DUBLIN (Bloomberg) — Ireland's credit rating was cut one step by Standard & Poor's to AA-, the lowest since 1995, on concern the rising cost of supporting the country's struggling banks will swell the budget deficit.

S&P raised its estimate for recapitalising the banking system to as much as 50 billion euros ($63 billion) from a previous estimate of as much as 35 billion euros. Ireland's rating is still one notch better than Italy and three above Portugal. It is seven steps higher than Greece's junk status.

"A further downgrade is possible if the fiscal cost of supporting the banking sector rises further," S&P said in a statement yesterday. Ireland is slated to sell between 400 million euros and 600 million euros worth of bills tomorrow.

Irish Prime Minister Brian Cowen is trying to convince investors the country can cap the cost of rescuing a banking system that almost collapsed after the worst recession on record. The S&P cut comes three months after the European Union announced a rescue package for nations stung by the Greek fiscal crisis and as the slowing global economy prompts traders to dash for the safety of US Treasuries and German bunds.

"They're going to pay very high yields for a prolonged period of time," Jacob Kirkegaard, a research fellow at the Peterson Institute for International Economics in Washington, said in an interview. While "this isn't Greece," the "misfortune for Ireland is not only have they had an incredible housing bust, they have also had very poorly regulated banks. That sets them quite apart" from a country such as Spain. The yield on Irish 10-year government bonds rose six basis points to 5.314 percent as of 8:12 a.m. in London. The extra yield demanded by investors to hold the debt over German counterparts climbed to a record of 321 basis points, 15 points higher than their level before a EU-led rescue plan for the euro region was announced on May 10. The Spanish and Greek spreads were at 184 points and 884 points, respectively.

Irish debt is now riskier than that of Iceland, whose financial system fell apart in 2008. Credit-default swaps on its bonds have surged nearly 200 basis points since March to 309 basis points, the highest since March 2009, according to data provider CMA.

Ireland's debt agency said in a statement that S&P's analysis is "flawed" and that its decision was based on an "extreme" estimate of bank recapitalisation needs. It also said that the country is fully funded into the second quarter of 2011.