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PBR: Schroder’s Buxton says UK credit downgrade more likely

Schroders head of UK equities Richard Buxton says a downgrade of the UK’s sovereign credit rating is more likely in the wake of today’s pre Budget report.

Buxton says the report was clearly an electoral budget report, with major decisions on spending cuts and tax increases deferred until after the General Election.

He says: “Whilst no increase in this year’s public borrowing requirement is some comfort, the forecast path to gradual deficit reduction has been extended, taking longer and reducing more slowly. This has to increase the chances of the UK’s sovereign credit rating being downgraded.
 
“In turn, this reinforces the probability that Sterling will remain weak and that in the face of heavy gilt issuance gilt yields may rise.”

Buxton says the Bank of England will need to be careful next year as the PBR endorsed its forecast of an inflation hike before falling away again.

He says: “We remain confident that UK interest rates will remain low for most of 2010, but the risks that rising gilt yields and inflation expectations force the MPC’s hand have probably risen.

“Weaker Sterling will clearly be of benefit to many UK companies with extensive overseas businesses. This, coupled with low short rates, should ensure that the UK equity market remains reasonably well underpinned, although volatility is likely to rise.

“Volatility for UK equity investors will increase not least because the electoral battle lines have now been well drawn. The market may well be buffeted in response to every opinion poll movement in the next six months.

“The Government and the Bank of England forecasts for deficit reduction rely on growth expectations in the coming years which we believe to be optimistic.”

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