Iceland's instability could hurt ratings - Moody's

NEW YORK (Reuters) - Moody's Investors Service said on Wednesday Iceland's refusal to repay Britain and the Netherlands more than $5 billion (3 billion pounds) could lead to political instability which could pressure ratings.

"Any indication of renewed political instability and/or serious international pressure would signal real credit concerns and could lead to a negative rating action," said Kenneth Orchard, an analyst at Moody's.

Iceland currently has a Baa3 rating.

After weeks of heated debate, Iceland's parliament narrowly approved a repayment of the "Icesave" bill last week. But the President used his constitutional power on Tuesday to force a referendum by refusing to sign it.

After that move, Fitch Ratings cut Iceland's long-term sovereign foreign currency credit rating one notch to BB-plus -- junk status -- and Standard & Poor's said it could cut, by one or two notches, its current BBB-minus rating to junk.

If voters reject the bill, as opinion surveys suggest they might, it would put pressure on the coalition government of Social Democrats and Left-Greens to resign, as well as face regional isolation.

"The government's financial position is well placed to weather a period of temporary uncertainty without impact on its rating," said Orchard.

But renewed political uncertainty, together with intensified international pressure, would complicate Iceland's emergence from the crisis.

Fiscal consolidation could be delayed, while foreign financing from Nordic governments, and therefore the IMF also, is likely to be suspended, at least temporarily, Moody's said in a statement.

(Editing by James Dalgleish)