UK’s credit rating downgraded

Moody's, one of the top ratings agencies, has downgraded the UK by a notch from an Aa1 rating to Aa2.

Background

In 2016, Britain narrowly voted to leave the European Union. Experts have voiced concerns over the stability of the region’s economy post Brexit. At first the outlook seemed optimistic as UK’s economy grew in a higher than expected rate for the first three months after the vote. However, this trend reversed in 2017.

Based on its performance post the vote, the International Monetary Fund had predicted that the UK would grow at 2% in 2017. However, it lowered its forecast in July announcing that growth rate was likely to be 1.7%. Commenting on the growth, IMF said that UK’s performance has been “tepid.”

Inflation is also a key reason. It has climbed to a four-year high and has thus affected consumer spending. Import prices have also gone up.

Moody’s is a credits ratings agency. In 2013, it became the first major agency to downgrade Britain off its AAA rating. In 2016, other ratings agencies, Fitch and S&P also downgraded UK’s credit rating. SP cut UK from an AAA to AA. Fitch lowered its rating from AA+ to AA.

Analysis

Moody’s assessment came just hours after British Prime Minister Theresa May announced her vision for Brexit. She had noted that Britain would be leaving the single market but did not provide clarity on how that would be achieved. Moody’s has now provided Britain with an Aa2 rating.

A note from Moody’s said, “Moody’s expects the budget deficit to remain at 3% to 3.5% of GDP in coming years against the government’s plan of a gradual reduction to below 1% in 2021/22.”

The agency said that there were two key factors that

The key drivers for the decision to downgrade the UK's ratings to Aa2 are as follows:

1. The outlook for the UK's public finances has weakened significantly since the negative outlook on the Aa1 rating was assigned, with the government's fiscal consolidation plans increasingly in question and the debt burden expected to continue to rise;

2. Fiscal pressures will be exacerbated by the erosion of the UK's medium-term economic strength that is likely to result from the manner of its departure from the European Union (EU), and by the increasingly apparent challenges to policy-making given the complexity of Brexit negotiations and associated domestic political dynamics.

Alastair Wilson, managing director of global sovereign risk at Moody’s has told BBC radio that the agency stands by its assessment noting, “Having looked at Theresa May’s speech, I don’t think there is anything in there which would in any way make us change our assessment. Over the next few years, we have a lot less confidence that the UK’s government is going to be able to fulfil its plans to bring the debt load back down, and this is an extremely high debt load that the UK has, or to be able to achieve some form of agreement with the EU which retains a substantial share of the rights that membership of the EU grants.”

The UK government has said that the agency has not considered the Prime Minister’s latest speech. A statement read, “The prime minister has just set out an ambitious vision for the UK's future relationship with the EU, making clear that both sides will benefit from a new and unique partnership. We are not complacent about the challenges ahead, but we are optimistic about our bright future.”

Assessment

Our assessment is that a lowered rating from Moody’s is a significant hit to the UK economy. The ratings provided by such agencies are an evaluation of a government’s economic strength. A downgrade will affect how much a government will be able to borrow money from international financial markets. We believe that the uncertainty surrounding UK’s economy will likely to grow in the next few years due to the consequences of Brexit.