How `Brexit' Puts European Institutions at Risk of Downgrade

'Brexit' Concerns: What's at Risk for the EU?
  • Loss of U.K. will `weaken' EIB's profile: Societe Generale
  • EU could suffer a one-level ratings downgrade on `leave' vote

The consequences of a “leave” vote in the U.K.’s June 23 referendum on its European Union membership may spread beyond Britain’s shores, according to Societe Generale SA.

While the U.K.’s assets will depreciate should the nation vote to sever a more-than-40-year-alliance with the continent, its close links to the rest of the bloc’s financial entities also leave the EU vulnerable. The EU’s ratings could suffer and the European Investment Bank, which helps provide financing for projects in the region, is “particularly at risk” in the event of a “Brexit,” Cristina Costa, a Paris-based analyst at SocGen wrote in a note to clients.

The EIB would have to endure both a “downgrade and spread widening,” Costa wrote. With the U.K. being one of the bank’s highest-rated countries, contributing as much as 16.1 percent to its capital, an exit “could weaken the profile of the bank” as it will decrease the share of contributions from high-rated countries to 59.6 percent from 66.1 percent, she wrote. The EIB has the highest credit grade at Fitch Ratings, Moody’s Investors Service and Standard & Poor’s.

The EU could face a single-level downgrade while “Brexit” might also mar the ability of the EIB’s “remaining shareholders to provide support, if funding conditions were to worsen significantly,” according to Costa.

Contagion Threat

Repercussions of the U.K. leaving the EU may be difficult to contain. Strategists at HSBC Holdings Plc, Standard Bank Group Ltd and Mizuho Bank Ltd. all cited “Brexit” concerns as weighing on the euro. Mounting uncertainty around the vote has not only weakened the pound against its Group-of-10 peers this year, but it also threatens to drag Europe’s shared currency down. The U.K.’s exit would call into question the whole European project, which champions integration within the region, Frederik Ducrozet, an economist at Banque Pictet & Cie SA in Geneva, said last month.

Similarly, it could make it increasingly difficult for the European Central Bank’s quantitative-easing program to shield the region’s debt. SocGen estimates Britain leaving the EU will trigger at least five or 10 basis points of spread widening from current levels between EIB bond yields and those of Germany’s state-owned development bank KfW, which is considered to be Europe’s benchmark agency debt. Both entities’ debt is currently supported via the ECB’s public-sector purchase program, which is set to end in March 2017.

Britain’s exit could take away about 2.4 percent of the EU’s overall budget, if the U.K. adopted a status similar to Switzerland by becoming a member of the European Free Trade Association, SocGen economists calculated. This “limited” loss “could be fairly easily absorbed by the remaining EU members,” the French bank said.

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