Standard & Poor’s lowered its outlook on Britain’s top credit rating to negative, citing weak economic growth and a worsening debt profile.
The outlook on the AAA grade, revised from stable, means there is a one-in-three chance that S&P could cut the rating in the next two years, it said in a statement in London today. This could happen if the U.K.’s economic and fiscal performance “weaken beyond our current expectations,” it said.
“We expect economic growth to accelerate slowly, but the risks to our growth assumptions are weighted to the downside however, with associated risks to government finances,” the ratings company said.
The revision increases political pressure on Chancellor of the Exchequer George Osborne, who has promised investors he would stick to plans for the biggest fiscal squeeze since World War II even as the economic recovery struggles to gain traction. Still, investors often ignore such actions, evidenced by the drop in French 10-year bond yields following a downgrade last month and a rally in Treasuries after the U.S. lost its top rating at S&P in 2011.
S&P forecast today that Britain’s ratio of debt to gross domestic product will continue to rise in 2015 and peak that year at 92 percent. It sees a risk it could approach 100 percent if the economic recovery is weaker than currently projected.
The pound extended its decline against the dollar after the S&P announcement. It was trading at $1.6105 as of 5:49 p.m. in London, down 0.3 percent on the day. It weakened 0.3 percent to 81.20 pence per euro.
“Over the next couple of days there will be some downside risk for the pound,” said Ned Rumpeltin, head of Group of 10 currency strategy at Standard Chartered Group Plc in London. “It is not necessarily a very large nail in the pound’s coffin. Even with the potential for a downgrade, sterling still has a credit-rating advantage over many other countries.”
Osborne said in his autumn statement on Dec. 5 that he’s no longer likely to meet his target to begin cutting the burden of government debt in 2015-16 after his fiscal watchdog cut its growth forecasts. Fitch Ratings said that day that missing the debt target “weakens the credibility of the U.K.’s fiscal framework.” It will conduct a further formal review of the rating in 2013 incorporating the budget, due in March.
Fitch and Moody’s Investors Service already have the U.K. on a negative outlook.
“The U.K. has suffered persistent slippage since mid-2010 so the odds are skewed towards a downgrade,” said Alan Clarke, an economist at Scotiabank Europe Plc in London. In 2013, “the U.K. is already facing an uphill battle.”
Speaking to lawmakers earlier today, Osborne played down the importance of Britain’s rating, saying it is only one gauge of the economy’s health.
“The ultimate test is what you can borrow money at,” he said. “The test we have is one we have to meet every week when we go and try and sell our gilts.”
In a statement, the U.K. Treasury said S&P endorsed the government’s “strong commitment” to its fiscal plans.
“It is because we have stuck to that commitment that the deficit is down by a quarter and interest rates are at record lows,” it said. The yield on the 10-year gilt is at 1.86 percent, about a third of the rate on equivalent Spanish debt.
About half the time, government bond yields fall when a rating action suggests they should climb, or they increase even as a change signals a decline, according to data compiled by Bloomberg in June on 314 upgrades, downgrades and outlook changes going back to 1974.
Britain also has a top rating at Moody’s with a negative outlook. Moody’s lowered its outlook on the U.K. grade on Feb. 13, as it cut the ratings of other European countries including Italy and Spain, citing the euro-region debt crisis. Fitch lowered its outlook to negative from stable on March 14, days before Osborne presented his annual budget, citing the weak recovery, high debt, and threats from Europe.