The revision of the Outlook on Ireland's 'BBB+' sovereign rating to Stable reflects country-specific considerations, rather than signalling a change in fortune for the eurozone periphery as a whole, Fitch Ratings says. But Ireland's attempts to address elements of the crisis that also apply to other sovereigns can help illustrate how progress has varied from country to country.
One common challenge for the bloc's three programme countries, plus Spain (which has secured an EFSF loan of up to EUR100bn for bank recapitalisation but has not requested a full programme) has been how to balance fiscal and economic adjustment with economic growth.
Ireland is better placed to emerge from its downturn partly because it was the first eurozone country to go into recession, in 2008. Its downturn was long and deep, with a peak-to-trough fall of 11% in real GDP, but Ireland is now further along in its adjustment process than other programme countries. This is illustrated by the improvement in competitiveness which, together with an open economy with a flexible labour market, has supported exports, boosted growth (we forecast real GDP growth of 1.2% next year) and improved the current account surplus. Ireland is now meeting its fiscal targets without experiencing continued GDP declines, and looks set to regain full bond market access, although risks to the economic recovery, such as sensitivity to external demand, remain.
This contrasts with Portugal, where external competitiveness measures are improving, but a relatively small export sector makes external adjustment more difficult. Domestic demand is contracting and unemployment increasing as part of the internal devaluation process, weighing on the economic outlook (we forecast real GDP contractions of 3.2% this year and 1.5% next).
Spain is also still facing a lengthy adjustment, and we forecast real GDP contraction of 1.5% in 2013 as private consumption and corporate investment activity weigh on growth. Some existing reforms, such as the increase in general VAT to 21% from 18% in September and a cut in employers' social security contributions, could help close the competitiveness gap with the rest of Europe if they achieve something akin to a fiscal devaluation.
However, deeper reforms to labour and product markets are needed to boost competitiveness and long-run growth potential. The combination of economic weakness and a poor track record in deficit reduction since the crisis, partly due to developments at regional level, contribute to the Negative Outlook on Spain's 'BBB' rating.
Greece has undertaken the largest fiscal consolidation, but successive programmes have unravelled due to poor implementation and unprecedented falls in real GDP. Political instability and fears of a eurozone exit have deepened the recession. We think that only a combination of further interest rate cuts on eurozone loans, the ECB giving up profits on its Greek government bond holdings, and the migration of bank support costs to the European Stability Mechanism can secure lasting public debt sustainability. Greece's 'CCC' rating denotes substantial credit risk and the possibility of a default.
Political and implementation risk affect all programme countries, but strong political support for, and broader public acceptance of, long-term fiscal consolidation have supported Irish adjustment. The Portuguese government has proved its commitment to fiscal consolidation, but has experienced several policy setbacks due to constitutional court rulings and public protests regarding its plan to raise employees' and cut employers' social security contributions.