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If recent experience is any guide, the loss to Britain of its triple-A credit rating is a good thing. Political pundits are betting on the removal of George Osborne, the U.K.'s Chancellor of the Exchequer, following the decision by Moody's on Friday to strip the U.K. of its top rating but the assassins might do well to stay their hand. U.S. Treasuries are currently at lower yields than in August, 2011, when Standard & Poor's downgraded American debt, and investors like French sovereign debt more than they did a year ago ahead of its downgrade in January, 2012.
This behaviour tells us two things that we should know already: that bond investors make up their own minds about credit, and that rating agencies are a lagging, not a forward indicator. The sovereign bond market knows that the U.K. economy is bumping along the bottom and last month's lousy public finance figures – these showed an increase in the budget deficit to £15.4-billion ($23.8-billion) compared with £14.8-billion a year ago – were expected.
Moody's said it was relegating the U.K. by one notch below triple-A for three reasons: Weak economic growth prospects in the medium term, the challenges posed by weak growth to reducing the budget deficit, and consequently, weaker ability of the government to withstand economic shocks.
The question is not why Moody's has chosen to do this, but why it did not do it before. Sterling dipped by 2 cents against the dollar to $1.51 over the weekend in a knee-jerk acknowledgment of Moody's judgment. But there was no further deterioration despite the dire warnings from some pundits of a currency crisis. And you might think that after almost five years of economic doldrums since the financial crash, the market has come to the reasonable view that the British currency was overvalued, enjoying excessive inflows of flight capital from the euro zone crisis countries, and is now finding its proper place.
A slightly weaker pound will be good for exporters and may encourage investors. The U.K. stock market is a lot cheaper in fundamental valuation terms than the U.S. with a price earnings ratio of 15 times compared with almost 18 times for the S&P 500. Sterling's slide against the dollar, a 5-per-cent depreciation over the past year, makes the country look cheaper still and, as rating agency points out, Britain has the advantage of having its own central bank and monetary authority. The runes appearing from the Bank of England and its incoming governor, Mark Carney, suggest there will be no superhuman efforts to bolster the value of sterling or to abolish a bit of gentle inflation.
This contrasts hugely with the situation in the euro zone, where the single currency is buoyant, boosting financial asset values and making life difficult for exporters of goods to North America and Asia. Finally, a financial investor might also wonder, in the circumstances, what a sovereign credit rating means in the context of a government with its own currency and central bank. Given the Bank of England's ability to print its own money, something it has already been doing in a round-about-way with quantitative easing, it is difficult to figure what Moody's means when it measures default risk on U.K. gilts. However you look at it, Mr. Osborne's position is not as bad as it might at first seem.
Carl Mortished is a contributor to ROB Insight, the business commentary service available to Globe Unlimited subscribers. Click here for more of his Insights.
Carl Mortished