James Moore: Those ratings agencies can still bite hard
Wednesday 11 November 2009
Outlook In the world of ratings agencies there is a very definite hierarchy. Standard & Poor's sits at the top of the tree, a branch or two above Moody's. Fitch occupies third place and, as a result of this, it has often proved rather more willing to say rather more interesting things than the others. This is probably because it knows they won't have quite the same impact, so there is less risk. That wasn't the case yesterday, however, when Fitch warned that of all the major economies, Britain's prized AAA credit rating was most at risk of a downgrade.
The pound immediately took a bath on the foreign exchange markets, while the cost of insuring Britain's debt against default over five years increased (yes, credit crunch or no, you can still play around with crazy derivatives like this). The spotlight is once again right back on Britain's yawning budget deficit, and perhaps it should be. A look at one of those counter things that shows how rapidly it is increasing is enough to tell you that.
But there is another issue at work here, too. Consider the effect of Fitch's pronouncements. That really is quite some power, if you think about it, because it's not as if we haven't been here before.
For once, S&P actually set the ball rolling when it put Britain's AAA rating on negative outlook way back in May – where it has remained, and will remain, until there is more clarity on plans to reduce the deficit. Fitch, the scrappy little brother without quite the cachet of its stuffier older siblings, has not even gone that far. In its view, the outlook for Britain's credit rating remains comfortably stable, although David Riley, the agency's head of sovereign debt, later clarified his position on this. The stance, he said, "reflected our expectation that the UK Government will articulate a stronger fiscal consolidation programme next year". So that's all right, then. Nothing to worry about here, move along. Let's face it, all Mr Riley and his colleagues have done is to warn that if any of the big boys (the US, France, Germany, Japan, Britain) are going to get downgraded, it's probably going to be us.
To prevent this, we really need to reduce our budget deficit as quickly as possible (well, duh). But there's no chance of either of the main political parties telling us how they intend to accomplish this and how hard the necessary cuts/tax rises will bite until after the General Election at earliest (double duh). If they're even straight with us then, which they probably won't be.
What Fitch's entry into this particular debate has done, though, is serve to highlight the incredible power that these ratings agencies still possess. Their performance in the run-up to the credit crunch was nothing short of atrocious. England under Graham Taylor at his turnip-head nadir were never so bad. These, remember, were organisations that blithely attached the holy grail of "investment grade" ratings to all sorts of collateralised debt thingies that, as investments, should really have been classified alongside ostrich farms and penny shares. All sorts of organisations relied on those ratings as a guide to where they should put their money, and to how much risk particular investments carried. Some of them really should have known better, but that's not really the point, because yesterday we saw that even a relatively small ratings agency still has the power to introduce a flutter in the markets with a pronouncement that really only restated what one of its rivals had already said and what, in fact, we already knew.
Were it to come out with something of a little more significance like, oh, let's say, lopping a notch off that prized AAA rating (or Moody's slightly more opaque equivalent), the consequences would be truly awful.
The cost of all that debt would increase dramatically, for starters. Sterling would execute a nosedive and we would probably find ourselves at parity with the euro, and maybe the dollar as well. It is not inconceivable that there would be an emergency debate in the House of Commons. The Bank of England would almost certainly be called upon to take some sort of action.
In short, we would be in a world of pain – and all of this based upon the opinion of organisations that we now know were for years waltzing around in the emperor's new clothes.
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