No normal column this week, as a result of holiday, but a comment on the ratings downgrade I did for the Sunday Times News section
Make no mistake, the loss of Britain’s Triple-A sovereign debt rating matters. It is symbolic, has implications for Britain’s future borrowing costs and is a judgment on the credibility of the government’s deficit reduction plan. It should also have put paid to the idea that George Osborne has room for big spending increases or tax cuts to stimulate growth.
The credit rating agencies have been around for more than a century, dominated by the big three of Moody’s (which downgraded Britain on Friday), Standard & Poor’s and Fitch. They came into existence to provide independent assessments of American railroads and other investment propositions for investors. But their prominence has grown in recent years, both because of their award of maximum Triple-A ratings for the dodgy “sub-prime” securities that dragged the world into the financial crisis, and because of their rating downgrades of “sovereign” debt, for countries in the Eurozone but also, 18 months ago, America.
Why does their judgment on countries matter if they got it so wrong before the financial crisis? The agencies argue that different methods and different staff are used to assess sovereign debt than financial securities. And, perhaps surprisingly, their role and importance has grown since the crisis. Ratings are used by financial regulators and by investors.
Do not the markets make their own minds up, and is not that the most important judgment? Markets do cast their verdicts on economies, and the weakness of the pound and the rise in the interest rates the government pays on its debt this year (though they remain at low levels) reflects that. But markets can turn on a sixpence, quickly casting of their worries about an economy. Rating downgrades take a lot longer to reverse and usually are never reversed. So, even though Friday’s downgrade reflected many of the concerns markets have been expressing, and though it was widely anticipated, it was still an important event. There is some comfort from the fact that America and France did not suffer in the aftermath of their downgrades, but it is small comfort.
Will the chancellor rip up his plans in response? No. The worry expressed by Moody’s is that the government has slowed the pace of deficit reduction too much. It is concerned that government debt will not be falling as a percentage of gross domestic product until the next parliament, after Osborne abandoned one of his fiscal rules last year. It is also worried that, while the current government will continue to seek to reduce the budget deficit, there is no guarantee that will be the case after the next election, when another government may be in charge.
With two more rating agencies yet to give their judgment, we may not yet have seen end of Britain’s downgrades. The challenge will be prevent the loss of Britain’s international status going down even more notches in future.