U.K.: Losing Its Prized AAA Rating Soon?

Remember that last week, credit rating agency Moody’s followed in the footsteps of S&P and downgraded France’s credit rating from AAA to Aa1 on grounds of poor GDP growth and an anemic jobs market. Although the rating downgrade didn’t really come as a surprise to everyone, it was enough to get a few folks speculating who could be next on the credit rating chopping board. And you know what, word on the streets is that it could be the U.K.‘s turn soon!

These rumors started to go around the markets following the release of the country’s public sector net borrowing report. Data shows that the government borrowed 8.6 billion GBP in October, 2.7 billion GBP more than the amount it borrowed in October 2011. Meanwhile, the government incurred a deficit of 6.7 billion GBP during the month. This means that it spent more than it earned, topping expectations for a 4.1 billion GBP monthly deficit that analysts predicted to follow the 9.9 billion GBP shortfall for September.

Don’t go on thinking that British officials haven’t been doing their job of trying to keep the country’s deficit from ballooning though. A closer look at the data shows that money saved from spending cuts actually rose by 3%, beating expectations which were for a 2.3% increase. Mind you, this already includes the 7.7% jump in spending on social benefits to 16 billion GBP.

For the most part, it was the revenue side of the ledger that did damage to the U.K.’s balance sheets. Tax revenues aren’t picking up as fast they should. October’s figures reflect the drop in corporation taxes which declined by 9.5% to 8.1 billion. According to the Treasury, this weakness is primarily driven by the slump in corporate tax revenues spurred by lower oil and gas output in the North Sea.

But of course, this hasn’t stopped naysayers from speculating that large multinational companies are finding loopholes to avoid paying taxes and that they are doing a pretty good job at it!

Regardless of whether or not there’s truth to these speculations, the report for isn’t good news to Chancellor of the Exchequer George Osborne. He promised earlier this year that he would bring down the government’s borrowing to just 120 billion GBP in 2012 from being at 121.4 billion GBP in 2011. However, the Treasury has already borrowed 73.3 billion GBP since the start of the year and if tax revenues don’t pick up and spending continue to rise, the government may soon need to borrow more money. Estimates reveal that 10 to 15 billion GBP more than the Chancellor’s target could be needed. Yikes!

Consequently, this has gotten a few market participants worried. They warn that we should all start to brace ourselves for the Chancellor to announce more tax increases and spending cuts in his Autumn Statement on December 5.

If you’re wondering how the pound reacted to the report, don’t be surprised to find out that both GBP/USD and GBP/JPY rallied at the wake of the news. The report was released alongside the BOE meeting minutes, which as I’ve already said in one of my earlier posts, turned out to be less dovish than expected.

In this old man’s humble opinion though, it would do you well to be on your toes. It could only be a matter of time until the market’s focus shift to the U.K.’s balance sheets and the country may just lose its prized AAA rating!

1 comment

  1. Harry Pilgrim

    The failure of the tax revenues to materialise reminds me that the same thing happened in the noughty boom. I fear it speaks of some systemic and mysterious fault with the tax collections.

    How many countries are there with bigger debts, deficits and a AAA rating? I can think of, er, none. Surely the UK is next in line for the downgrade treatment.

    That said, now that the Bank has taken 40% of the debt out of circulation I think the ratings are less important than they were. However it needs the Treasury and HMRC to sort themselves out for me to be proven right.

    Reply

Leave a Reply

Your email address will not be published. Required fields are marked *

You may use these HTML tags and attributes: <a href="" title=""> <abbr title=""> <acronym title=""> <b> <blockquote cite=""> <cite> <code> <del datetime=""> <em> <i> <q cite=""> <strike> <strong>