Ratings Downgrade

U.K., U.S. Top Aaa Ratings Tested by Debt Burdens, Moody’s Says

By Matthew Brown

Dec. 8 (Bloomberg) -- Moody’s Investors Service said the top debt ratings on the U.S. and the U.K. may “test the Aaa boundaries” because public finances are worsening in the wake of the global financial crisis.

“The deterioration has been pretty severe,” said Pierre Cailleteau, managing director of sovereign risk at Moody’s, in a Bloomberg Television interview in London. “We expect a pretty strong policy response in the next couple of years in order to keep the debt in the Aaa range. We expect them to bend but not to break.”

The U.S. and U.K. have “resilient” Aaa ratings, as opposed to the “resistant” top ratings of Canada, Germany and France, Moody’s analysts led by Cailleteau said in a report today. None of the top-rated countries is “vulnerable,” or have public finances that are “stretched beyond the point of ‘no return’ to the Aaa category,” New York-based Moody’s said.

The U.S.’s debt burden will climb to 97.5 percent of gross domestic product next year from 87.4 percent, the Organization for Economic Cooperation and Development forecast in June. National debt in the U.S. climbed to $7.17 trillion in November. The U.K.’s public debt will swell to 89.3 percent of the economy in 2010 from 75.3 percent this year, according to the OECD.

There has been a huge increase in debt-to-gross-domestic- product ratios as a result of the crisis,” said David Keeble, head of fixed-income strategy in London at Calyon, the investment-banking unit of Credit Agricole SA. “It’s right that there should be a lot of attention and pressure on these numbers.”

‘Resistant’ Countries

All Aaa rated governments are affected by the global financial crisis, with differences in their impact and ability to respond, Moody’s said. “Resistant” countries, which also include New Zealand and Switzerland, started from a more robust position and won’t see debt exceeding levels consistent with their Aaa status, Moody’s said.

Moody’s defines “resilient” countries as “Aaa countries whose public finances are deteriorating considerably and may therefore test the Aaa boundaries, but which display, in our opinion, an adequate reaction capacity to rise to the challenging and rebound.”

The cost of protecting U.S. debt from default was unchanged at 32 basis points, or $32,000 a year to protect $10 million of the nation’s bonds from default for five years, according to CMA DataVision prices. That compares with a peak of 100 basis points in February and 20 basis points in October.

Credit-Default Swaps

The cost of protecting U.K. debt from default was equivalent to that of Portugal, which is rated Aa2 by Moody’s, its third-highest grade.

Credit-default swaps on U.K. government debt cost 74 basis points, up from 72.5 yesterday, according to CMA prices. The U.K. contracts, which peaked at 175 basis points in February, rose from 44 basis points on Sept. 30, CMA prices show.

“The U.K.’s fundamentals are dismal and don’t support the ratings,” said Mark Schofield, head of interest-rate strategy in London at Citigroup Inc. “Only if some pretty draconian fiscal measures are in place will the U.K. keep hold of its Aaa rating.”


We continue to see a decline in credit worthiness of the US and UK due to massive overleverage.

In a deflationary environment we can expect to see tax revenues drop and CDS basis rise if the effected countries refuse to reduce government deficits.

In my view, the markets have not fully accounted for continuing huge deficits by many Western Democracies. The Aaa UK rating it probably overstated if one considers the country pay the same basis spread Portugal pays on debt with an Aa2 rating.

Who is Moody's kidding?

Once the stock market fully prices in the growing debt problem, a substantial correction is likely, in my view.

For more on a similar topic consider this post:

Will $106 Trillion Make Atlas Shrug?


  1. PW, do you see countries like Greece, Spain, and Ireland outright defaulting on its sovereing debt? Will the European Union survive? Will the credit markets end up freezing up like what happened in 2008?

  2. I see several countries defaulting over the next two years. The defaults may have a domino effect and reach beyond those you have mentioned.
    It is certainly possible the EU will not survive the coming crisis in its present form.
    I see an increasing risk of a credit re-freeze in coming months with the growing public debt problems and unrecognized bank write offs.
    I will address some of these issues in a future post.


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