DUBLIN (Reuters) � Standard & Poor's warned on Tuesday it may cut Ireland's credit rating again due to the rising cost of recapitalizing nationalized Anglo Irish Bank, pushing Dublin's borrowing costs to fresh peaks.
Ireland is battling to convince investors it can afford to prop up its ailing banking sector and cut the biggest budget deficit in the European Union in the face of a faltering economy and growing risks of a political crisis.
So far it appears to be losing the argument.
Coming a day after credit agency peer Moody's slashed its ratings on Anglo Irish's lower-grade debt, S&P's fresh warning sent Irish credit spreads to new highs and the cost of insuring Irish debt from default hit a new peak.
The news also drove other euro zone peripheral spreads higher.
Ireland's rising borrowing costs are unsustainable over the medium term and are putting mounting pressure on Prime Minister Brian Cowen as he heads into a new parliamentary term on Wednesday, with his coalition and deficit-cutting mandate looking shaky.
The 25 billion euros of aid so far earmarked for Anglo Irish would already push Ireland's 2010 budget deficit to around 25 percent of gross domestic product, compared with an EU limit of 3 percent that Dublin aims to reach by 2014.
In August, S&P cut Ireland's long-term rating by one notch to 'AA-' on fears of a substantially higher bill for supporting the banking sector and assigned a negative outlook, meaning another cut was likely over the next one or two years.
On Tuesday, an S&P analyst said the agency's estimate Ireland would have to pour 35 billion euros into Anglo Irish looked increasingly realistic and any amount beyond that could trigger rating downgrades.
"Estimates which were previously strongly against our 35 billion now seem to be becoming more in line with that level of recapitalization cost," S&P analyst Trevor Cullinan told state broadcaster RTE.
"The government's plan B with Anglo means that this 35 billion could even be exceeded. If that were to be the case, then potentially there would be further downward rating actions."
SENIOR DEBT PLEDGE
The premium investors demand to hold 10-year Irish government bonds rather than euro zone benchmark German Bunds
widened by five basis points on Monday to hit a euro lifetime high at 456 bps.
The government is expected to announce later this week its estimates for the cost of winding down the bank via a two-way split into a "funding bank" and an "asset recovery bank."
Ratings agency Moody's downgraded Anglo Irish's unsecured senior debt on Monday, citing a small residual risk the government might not support this debt.
A finance ministry spokesman said on Tuesday Ireland will honor its obligations to senior bondholders.
The Irish Independent newspaper reported subordinated debt holders faced a discounted buyback and put the final cost of state aid to the bank at around 30 billion euros.
"Subordinated debt management exercises have been a key feature of Irish bank restructuring in 2009 and 2010, with Allied Irish Banks, Bank of Ireland, Anglo Irish, EBS Building Society and Irish Nationwide Building Society all engaging in debt buybacks and/or debt swaps," Davy analyst Emer Lang said in a note.
"Hence a further debt management exercise in relation to Anglo's remaining subordinated debt (total 2.4 billion euros) looks likely," Lang added.
(Editing by Patrick Graham, John Stonestreet)
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