Will the UK lose its AAA, and does it matter?


Will the UK lose its AAA and does it matter?

The answer to the first question is "probably" - although the timing is uncertain.

And the answer to the second question is, "Possibly not, in an economic sense, but probably a good deal, in a political sense."

The reason the AAA is in jeopardy is that the government is taking a bit longer than it promised to stabilise public sector debt as a percentage of GDP.

Even with the benefit of the significant new interest rate subsidy the government receives on the third of its debt held by the Bank of England, and despite a windfall of more than £28bn from the liquidation of assets held in Royal Mail's pension fund, public sector net debt is rising far faster and for longer than the Treasury hoped a year ago (although, to further confuse like-for-like comparisons, there is also a negative impact from reclassifying Northern Rock and Bradford & Bingley debt).

So, on the definitions used in this country, net debt now peaks at 79.9% of GDP (the annual value of what the UK produces) in 2015-16, before falling very slightly to 79.2%.

And on the eurozone's calculation, UK public sector debt reaches a peak of 97.4% in 2015/16 (remember that France lost its AAA on the basis of a profile for the evolution of its debt not conspicuously worse than the UK's - although arguably with fewer available economic remedies, because of its membership of the currency union).

The important comparator is this: 18 months ago, the Office for Budget Responsibility (OBR) was forecasting that public sector net debt would reach its peak a year earlier, in 2014-15, and it thought that peak would be considerably lower - 70.9% of GDP (87.2% on the eurozone's basis).

To put all this in slightly less befuddling terms, the UK government now expects to owe its creditors £1.442tn by 2016/16, which is £83bn more than it was forecasting 18 months ago for future debt.

And the other relevant point is that there is plenty of evidence that once public sector debt reaches that range of 80-100% of GDP, economic performance suffers.

That's one reason why the chancellor has decided that public spending cuts and tax rises, or the cliched austerity, have to roll relentlessly on until at least 2018.

Anyway, to get back to the question of the AAA, if the credit rating agencies had a high degree of confidence that public sector net debt would indeed reach a peak of almost 80% in 2015/16, then the UK might retain its AAA.

For example, Moody's - which has a "negative outlook" on the UK's credit rating - recently said that what mattered was that the UK's "debt metrics" should "stabilise within the next 3-4 years".

Moodys Credit ratings agency Moody's has a negative outlook on the UK

This all-important confidence in an end to the rising burden of debt is umbilically linked to what happens to economic growth in the coming weeks and months - because growth determines the tax revenues the Treasury is likely to receive.

Since the crash of 2008, the UK economy has consistently performed far worse than expected by the OBR and most independent forecasters.

If you believe that the UK's luck has now changed, and that future economic surprises will be positive, then the UK may just keep the triple AAA.

If on the other hand you fear that most forecasters are still failing to properly capture the negative impact of "deleveraging" - or households, businesses, banks and the government trying to cut their big debts - and if you see a serious risk of a further worsening in the eurozone's mess, then you would question whether even the anaemic recovery expected by the OBR in 2013 will take place.

As it happens, research by Professor Costas Milas of Liverpool University suggests that the latest deterioration in the UK's fiscal prospects should not automatically lead to a downgrade.

That said, the ratings agencies have made it clear that the UK is in a saloon called "last desperate chance to retain AAA" - and any more fiscal misbehaviour will inevitably see it ignominiously ejected.

If the UK loses its cherished membership of the AAA club, does it matter?

Well, it would certainly be something in a political sense - because the prime minister and chancellor have swanked so much in recent years about how great it is that the UK is AAA, and how they would work tirelessly to retain that glistening kitemark of creditworthiness.

So if the UK loses AAA, there will be a tsunami of schadenfreude from the opposition.

But here is where you may well wonder why on earth you have devoted an irreclaimable and precious few minutes of your life to reading this stuff - because it is plausible that losing the AAA will have little economic impact.

Big swinging investors tell me two things.

Start Quote

In an ugly contest between over-indebted rich developed economies, the UK's public finances look a lot less ugly than many others”

End Quote

First, that what matters to them is the underlying economic performance, not whether the badge is AAA or a notch lower.

And, as it happens, they have pushed up the cost for the government of borrowing for longer periods in the past few weeks and months, precisely because of the anticipated fiscal debt worsening (which, if you choose, you could see as investors discounting the future loss of AAA).

Second, that the fundamental status of the UK as a safe haven for investment is not in jeopardy.

You may think that is extraordinary, given the huge rises in the government's debt burden.

But, as I've bored on about many times, investors have to put their money somewhere.

And in an ugly contest between over-indebted rich developed economies, the UK's public finances look a lot less ugly than many others (a big hello to many of our allies across the Channel).

So here is the terrible paradox: if the eurozone were to be seen to be fixing itself, that would be good for the British economy (companies would feel more confident about investing, trade would pick up, and so on); but the government's borrowing costs would probably rise, because investors would feel less worried about lending to the eurozone and would lend relatively less to the UK.

Or to put it another way, a fall in the price of UK government bonds (gilts) and the corresponding rise in government interest costs might well be a sign that things are getting better, in a fundamental sense, and would not be the canary-in-the-coalmine warning we're all about to die of debt-induced asphyxiation.

Why all the bloomin' fuss about the AAA then?

Well, as a Treasury official put it to me, "Cameron and Osborne have created a rod for their own back with their AAA fixation - and it's a bit of a pain".

Robert Peston

Robert Peston Article written by Robert Peston Robert Peston Economics editor

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  • rate this

    Comment number 266.

    120 yes every thing is impartial and intatters and indefecit and inclined and in denile about the screw up fraud and all

  • rate this

    Comment number 265.

    Whistling Neil @260
    "Deep Thought"
    So complex...

    Except that there is an answer!

    With understanding and agreement on Equal Partnership, we still might make mistakes...

    But, mistakes would be less likely with removal of such Conflicts of Interest as seen to-date to corrupt all spheres and all levels, not just in the making of decisions but critically in the framing of questions

  • rate this

    Comment number 264.

    The lower the rating, the higher the interest to borrow.
    The Chancellor tends to wheel out AAAr approval to shore up his own position, pointing to the UK’s AAA rating as a sign that he is pursuing the right economic policy. If Fitch does strip Britain of its AAA rating, it will mean the Chancellor will have to change his message.
    I think we're going to hear the new message...

  • rate this

    Comment number 263.

    Sir - You are surprisingly cushy on the subject of loosing our
    excellent AAA credit rating. Overseas investors would tend to
    lean towards the UK with its standing. Surely we would have to pay
    more in interest, if this rating was lost, adding to the budget deficit.
    The drawbacks may go unnoticed, but they will exist. Ted Wilcock

  • rate this

    Comment number 262.

    # 256voice-of-irrationality - LIBOR, lending, CDS, commodity inflation?

    The IMF found only 3.7% of total 32.6 point additional government debt pile was caused by an overshoot in public spending; a further 5% down to fiscal stimulus response.

    The vast majority was caused by a fall in national output due to credit crunch, recession & bank bail-outs.


  • rate this

    Comment number 261.

    The erstwhile Shadow Chancellor issued a pledge in February 2010, comprising 8 commitments; the top one being to keep the UK's AAA credit rating.

    He has kept that pledge so far, yet it is difficult to see which, if any of the others have been met half way through the parliament.

    No surprise that in August top economists called for a change of policy & Lord Lawson told him to focus on the task.

  • rate this

    Comment number 260.

    232 The answer is simple, because through out the entire time the vast majority of voters never understood the problem they were attempting to answer by selecting a government - it is very complex and highly interdependent set of cause , effect and unintended consequence. It is little different to Deep Thoughts response to the question of life the universe and everything - wrong question asked.

  • rate this

    Comment number 259.

    I'm surprised the rating have not been downgraded several times already!

    The City, Bank of England and poor Government caused this mess, so they should pay the costs of fixing it.

  • rate this

    Comment number 258.


    The downgrad of south Euro countries increased their interest rates. It doesn't seem to have affected France in same way.

    It's possible that investors will weigh other factors - look at the detail of the UK economy - and merely shrug.

    It's possible that some countries/investors around the world, who do not like us, will use it as an excuse to take an econo-financial dig at us.

  • rate this

    Comment number 257.

    254 voiceofrationality Labour was running the same deficits as a percentage of GDP as the Tories. The increase was that tipped the economy into crisis was a mountain of private debt and a tipping point of sub-prime defaults.

    If Labour was at fault it was not taking decisive action to address the housing bubble. The Tories weren't advocating anything different at the time except looser regulation.

  • rate this

    Comment number 256.

    @252 It was Labour that got us into this horrendous debt mess. The Coaltion are trying their best to fix it, and doing a commendable job given the breathtakingly appalling legacy they inherited from Labour. The only "goals" that Labour (and Ed Balls in particular, given that he is up to his neck in the ordure of Labour's legacy) have any chance of scoring are own goals!

  • rate this

    Comment number 255.

    Economists always explain after the event.
    Economic theory is based on markets behaving rationally because they make the assumption that all available information is known to the decision makers in that market.
    History shows that the reality of the 'markets' is decisions are based on sentiment, greed, fear and panic. Inconvenient facts are ignored.

  • rate this

    Comment number 254.

    @253 What we actually had was Labour running deficits even in the peak boom years and setting in place amounts of public expenditure that simply cannot be sustained, particularly in the later years where what they inflicted on the country can best be described as a "scorched earth policy"!

  • rate this

    Comment number 253.

    Let's take a step back and look at how we got here.

    We had decades of unremitting corporate greed, profligate risk taking with other peoples assets and tax avoidance by companies and the individually rich on an industrial scale.

    We still do.

    If any government had grasped this rather than the easy targets of "scivers" and public sector workers then our credit rating wouldn't be an issue.

  • rate this

    Comment number 252.

    It is correct that the political risks for DC & GO are much higher than the economic ones, should the UK be downgraded from AAA. GO attempted to create markets panic on ratings before last election.

    The Shadow Chancellor is a known, keen footballer. Unless he and his striking partner can score into the open goals presented to them by GO & DC, then even the political risks will be tiny.

  • rate this

    Comment number 251.

    Will the UK lose its AAA, and does it matter?

  • rate this

    Comment number 250.

    Also @243 you're using the apostrophe incorrectly. "Its" when used to denote ownership (which is the context you are using) has no apostrophe. "It's" is short for "it is", which is of course completely different.

  • rate this

    Comment number 249.

    @245 in (statistical) fact "under the Tories", UK National Debt as a % of GDP fell from about 45% in 1979 to just over 30% at the end of the 80s. It then rose back over 40% as a result of the early 90s recession (my mortgage at the time as briefly at 13.2%: can you imagine that now?!?!). As regards "the greedy minority at the top" I will need another post!

  • rate this

    Comment number 248.

    When are all these economists going to admit that their predictions are never anywhere near accurate. What a waste of time and effort! Would be far more helpful if they used their undoubted intelligence to come up with ideas to CREATE growth rather than just COUNTING it...

  • rate this

    Comment number 247.

    running a surplus
    taking more out of the private sector
    taxes on households and firms
    than it spends into them
    destroys net money from the private sector
    increasing it's debts
    uk and Europe trying to cut deficits when the private sector
    is struggling to grow is not economic prudence
    it is economic masochism
    it is failing
    double dip is coming to Europe too
    and failing to meet it's own targets


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