Alistair Darling's pre-Budget report today is apparently the only thing that can prevent Britain from losing her historic and cherished AAA credit rating. Moody's, the leading ratings agency, dropped this bombshell yesterday as the Chancellor prepared to deliver his statement to Parliament.
Mr Darling's team has already made clear that there will be no early move to tighten fiscal policy beyond that already pencilled in at the last Budget, potentially putting the UK on the road to a debt downgrade that would have devastating consequences for sterling, investor confidence and interest rates. A "gilts strike" could follow.
Renewed concerns about the Royal Bank of Scotland and weak manufacturing figures added to the market's jitters yesterday. Although Britain retains AAA status for now, she and the US have been granted only "resilient" AAA ratings by Moody's, below the AAA "resistant" top ratings enjoyed by Canada, Germany, New Zealand, Switzerland and France.
Yesterday's report from Moody's said most AAA countries had "lost altitude in the AAA space", although the UK was deemed as having capacity to repair the damage. According to Moody's, resilient nations are those "whose public finances are deteriorating considerably and may therefore test the AAA boundaries, but which display an adequate reaction capacity to rise to the challenging and rebound". However, this assumption will have to be "validated by actions in the not-too-distant future to continue to support for the rating". In Mr Darling's case, the not-too-distant horizon extends to 12.30pm today, when he is scheduled to begin addressing the Commons.
Alan Clarke, an economist at BNP Paribas, described Moody's comments as "a serious warning shot across the bows to both the current Government and its possible future replacement".
He added: "The risk of a downgrade in the UK has been in the air for some time and on the back of this report, the risk is increasing."
The lowest Moody's AAA rank is "vulnerable", which was given to Ireland before she lost her AAA rating.
The news follows the decision by Fitch to lower Greece's sovereign debt rating by one step today to BBB+, the third-lowest investment grade. On Monday Standard & Poor's put Greece's A- rating on watch for a possible downgrade, signalling that it may be reduced within two months. That, in turn, unsettled the euro, as Greece has long been regarded as the weakest link in the eurozone.
International bailouts within the zone are forbidden under the Growth and Stability Pact, yet if Greece ultimately defaults on euro-denominated debt, it might not necessarily lead to more serious consequences for the euro. The probability of debt default by New York in the 1970s and by California more recently left the US dollar relatively unscathed, but if Greece were to default it would hardly boost the credibility of the euro.
The Dubai crisis ignited the latest conflagration over sovereign debt, dubbed "the new sub-prime" because so much government paper is being issued by nations fighting deflation.
In the case of Dubai, many investors assumed, wrongly thus far, that the city-state's oil-rich neighbour Abu Dhabi would stand by her; they now wonder whether Germany would stand behind Greece. The fear must now be that nervous investors will begin to demand ever-higher risk premia from Britain, Greece, Ireland, Portugal and Spain, and a full-scale panic could contaminate stock markets.
The pre-Budget report is expected to confirm a deficit of about £180bn for the UK in the current financial year, the biggest in the G20 group of nations.