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The UK is expected to keep its AAA rating so long as the Government delivers on the Budget.
The measures in the emergency Budget have been largely welcomed by the City.
The debt-reduction strategy projects cutting the deficit to 2.1 per cent of GDP by 2014/15. The previous Government’s aim was to reduce it to 4 per cent by that time.
There are plans to tackle net debt to GDP ratio, set to peak in 2013/14 at 70.3 per cent, having been 53.5 per cent last year. Net debt to GDP is expected to fall below 70 per cent in 2014/15.
Rating agency Fitch says the Budget will bolster the UK’s AAA rating, which has been “materially stronger than that set out in the March 2010 Budget”. Labelling the Budget a “strong statement of intent”, Fitch feels the AAA status will be sustained in the UK if the Government can implement these measures.
Fitch head of sovereign ratings David Riley says if the plan is delivered it will strengthen confidence in the rating and in UK public finances as a whole but he warns that public spending may be tough to carry out.
He says: “Securing the reductions in unprotected departmental and welfare spending will be very challenging and the spending review announced for October 2010 will be important in detailing and enhancing the credibility of the Budget announcement.”
Moody’s Investor Service says the target for net debt of around 70 per cent of GDP by 2013/14 is better than it had initially envisaged.
It says: “This would - if achieved - ensure that in all but the most extreme interest-rate scenarios, UK debt affordability will remain consistent with an AAA rating.”
But Moody’s also expects there will be issues with implementing the measures. “The rapid fiscal consolidation will have a strong negative impact on domestic demand, which is assumed to be offset by robust growth in net exports and a decline in private sector net savings.”
Standard & Poor’s, which has placed the UK on a “negative outlook”, says it is reviewing its position.
M&G head of retail fixed income Jim Leaviss says the reduction in spending and raising of taxes is a strategy that other AAA-rated countries, such as France and the US, have not adopted out of fear it would stem recovery.
He says: “The strict cuts are necessary for the good of the UK economy but will put added pressure on people’s spending and growth. The Budget will lead to a UK fiscal contraction bigger than any we have seen in our lifetime.
“Given the high levels of austerity, there is certainly a risk of lower levels of growth compared to other areas of the world and a double-dip recession is not out of the question.”
The Debt Management Office decided to cut its gilt issuance for this year from £185bn to £165bn. Last year, it sold £227bn.
Henderson head of retail fixed income John Pattullo says the market has rallied on the news, as have all global bond markets due to the recent equity falls.
He says: “This Budget is radical and necessary and for it to work we must replace a shrinking Gov-ernment sector with exports. Weak sterling is good for exports but we need growth from the countries we export to. That is the gamble.”
Ignis Asset Management chief economist Stuart Thomson says the rating agencies will reserve their positions until the spending cuts are detailed on October 20.
He says: “The rating agencies have endorsed the Budget but it would be mad for them to give the all-clear. The balance between Labour’s 80/20 ratio of spending cuts to tax rises compared with the Conservatives’ 70/30, has resulted in a compromise Budget the Liberal Democrats will be happy with but it has a lot of execution risk. It will be interesting to see if all 57 LibDem MPs vote in favour of the Budget.”
Thomson believes the Office for Budget Responsibility has been too optimistic on its forecasts for growth.
Chancellor George Osborne says GDP growth this year is set to be 1.2 per cent, rising to 2.3 per cent in 2011 and 2.8 per cent in 2012.
However, Thomson says it is likely to be nearer 1.5 per cent next year.
He argues that a squeeze on real disposable income will dampen consumer spending and does not expect to see the export recovery predicted by the OBR, saying that indicators show global growth has peaked and will slow sharply next year.
He says: “Medium-dated forward gilt yields are also more than 5 per cent, which does not support or justify the OBR’s expect-ation of strong business investment growth.”
Schroders European economist Azad Zangana says: “We are revising down our 2011 GDP forecast from 2.4 to 2.3 per cent but we have left our 2010 forecast at 1.3 per cent. However, our prediction for 2012 is 2.1 per cent, compared to the OBR’s 2.8 per cent. We think the longerterm OBR forecast looks optimistic.”
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