Moody’s Investors Service said the U.K.’s “strengths” aren’t enough to completely shield its top credit rating from the euro-area debit crisis and the government must stick to its deficit-reduction program.
“The U.K. sovereign faces rising challenges, which means that there’s a reduced ability to absorb further macroeconomic or fiscal shocks,” Sarah Carlson, an analyst at Moody’s in London, said in an interview after the company published a report on the U.K. late yesterday. The outlook on the Aaa rating “is stable, but certainly the amount of headroom that existed before has reduced.”
Britain’s Office for Budget Responsibility cut its growth forecasts last month, prompting Chancellor of the Exchequer George Osborne in his autumn fiscal update to extend spending cuts by two years to trim the budget deficit. The U.K. recovery has lost traction as officials in Europe, Britain’s biggest trading partner, struggle to contain the region’s debt crisis.
“The autumn statement gave a pretty good indication that the government remains committed to the fiscal consolidation program,” Carlson said. “This commitment is an important contributor to the Aaa rating and that certainly supports the stable outlook.”
Carlson also said the outlook on the rating “is going to be sensitive to future developments in the euro area.” While the U.K. “isn’t a member of the monetary union, it is certainly not immune to this crisis,” she said.
Osborne has pledged to stick to his deficit-reduction plan, saying it is necessary to shield the economy from the euro-area turmoil that has pushed up bond yields for countries including Spain and Italy.
“We welcome Moody’s assessment,” the U.K. Treasury said in a statement. “However, as Moody’s report points out, the U.K. is not immune to the problems facing our trading partners in the euro area; the crisis is having a chilling effect across Europe and it is important that the euro area continues to take decisive action to fix their problems.”
The pound rose for a second day against the dollar and was up 0.3 percent at $1.5709 as of 8:05 a.m. in London. It traded at 83.53 pence per euro, after reaching an 11-month high of 83.40 pence yesterday.
The 10-year U.K. gilt was little changed, with the yield at 2.094 percent. It declined to 2.034 percent on Dec. 16, the lowest on record.
As part of yesterday’s report, Moody’s cut its U.K. growth forecast next year to 0.7 percent from a previous prediction of 1.5 percent.
“If there’s any additional weakening in the macroeconomic outlook, or need to support the banking system, this could temporarily set back the government’s efforts,” Carlson said.
Moody’s said the U.K. has “significant structural strengths” and scores highly on long-term economic fundamentals, institutional strength, government financial strength and susceptibility to event risk. It also has “substantial flexibility” as it is not in a currency zone.
While European Union nations not in the euro area “can be expected to be somewhat cushioned,” Moody’s said, it added that “no EU sovereign rating can be considered immune.”
The statement yesterday from Moody’s is an annual update on the U.K. and not a ratings action.