Debt ratings agency Moody's said yesterday that it may downgrade Bermuda's government bonds, because the Island's "small and relatively undiversified economy" is vulnerable to the effects of the global recession.

Finance Minister Paula Cox said last night she was not surprised that Moody's might want to rethink Bermuda's ratings in the difficult economic environment.

She said representatives from the ratings agency would visit the Island within the next three weeks to conduct a more in-depth assessment.

They will talk with officials from Government and the Bermuda Monetary Authority, as well as leading business people, before making a final decision on whether to downgrade the Island's bond ratings.

International financial services and tourism — Bermuda's two major industries — were feeling the effects of the downturn and this could "weigh on Bermuda's very high ratings", Moody's said.

The New York-based ratings agency also cited Government's guarantee of Butterfield Bank's $200 million capital raise as a factor it had considered in launching its three-month review.

Moody's placed the Island's Aa1 foreign debt rating and Aaa local debt rating on review for possible downgrade.

The foreign currency bank deposit ceiling rating of Aa1 was also placed on review.

The Aaa and Aa1 grade are the highest and second-highest investment-grade ratings.

Credit rating agencies are firms that assess the creditworthiness and financial strength of companies and countries, taking a wide range of factors into account, from debt levels to political stability.

Should Bermuda suffer downgrades from Moody's, or in its "sovereign ratings" from fellow ratings agencies Standard & Poor's or Fitch, the result would be that money would be more expensive for the Government to borrow.

"As a small and relatively undiversified economy, Bermuda is vulnerable to external shocks," said Steven Hess, Moody's vice-president and lead analyst for Bermuda. "The current credit crisis and global recession are affecting the economy and, potentially, government finances."

Butterfield Bank announced 11 days ago that it was issuing $200 million in preferred shares to be guaranteed by the Government.

Any shares not snapped up by the private sector by the end of June will be purchased by Government.

"If this amount were to be funded by debt, government debt ratios would rise beyond the higher levels already forecast in the 2009-10 budget," Mr. Hess said. "It is not certain that the government will have to issue debt for this purpose, but the possibility was one factor in our decision to review the ratings."

Ms Cox stressed last night that the announced support of the bank would be within the Government's new debt ceiling of $1 billion. She added: "Further, the preliminary readings by the market suggest a very high level of interest in the offering. This is consistent with the views of the bank's and Government's financial advisers."

Moody's also pointed out that in comparison to a number of other governments rated at similar levels, he said, Bermuda's debt ratios would remain relatively low — even in the case of increased debt issuance. "In addition, the purchase of bank shares would not immediately affect the government's net worth, as it would be acquiring an asset," Moody's added.

Ms Cox said last night that the "wait-and-see" approach being adopted by Moody's was not surprising, as rating agencies took a wide variety of factors into account in their assessments.

"We anticipated that the global economic environment and the prevailing uncertainty about some of the recent discussions regarding the international financial centres could cause a rethink of our ratings – this especially given our twin pillars of international business and tourism," Ms Cox told The Royal Gazette. "Moody's have not made a final determination. The rating agency contacted Ministry of Finance earlier today (yesterday) to advise of their decision to put Bermuda's ratings under review over the next three months."

She also suggested that Moody's outlook on the economy differed from that of the Finance Ministry. "Ministry of Finance stated very directly that Bermuda's economy would likely contract in the range of 1.0 to 1.5 percent in 2009 with the expectation of a slow recovery in 2010 should global economic and financial conditions improve.

"It would seem that Moody's have taken a more negative stance on global economic prospects and the likely impact on Bermuda's leading economic sectors. Clearly, there will be a fulsome discussion of these factors during their ratings visit."

Ms Cox said she would make a further comment after Moody's visit. "Government is confident about the economic resilience of Bermuda and will do what is necessary to protect our national economic interests," she added.

Moody's said the review will consider the effects of the current crisis and resulting changes in the global financial industry on the Island's economic strength. The agency will also assess the outlook for government finances in view of the changed economic outlook and the possible purchase of bank shares.

Moody's last rating action on Bermuda was on November 30, 2001, when a Aa1 long-term foreign currency issuer rating was assigned to the government.