s credit ratings is continuation of deleveraging in the private sector and improvements of household balance sheets, alongside important strengthening in the resilience of the Irish banking system.

Private-sector debt ratios have continued pre-crisis decline trajectories during this Covid-19 crisis, with total non-financial private-sector debt of 350% of GDP as of end-2020 (as compared with 422% as of 2016), although with the Irish private sector remaining, nevertheless, significantly more levered than a euro-area average of 162% of GDP. Household balance sheets have strengthened after reductions in household debt to 71% of gross disposable income in 2020, from 164% in 2007. In addition, significantly enhanced liquidity has been succoured by increased household savings compelled in the crisis.

The banking system has continued to deleverage – after inaugural industry consolidation steps taken over the 2008-12 crisis, with associated decline in loan-to-deposit ratios. Entering this crisis, Scope recognises that under the European Banking Authority’s most-recent (2018) EU-wide stress tests, it concluded Ireland’s two systemic banks (Allied Irish Banks and Bank of Ireland) have adequate capital to cope with severe recession and decline in property markets¹. The enhanced resilience of the Irish banking system is reflected in it being one of the best capitalised of the euro area. Resilience is abetted furthermore by transposition of CRD V regulations in Irish legislation. CRD V will include power to set a systemic risk buffer.

The third driver for assignment of AA- credit ratings is Ireland’s robust growth potential and strong national budget framework – and associated expectation of Scope for renewed reduction of Ireland’s government debt ratio after the current severe crisis is past.

In the current crisis, the Irish government has appropriately announced comprehensive fiscal support of EUR 38bn (about 18% of modified gross national income (GNI*)² or 10% of GDP), over 2020 and 2021, which included an especially high share of direct outlays (EUR 33bn) with a lesser EUR 5bn of indirect support actions³. These funds helped mitigate decline in household incomes, improve households’ debt sustainability, and reduce small and medium-sized enterprises’ scale of financial distress. Nonetheless, partly as a result of counter-cyclical outlay, the budget balance has reversed after achievement of pre-crisis modest surpluses (of 0.8% of GNI*) to a 9% of GNI* deficit last year. Scope expects Ireland’s budget balance to remain elevated in 2021 at around -9% of GNI*, before correcting steadily in years thereafter, beginning in 2022.

Public debt rose to about 106% of GNI* in 2020, from 95% in 2019 (to 60% of GDP, from 57% in 2019). In 2021, Scope expects a further modest debt increase to 110% of GNI* (62% of GDP) as recovery gains traction with vaccination picking up in the European Union but with budgetary support measures for businesses or households seeing extension, increasing an aggregate crisis bill. As recovery gains footing, debt is projected to thereafter reverse and reach pre-crisis levels as a share of GDP by 2025 (although reaching pre-crisis levels as a share of GNI* only after 2026) under a benign scenario absent further significant adverse shock. This is supported by Ireland’s robust growth potential, which Scope estimates at 4% yearly medium term under GDP terms and 3% on a real modified domestic demand basis. Brexit, while presenting frictions in the trading and economic relationship, has also represented a boon for growth-raising foreign direct investment into Ireland. In respect to Covid-19, Scope assesses the crisis to have represented primarily a transitory shock to Ireland’s robust post-crisis economic growth potential.

In addition to a wealthy, diversified and competitive economy, Ireland’s credit ratings acknowledge the robust profile of government debt. This includes high official-sector holdings of Irish debt, with 19% of the composite stock in concessional official-sector loans (incorporating the bailout loans of 2011-13) as of end-2020⁴. Combined with an increasing share of Irish debt held momentarily by the Eurosystem, this rising slice of Irish debt outside of the rated segment of privately-owned debt is credit positive. ECB interventions have supported reduction in Ireland’s interest expenditure to 1.6% of GNI* in 2021, from 5.8% in 2012. In view of Irish 10-year yields of (only) 0.3% (having nonetheless risen from -0.3% as of January 2021), average interest costs of outstanding debt are expected to further decline. Ireland’s National Treasury Management Agency has prudently taken advantage of benign borrowing conditions since the first ECB QE programme to extend the maturity of debt instruments, with Irish central government securities having today a weighted average maturity of 11.2 years at end-March, comparing favourably against an advanced-economy average of 7.1 years. Year-to-date issuance in 2021 has averaged a lengthier 14.6-year maturity. Ireland has raised EUR 6.1bn via sovereign green bonds since 2018, diversifying the investor base.⁵ Liquidity is supported by the government cash balance projected of EUR 17bn (7.9% of GNI*) around year-end 2021.

Still, despite these credit strengths, Ireland’s ratings remain constrained by the following challenges:

First, an elevated government debt stock – reflecting a continued legacy of effects of the 2008-12 financial crisis. While general government debt as a share of GDP has been curtailed to a more moderate 59.5% of GDP as of Q4 2020, Ireland’s public debt to GNI* is considerably higher: of nearly 106% as of 2020 (above its 28% of GNI* level as of 2006, even though under 2012 peaks of 166%). Scope evaluates Ireland’s debt sustainability also via assessing general government debt against general government revenues – on which Ireland’s ratio of 254% in the four quarters to Q4 2020 is comparable to that of countries with much higher debt/GDP ratios than Ireland (on this metric, Ireland is more comparable to governments with debt-to-GDP ratios of around 110-120% as of 2020) such as Cyprus (291% general government debt to general government revenues), Spain (290%), Belgium (226%) and France (219%). The increased stock of debt and contingent liabilities due to the Covid-19 crisis makes Ireland more at risk to sudden change in market perception and increases in market rates.

While recovery from crisis is expected to gather momentum moving ahead and the Irish financial system has demonstrated resilience, the full transmission of the recession on the economy and financial system will, nonetheless, require time to evolve as extraordinary support measures are tapered and underlying risks crystallise. Non-performing loans have thus far edged (modestly) higher to 4.2% as of Q4 2020, from 3.3% in Q4 2019 – albeit far under peaks of above 25% of total loans per 2013. Common equity tier 1 ratios have similarly been curtailed to 18.9% of risk-weighted assets in Q4 2020, compared with 20.0% in Q4 2018 – even though the Irish retail banking system remains highly capitalised, including when compared against system-wide capitalisation levels of under 10% about a decade before.

While the banking system has delevered, the high absolute size of the composite Irish financial system – including the growing non-bank sector – compared with that of the domestic economy remains a substantive vulnerability. Total financial-system assets increased to EUR 6.7trn in 2020 – amounting to 31x GNI*, an all-time high. Pre-Covid deleveraging within the retail banking system has been more than offset by growth in the non-bank sector – especially investment funds, with Ireland’s funds sector being among the largest in the world compared with the size of the economy. While the vast majority of exposures of investment funds and ‘other’ financial institutions are to the non-resident sector, domestic links are considerable and increasing⁶; the central bank has, in addition, asked asset managers to review liquidity management processes⁷. Within current conditions of increasing global asset price imbalances alongside uncertainty with respect to rates longer term, any future repricing of global markets could impact Ireland asymmetrically via conduits in the nation’s financial intermediaries. Risks to the investment fund sector hold linkages with the domestic economy such as large holding of over 40% of investable Irish commercial real estate (CRE) – the latter being a sector with associated data limitations that restrict transparent assessment of risk. Improvements in data of Irish CRE would be considered credit positive. In addition, there are links between the CRE sector and Irish banks. Irish retail banks’ exposures to leveraged loans and the investment portfolios of domestic insurers provide direct transmission channels to some of the more vulnerable segments of global corporate debt markets.

Ireland’s ratings reflect elevated gross external debt levels, which, however, have been reduced from Q1 2015 peaks of 1,061% of rolling four-quarter GDP, to 701% as of Q4 2020. The net international investment position remains in a significant net liability position of -168% of GDP in Q4 2020 but is up on lows – helped by a current-account surplus of 4.6% of GDP in 2020. Forthcoming discussion around global corporation tax reform represent a longer-term risk⁸. Discussions centre around two core areas: i) addressing challenges posed by digitalisation and big tech firms that operate across national boundaries; and ii) creation of a global minimum corporate tax rate (suggested in the latest proposal by the United States for at least 15%). Due to a corporate tax rate of 12.5%, Ireland is among countries that could stand to see attenuated competitiveness – even if this low corporate tax rate of Ireland is only one of many reasons businesses decide to base themselves in Ireland. The government estimated in the past that the Irish State may lose EUR 2bn (0.9% of 2021 GNI*) of corporation tax receipts longer term due to OECD proposed BEPS (base erosion and profit shifting)-related changes⁹ – with such global corporate-tax governance changes holding implications for growth potential, the external position and fiscal performance. However, the exact scale of impact hinges upon the contours of a global tax agreement, as well as on policies Ireland may adopt in response to ease consequences for comparative advantage.

Finally, Ireland’s ratings remain constrained by historic vulnerability of the economy to reversal during global downturn. The size and complexity of Ireland’s financial and corporate sectors, when considered under the context of a small (nominal GDP of EUR 419bn in 2020) and very open economy, creates susceptibilities to domestic and international trade and financial-system shock, even though enhancements at national and regional levels will make Ireland more resilient for the future.

Core Variable Scorecard (CVS) and Qualitative Scorecard (QS)

Scope’s Core Variable Scorecard (CVS), which is based on the relative rankings of key sovereign credit fundamentals, provides an indicative rating of ‘aaa’ for the Republic of Ireland, after including adjustment for reserve currency under Scope’s methodology. As such, under Scope’s methodology, a ‘aaa’ indicative rating can be adjusted by the Qualitative Scorecard (QS) by up to three notches depending on the size of relative qualitative credit strengths or weaknesses against a peer group of countries.

For Ireland, the following relative qualitative credit strength is identified: i) growth potential. The following relative credit weaknesses were identified against Ireland’s ‘aaa’ sovereign peer group: i) macro-economic stability and sustainability; ii) debt sustainability; iii) current account resilience; iv) external debt structure; v) resilience to short-term external shocks; vi) financial imbalances; and vii) social risks.

Combined relative credit strengths and weaknesses generate a two-notch downward adjustment and signal an AA sovereign rating for the Republic of Ireland. The lead analyst has recommended a further one-notch adjustment of the indicated rating to AA- to take into account important distortions in Irish economic data due to Ireland’s highly globalised economy that tend to overstate the performance of underlying fundamentals and credit metrics assumed in the Scope quantitative model (CVS).

A rating committee has discussed and confirmed these results.

Factoring of Environment, Social and Governance (ESG)

Scope explicitly factors in ESG sustainability issues during the ratings process via the sovereign methodology’s stand-alone ESG sovereign risk pillar, with a 20% weighting for ESG under the quantitative model (CVS) as well as in the qualitative overlay (QS). Governance-related factors are explicitly captured in Scope’s assessment of ‘Institutional and Political Risk’ in the methodology, within which Ireland has strong CVS marks on a composite index of six World Bank Worldwide Governance Indicators. Qualitative governance-related assessments reflect Scope’s QS evaluation of ‘neutral’ on ‘institutional and political risks’ as compared with the sovereign peer group.

Social factors are captured first in Scope’s quantitative model (CVS) in Ireland’s moderate levels of income inequality, average performance on labour force participation – of 61% of the active labour force as of Q4 2020, and middle performance on old-age dependency. Moreover, high GDP per capita (estimated of USD 83,850 in 2020) and a moderate level of risk associated with the official national unemployment rate (of 5.8% as of April, after having declined from 6.8% in September 2020, although true Covid-19-impact-adjusted unemployment is considerably higher, estimated at 22.4% in April¹⁰) are considered under the CVS. Policy priorities of the government include resolving a housing shortage and addressing homelessness, including via increasing the supply of social housing, as well as overhauling healthcare. An inclusive and sustainable economic recovery also requires further investment in education and vocational training, as well as increasing participation of female workers in the labour force.¹¹ Social considerations are reflected in Scope’s QS evaluation of ‘weak’ on Ireland’s ‘social risks’ as compared with the economy’s sovereign peers, on the basis of favourable demographics, but moderate income inequality and risks from social exclusion.

Scope’s methodology explicitly captures environmental credit-relevant factors under the “E” sub-category of the ESG analysis. In the CVS, this includes recognition of Ireland’s comparatively more moderate risks as associated with global transition towards lower-carbon economic frameworks due to the economy’s comparatively low carbon intensity. Moreover, Ireland performs adequately on risk associated with natural disaster events, including those exacerbated by anthropogenic climate change, as captured via an assessment of the vulnerabilities and exposures to extreme natural events in the World Risk Index¹². Next, Ireland performs well on an index of its ecological footprint of consumption compared with available biocapacity within in its borders under the CVS. Scope evaluates Ireland as ‘neutral’ on ‘environmental risks’ in a QS evaluation against the nation’s sovereign peer group.

Rating Committee
The main points discussed during the rating committee were: i) globalisation’s impact on Irish data and impact on the CVS; ii) growth and fiscal dynamics; iii) private-sector debt; iv) external risk; v) banking-sector stability; vi) risks from global corporate tax law changes; vii) challenges concerning Ireland’s economic structure; and viii) sovereign peers considerations.

Rating driver references
1. European Banking Authority: 2018 EU-wide stress test results
2. Central Statistics Office (Ireland): Modified Gross National Income
3. Ireland Department of Finance: Stability Programme Update 2021 - Summary
4. Central Statistics Office (Ireland): Government Finance Statistics – Annual
5. National Treasury Management Agency – Investor Presentation (May 2021)
6. Central Bank of Ireland: Financial Stability Review 2020 II
7. Central Bank of Ireland
8. Financial Times
9. Irish Times
10. Central Statistics Office (Ireland): Monthly Unemployment (April 2021)
11. International Monetary Fund – Ireland: Staff Concluding Statement of the 2021 Article IV Mission
12. The World Risk Report

Methodology
The methodology used for these Credit Ratings and/or Outlooks, ‘Rating Methodology: Sovereign Ratings’ 9 October 2020, is available on https://www.scoperatings.com/#!methodology/list.
Scope Ratings GmbH and Scope Ratings UK Limited apply the same methodologies/models and key rating assumptions for their credit rating services, while Scope Hamburg GmbH’s methodologies/models and key rating assumptions are different from those of Scope Ratings GmbH and Scope Ratings UK Limited.
Information on the meaning of each Credit Rating category, including definitions of default, recoveries, Outlooks and Under Review, can be viewed in ‘Rating Definitions – Credit Ratings, Ancillary and Other Services’, published on https://www.scoperatings.com/#!governance-and-policies/rating-scale. Historical default rates of the entities rated by Scope Ratings can be viewed in the Credit Rating performance report at https://www.scoperatings.com/#governance-and-policies/regulatory-ESMA. Also refer to the central platform (CEREP) of the European Securities and Markets Authority (ESMA): http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. A comprehensive clarification of Scope Ratings’ definitions of default and Credit Rating notations can be found at https://www.scoperatings.com/#governance-and-policies/rating-scale. Guidance and information on how environmental, social or governance factors (ESG factors) are incorporated into the Credit Rating can be found in the respective sections of the methodologies or guidance documents provided on https://www.scoperatings.com/#!methodology/list.
The Outlook indicates the most likely direction of the Credit Ratings if the Credit Ratings were to change within the next 12 to 18 months. 

Solicitation, key sources and quality of information
The Credit Ratings were not requested by the Rated Entity or its Related Third Parties. The Credit Rating process was conducted:
With Rated Entity or Related Third Party Participation    YES
With access to internal documents                                   NO
With access to management                                            NO
The following substantially material sources of information were used to prepare the Credit Ratings: public domain and the Rated Entity.
Scope Ratings considers the quality of information available to Scope Ratings on the Rated Entity or instrument to be satisfactory. The information and data supporting these Credit Ratings originate from sources Scope Ratings considers to be reliable and accurate. Scope Ratings does not, however, independently verify the reliability and accuracy of the information and data. Prior to the issuance of the Credit Rating action, the Rated Entity was given the opportunity to review the Credit Ratings and/or Outlooks and the principal grounds on which the Credit Ratings and/or Outlooks are based. Following that review, the Credit Ratings were not amended before being issued.

Regulatory disclosures
These Credit Ratings and/or Outlooks are issued by Scope Ratings GmbH, Lennéstraße 5, D-10785 Berlin, Tel +49 30 27891-0. The Credit Ratings and/or Outlooks are UK-endorsed.
Lead analyst: Dennis Shen, Director
Person responsible for approval of the Credit Ratings: Dr Giacomo Barisone, Managing Director
The Credit Ratings/Outlooks were first assigned by Scope Ratings in January 2003. The Credit Ratings/Outlooks were last updated on 17 January 2020.

Potential conflicts
See www.scoperatings.com under Governance & Policies/EU Regulation/Disclosures for a list of potential conflicts of interest related to the issuance of Credit Ratings.

Conditions of use / exclusion of liability
© 2021 Scope SE & Co. KGaA and all its subsidiaries including Scope Ratings GmbH, Scope Ratings UK Limited, Scope Analysis GmbH, Scope Investor Services GmbH, and Scope ESG Analysis GmbH (collectively, Scope). All rights reserved. The information and data supporting Scope’s ratings, rating reports, rating opinions and related research and credit opinions originate from sources Scope considers to be reliable and accurate. Scope does not, however, independently verify the reliability and accuracy of the information and data. Scope’s ratings, rating reports, rating opinions, or related research and credit opinions are provided ‘as is’ without any representation or warranty of any kind. In no circumstance shall Scope or its directors, officers, employees and other representatives be liable to any party for any direct, indirect, incidental or other damages, expenses of any kind, or losses arising from any use of Scope’s ratings, rating reports, rating opinions, related research or credit opinions. Ratings and other related credit opinions issued by Scope are, and have to be viewed by any party as, opinions on relative credit risk and not a statement of fact or recommendation to purchase, hold or sell securities. Past performance does not necessarily predict future results. Any report issued by Scope is not a prospectus or similar document related to a debt security or issuing entity. Scope issues credit ratings and related research and opinions with the understanding and expectation that parties using them will assess independently the suitability of each security for investment or transaction purposes. Scope’s credit ratings address relative credit risk, they do not address other risks such as market, liquidity, legal, or volatility. The information and data included herein is protected by copyright and other laws. To reproduce, transmit, transfer, disseminate, translate, resell, or store for subsequent use for any such purpose the information and data contained herein, contact Scope Ratings GmbH at Lennéstraße 5, D-10785 Berlin.