Ireland's credit rating was reduced five levels

Ireland's credit rating was reduced five levels by Moody's Investors Service and further reduction is possible for the government struggles to stem losses in the banking system in the country.

The rating was reduced to Baa1 from Aa2, Moody's said in an emailed statement from London today. That is three levels above non-investment grade and at the same level as countries like Russia and Lithuania. The rating outlook is "negative," said Moody's.

Irish lawmakers on Dec. 15 voted to accept a 85 million euros (113 million) aid package for European governments and the International Monetary Fund to stabilize the country's finances. Moody's said that confidence in Irish banks "evaporated" in the run to the rescue.

"While a cut was anticipated, the severity of the reduction is surprising," said Glas Securities fixed-income firm based in Dublin, in a note e-mailed today.

As European governments struggle to stop the spread of Greece and Spain to other countries, Moody's said this week that could reduce Spain from Aa1. He also Greece's Ba1 rating on review for possible downgrade. The European Union leaders agreed at a meeting yesterday in Brussels to modify the treaties of the block to create a permanent mechanism for crisis management in 2013.

Bank Costs

Although the Irish government has said it is fully funded until mid-2011, investors dumped bonds of the country over concerns that the cost of the banking bailout swamps in the state. Government figures on 28 November showed that Ireland can spend as much as 83 billion euros, more than half of its gross domestic product, to support banks and Allied Irish Banks Plc.

The government plans to reduce spending by 20 percent and raise taxes in the next four years to reduce its deficit. The budget deficit is 12 percent of GDP this year, or 32 percent, including a bank bailout, the government estimates.

"The austerity measures could have feedback effects on economic growth, domestic demand, and that is something that must be controlled," said Dietmar Hornung, an analyst at Moody's, in an interview. He said it is "very unlikely" that Ireland default on its debt.

borrowing costs in Ireland initially rose after the rescue was agreed on 28 November, before declining. The extra yield investors demand to hold bonds to 10 years in Ireland rather than its German equivalent, the European benchmark, widened to a record of the euro was 680 basis points on November 30. Was at 533 at 9:09 am in London, compared to 521 yesterday.

"Ireland has achieved high levels of indebtedness in the past and has shown political cohesion and commitment to enact difficult fiscal consolidation measures," said Hornung. "The government is making significant investments in its banking system that could ultimately generate revenue."