Ratings agencies are clearly overrated

Last week’s announcement by the ratings agency, Fitch, that it was putting the UK’s credit rating on a “negative outlook”, should be taken with a large dose of salt.

The mess that is the sovereign ratings space can be summed up by one incidence. Last year the US lost its AAA credit rating. And yet, places like the UK, Germany and Singapore have been able to keep hold of theirs. The US prints the world’s reserve currency and is the largest and richest economy the world has ever seen. If they do not deserve an AAA rating then nobody does.

Be that as it may, the political ramifications of a downgrade are likely to be a lot worse than any of the economic implications.

Q4 of this year will be the most politically volatile quarter of the entire financial crisis to date. Obviously the American Presidential election is the grandstand event, but other, arguably more important events, are also occurring. Most people in the markets believe that an Obama win is a virtual certainty.

However, the real problem coming out of the US is the “fiscal cliff” – a combination of huge spending cuts and the expiration of tax cuts – which is expected to reduce US growth by as much as 3% in 2013, if it’s allowed to happen. It doesn’t have to happen of course, but if Congress is not able to reach an agreement to delay then it will during Q4.

The fact is that the Congress will be a lame duck by then. Some representatives and senators will have lost their seats and therefore lose bargaining power, and here lies the problem. Idealism held the Congress to ransom in the debt ceiling negotiations last year, triggering talk about the “fiscal cliff” and a similar thing could happen again. This is the greatest “tail risk” to markets at the moment.

In Europe, it seems that every weekend we see further anti-austerity protests in the periphery. The volume of these will only increase the longer growth remains a memory and joblessness a way of life. The next elections in Europe are right at the heart of the continent’s issues with first Italy and then Germany taking to the polls in the next 12 months.

While there have not been protests in this part of the world (yet), the gathering voices of dissent elsewhere have already toppled governments and there’s no reason to suggest the same won’t happen again.

Protests here in the UK have been few and far between since the major ones surrounding tuition fees. In fact, the political dangers in the UK emanate from within the ruling coalition government. Chancellor George Osborne’s dedication to keeping the UK’s credit rating is a misguided ambition at best and, following a 2012 characterised by sluggish economic performance, his star is already starting to fall.

So, while a downgrade of the UK’s credit rating might well constitute a bad day for the men in Westminster, recent events elsewhere suggest it would have very little effect on the fundamentals of UK financing.

Jeremy Cook is chief economist at World First foreign exchange