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UK Continues Austerity

Moody's Downgrade Expected

Written by Brian Hicks
Posted March 4, 2013

In recent times, the UK has been quite well-known for sticking to a cherished AAA credit rating. After being downgraded by Moody’s Investor Service, however, it’s looking as if things will not be quite the same in the coming years.

According to CNNMoney, Moody’s cut the nation's rating to Aa1 on February 22 based upon the fact that growth is likely to remain weak into the second half of the decade. As a result, it may be difficult for the UK’s government to fully deliver on its promises to cut debt targets and avoid future shocks that could put the sovereign country in financial distress. 

While thoughts that Britain’s austerity program would be interrupted certainly prevailed up until just recently, the downgrading by Moody’s is enough to cause George Osborne, the UK Chancellor of the Exchequer, to remain vigilant about keeping the program in check. 

According to Businessweek, Osborne has said that the government must “stick to it’s course” in order to reach its goals for debt reduction, which could take a fair amount of time.

Not everyone agrees with Osborne’s decision, however, as there is quite a bit of speculation regarding just how much ratings such as those by Moody’s actually matter in the grand scheme of things. Many investors and economists believe that these types of ratings are actually a poor indicator of a country’s financial health and argue that the government should be focusing on growth rather than a reduction of debt.

Nevertheless, the news surrounding this development caused the pound to weaken just the other day against all currencies except for the yen.

Still, many economists are saying that the rating change by Moody’s is actually no surprise, and that more than anything else, the change was expected. The change is likely to cause a lot of political pressure to ensue—particularly on Osborne—but it isn’t something that has served to become a major breaking development; many have seen this coming.

More than anything else, the downgrade of the Moody’s rating is based upon the fact that the UK economy has weakened and is continuing to do so. This has put a great deal of strain and challenge on Osborne’s plan to reduce the debt.

Moody’s believes the UK actually has a fair amount of “structural economic strengths,” although the fact that the economy has weakened to an extent makes it all the more clear that its ability to absorb shock is less than it once was, thanks to the rising levels of debt seen within the sovereign country.

There are others that are being affected by the need for economic recovery in the UK. The Bank of England, for example, has voted to increase the stimulus this month in order to compensate for the financial issues that face the UK. It was defeated but discussed a number of measures that could help to improve the economy and boost credit.

In the 4th quarter of 2012, Britain’s economy shrank by 0.3%. While this may seem as if it is an arbitrary and rather small number, it also serves as evidence to many that growth in the UK is likely to decline in the coming months, even if the country does indeed have a fair amount of structural financial integrity to work off of.

Fortunately for investors, the Moody’s downgrade is not likely to have a significant impact on the market. According to Businessweek, economist David Tinsley states that the downgrade was “widely expected,” so it shouldn't impact the market in the negative manner many people believe it might.

He goes on to say, however, that the news does not look favorably on the UK, highlighting its vulnerability in ways that may not have been so commonly seen until recent times.

It’s difficult to say exactly how much of an impact the downgrade will have on the UK, but more than anything else it is being viewed as a wakeup call. The austerity program will continue (according to Osborne), with hopes to both reduce the sovereign country’s debt and help to foster growth.

Hopes remain that things will stabilize in the latter half of the decade, and that the country’s strong structural financial integrity will prevail in the end.  

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