Ratings firm Standard & Poor's cut troubled Cyprus' sovereign credit rating by one notch on Thursday citing "acute problems" in Cyprus's banking sector.
S&P lowered the rating to 'CCC' from 'CCC+' and warned the outlook for the rating was negative as the country struggled under a tight deadline to formulate an acceptable rescue plan with the European Union.
While a deal is possible, S&P said, "In light of building economic and financial stability pressures, the terms of any support package are likely to be unpopular and challenging to implement in the context of a severe, protracted economic downturn and an extended bank holiday."
"As a consequence, we believe that risks of a sovereign default are rising."
S&P said in a statement that neither Cyprus's government nor bank shareholders appeared capable to meet the pressing capital needs of its teetering banks.
"In the absence of foreign private or official capital injections into the Cypriot banks, we see few means to recapitalize the distressed portion of the system without converting bank liabilities, including deposits, into equity claims," it said.
In addition, the ratings agency, warned: "We would likely lower the rating if Cyprus's government fails to obtain a financing program soon."
The CCC rating is three notches above sovereign default.