OVERVIEW
- In the nationwide referendum on the U.K.’s membership of the European
Union (EU), the majority of the electorate voted to leave the EU. In our
opinion, this outcome is a seminal event, and will lead to a less
predictable, stable, and effective policy framework in the U.K. We have
reassessed our view of the U.K.'s institutional assessment and now no
longer consider it a strength in our assessment of the rating.
- The downgrade also reflects the risks of a marked deterioration of
external financing conditions in light of the U.K.’s extremely elevated
level of gross external financing requirements.
- The vote for “remain” in Scotland and Northern Ireland also creates wider
constitutional issues for the country as a whole.
- Consequently, we are lowering our long-term sovereign credit ratings on
the U.K. by two notches to 'AA' from 'AAA'.
- The negative outlook reflects the risk to economic prospects, fiscal and
external performance, and the role of sterling as a reserve currency, as
well as risks to the constitutional and economic integrity of the U.K. if
there is another referendum on Scottish independence.
RATING ACTION
On June 27, 2016, S&P Global Ratings lowered its unsolicited long-term foreign
and local currency sovereign credit ratings on the United Kingdom to 'AA' from
'AAA'. The outlook on the long-term rating is negative. We affirmed the
unsolicited short-term foreign and local currency sovereign credit ratings on
the U.K. at 'A-1+'.
We also lowered to 'AA' from 'AAA' our long-term issuer credit rating on the
Bank of England (BoE) and the ratings on the debt programs of Network Rail
Infrastructure Finance PLC. We affirmed the short-term ratings on the BoE and
Network Rail Infrastructure Finance debt programs at 'A-1+'. The outlook on
the long-term rating on the BoE is negative.
As a "sovereign rating" (as defined in EU CRA Regulation 1060/2009 "EU CRA
Regulation"), the ratings on the United Kingdom, are subject to certain
publication restrictions set out in Art 8a of the EU CRA Regulation, including
publication in accordance with a pre-established calendar (see "Calendar Of
2016 EMEA Sovereign, Regional, And Local GovernmentRating Publication Dates,"
published Dec. 22, 2015, on RatingsDirect). Under the EU CRA Regulation,
deviations from the announced calendar are allowed only in limited
circumstances and must be accompanied by a detailed explanation of the reasons
for the deviation. In this case, the reason for the deviation is the U.K.'s
referendum vote to leave the EU. The next scheduled rating publication on
United Kingdom will be on Oct. 28, 2016.
RATIONALE
The downgrade reflects our view that the “leave” result in the U.K.’s
referendum on the country’s EU membership ("Brexit") will weaken the
predictability, stability, and effectiveness of policymaking in the U.K. and
affect its economy, GDP growth, and fiscal and external balances. We have
revised our view of the U.K.'s institutional assessment and we no longer
consider it to be a strength in our assessment of the U.K.'s key rating
factors. The downgrade also reflects what we consider enhanced risks of a
marked deterioration of external financing conditions in light of the U.K.’s
extremely elevated level of gross external financing requirements (as a share
of current account receipts and usable reserves). The Brexit result could lead
to a deterioration of the U.K.’s economic performance, including its large
financial services sector, which is a major contributor to employment and
public receipts. The result could also trigger a constitutional crisis if it
leads to a second referendum on Scottish independence from the U.K.
We believe that the lack of clarity on these key issues will hurt confidence,
investment, GDP growth, and public finances in the U.K., and put at risk
important external financing sources vital to the financing of the U.K.’s
large current account deficits (in absolute terms, the second-largest globally
behind the U.S.). This includes the wholesale financing of the U.K.’s
commercial banks, about half of which is denominated in foreign currency.
Brexit could also, over time, diminish sterling's role as a global reserve
currency. Uncertainty surrounding possibly long-lasting negotiations around
what form the U.K.’s new relationship with the EU will look like will also
pose risks, possibly leading to delays on capital expenditure in an economy
that already stands out for its low investment/GDP ratio.
Detailed negotiations are set to begin, with a great deal of uncertainty
around what shape the U.K.'s exit will take and when Article 50 of the Lisbon
Treaty will be triggered. While two years may suffice to negotiate a departure
from the EU, it could in our view take much longer to negotiate a successor
treaty that will have to be approved by all 27 national parliaments and the
European parliament and could face referendums in one or more member states.
While some believe the U.K. government can arrive at a beneficial arrangement
with the EU, others take the view that the remaining EU members will have no
incentive to accommodate the U.K. so as to deter other potential departures
and contain the rise of their own national eurosceptic movements.
In particular, it is not clear if the EU--the destination of 44% of the U.K.'s
exports--will permit the U.K. access to the EU’s common market on existing
(tariff-free) terms, or impose tariffs on U.K. products. Future arrangements
regarding the export of services, including by the U.K.’s important financial
services industry, are even more uncertain, in our view. Given that high
immigration was a major motivating issue for Brexit voters, it is also
uncertain whether the U.K. would agree to a trade deal that requires the
country to accept the free movement of labor from the EU. The negotiation
process is therefore fraught with potential challenges and vetoes, making the
outcome unpredictable.
We take the view that the deep divisions both within the ruling Conservative
Party and society as a whole over the European question may not heal quickly
and may hamper government stability and complicate policymaking on economic
and other matters. In addition, we believe that Brexit makes it likely that
the Scottish National Party will demand another referendum on Scottish
independence as the Scottish population was overwhelmingly in favor of
remaining within the EU. This would have consequences for the constitutional
and economic integrity of the U.K. There may be also be similar constitutional
issues around Northern Ireland.
These multiple and significant challenges will likely be very demanding and we
expect them to take precedence over macroeconomic goals, such as maintaining
growth, consolidating public finances, and the importance of finding a
solution to worsening supply bottlenecks in the U.K. economy. Lack of clarity
while negotiations ensue will also significantly deter private investment.
The U.K. benefits from its flexible open economy and, in our view, prospered
as an EU member. We believe that the U.K. economy was able to attract higher
inflows of low-cost capital and skilled labor than it would have without the
preferential access that EU membership delivers. We consider that significant
net immigration into the U.K. over the past decade helped its economic
performance. EU membership also helped enhance London's position as a global
financial center.
We believe that the U.K.'s EU membership, alongside London's importance as a
global financial center, bolstered sterling as a reserve currency. When we
assess the U.K.'s external picture, we incorporate our view that the U.K.
benefits from its reserve currency status. This leads us to make a supportive
external assessment, despite the U.K.'s very large external position in terms
of external liabilities and external debt, on both a net and gross basis.
Under our methodology, were sterling's share of allocated global central bank
foreign currency reserve holdings to decline below 3%, we would no longer
classify it as a reserve currency, and this would negatively affect our
external assessment. Sterling's share was 4.9% in the fourth quarter of 2015,
according to International Monetary Fund data.
Furthermore, since having joined the European Community 43 years ago, the U.K.
has attracted substantial foreign direct investment (FDI), which has helped to
solidify its role as a global financial center. High FDI inflows increased the
capital stock in an economy that is notable for its low investment levels; FDI
was an estimated 18% of GDP in 2015. This underscores the high importance of
FDI inflows for the growth prospects of the U.K. economy.
About two-thirds of all FDI into the U.K. represents investment in the
financial services sector. Most investment into the financial services sector
is channeled into London. The U.K. financial system, measured by total assets,
stands at about 4.5x GDP and foreign banks make up about half of U.K. banking
assets on a residency basis. Foreign branches account for about 30% of total
U.K. resident banking assets. Brexit could lead financial firms, especially
foreign ones, to favor other destinations when making investment decisions.
Net FDI is also a major source of financing for the U.K.'s current account
deficit, which has persisted without interruption since 1984. The current
account deficit exceeded 5% of GDP in both 2014 and 2015. We believe the
“leave” vote will put pressure on sterling and could improve net exports, in
particular by weakening imports as growth decelerates, leading to a faster
narrowing of the current account than if the U.K. had stayed in the EU. For
this reason, we forecast the current account deficit to average 3.4% in
2016-2019 compared to our April forecast of 4.5%, though we would add that
past episodes of sterling weakness largely did not necessarily improve the
U.K.’s merchandise deficit, which last year was 6.7% of GDP. The U.K.’s
services sector ran a net surplus of almost 5% of GDP last year, but to the
extent that financial services may face more difficult access to EU markets
(subject to the outcome of negotiations with the EU), that position may also
worsen.
Nevertheless, we see the U.K.'s high external deficits as a vulnerability, and
we view an EU departure as a risk to financing sources. The U.K.’s gross
external financing needs (as a share of current account receipts and usable
official foreign exchange reserves) is the highest among all 131 sovereigns
rated by S&P Global Ratings. At over 800%, this ratio stands at over twice the
level of the G7 runners-up (U.S. and France are under 320%).
The U.K. economy had been recovering robustly since 2007. Over the past two
years, it has grown faster than any economy in the G7, and faster than almost
all the large European economies, including Germany. However, given the
uncertainty and fall in investment tied to the “leave” vote, we are
forecasting a significant slowdown in 2016-2019, with GDP growth averaging
1.1% per year (compared to our April forecast of 2.1% per year). A fall in
investment will affect growth, job creation, private sector wage growth, and
consumer spending.
At 84% of GDP (2016 estimate), the U.K.'s net general government debt ratio
remains high. Since the 2008 financial shock, fiscal consolidation has been
substantial--primarily in the form of cuts to general government expenditure.
Fiscal consolidation will become harder to achieve given the slower growth, as
well as in the face of rising risks of discretionary fiscal easing to arrest
the economic slowdown. In our opinion, the decision to leave the EU raises
further the fiscal challenges of meeting already ambitious targets, as weaker
consumption and investment, possibly via a correction in the U.K.’s highly
valued housing market, would take a toll on tax receipts. Over the medium
term, a reduction in employment and earnings in the financial services sector
could further undermine public finances. Since Brexit, plans to start the sale
of shares in government-owned banks may have to be postponed owing to economic
uncertainty.
We view the U.K.'s monetary and exchange rate flexibility as a key credit
strength. During the financial crisis, it enabled wages and prices to adjust
rapidly, relative to trading partners, we expect it to provide as rapid an
adjustment again. Exchange rate adjustments can help to broadly maintain
competitiveness. The U.K. authorities have drawn on the flexibility afforded
by its reserve currency, and this has benefited GDP growth and public debt
sustainability, in our view. As mentioned earlier, if the U.K. were to lose
its reserve currency status, we would view this as a significant negative.
Despite the uncertainty around Brexit, we believe that the U.K. will continue
to benefit from its large, diversified, and open economy, which exhibits high
labor- and product-market flexibility, and enjoys credible monetary policy.
Additionally, the U.K. benefits from deep capital markets and a globally
competitive financial sector.
WEBCAST DETAILS
S&P Global Ratings will hold a webcast on Tuesday June 28, 2016, at 2:00 p.m.
GMT / 9:00 a.m. EST, during which senior analysts will discuss the impact of
the referendum vote.
You can register for this webcast by clicking on the link below:
http://event.on24.com/wcc/r/1217054/50797011DA9088CFBDE74625D73D9253
OUTLOOK
The negative outlook reflects the multiple risks emanating from the decision
to leave the EU, exacerbated by what we consider to be reduced capacity to
respond to those risks given what we view as the U.K.’s weaker institutional
capacity for effective, predictable, and stable policymaking.
We could lower the rating should we conclude that sterling will lose its
status as a leading world reserve currency; that public finances will
deteriorate; or that GDP per capita will weaken markedly beyond our current
expectations (see "GDP Per Capita Thresholds For Sovereign Rating Criteria,"
published on Dec. 21, 2015). In addition, we could lower the rating if another
referendum on Scottish independence takes place, or other significant
constitutional issues arise and create further institutional, financial, and
economic uncertainty.
We would revise the outlook to stable if none of the aforementioned negative
developments occur.
KEY STATISTICS
| United Kingdom Selected Indicators |
| |
2010 | 2011 | 2012 | 2013 | 2014 | 2015 | 2016 | 2017 | 2018 | 2019 |
| ECONOMIC INDICATORS (%) |
| Nominal GDP (bil. £) |
1,556 |
1,619 |
1,665 |
1,735 |
1,817 |
1,865 |
1,909 |
1,958 |
2,010 |
2,068 |
| Nominal GDP (bil. $) |
2,404 |
2,595 |
2,630 |
2,712 |
2,990 |
2,849 |
2,531 |
2,522 |
2,676 |
2,753 |
| GDP per capita (000s $) |
38.3 |
41.0 |
41.3 |
42.3 |
46.3 |
43.8 |
38.7 |
38.3 |
40.4 |
41.4 |
| Real GDP growth |
1.5 |
2.0 |
1.2 |
2.2 |
2.9 |
2.3 |
1.5 |
0.9 |
1.0 |
0.9 |
| Real GDP per capita growth |
0.7 |
1.1 |
0.5 |
1.5 |
2.1 |
1.7 |
0.9 |
0.3 |
0.4 |
0.3 |
| Real investment growth |
5.0 |
2.0 |
1.5 |
2.6 |
7.3 |
4.1 |
0.2 |
(1.7) |
(0.1) |
(0.2) |
| Investment/GDP |
16.4 |
16.2 |
16.2 |
16.9 |
17.5 |
17.7 |
17.7 |
17.2 |
17.0 |
16.4 |
| Savings/GDP |
13.6 |
14.5 |
13.0 |
12.4 |
12.4 |
12.6 |
13.0 |
13.8 |
13.9 |
13.7 |
| Exports/GDP |
28.6 |
30.7 |
30.1 |
30.0 |
28.3 |
27.4 |
27.8 |
29.1 |
30.2 |
31.2 |
| Real exports growth |
5.8 |
5.8 |
0.7 |
1.2 |
1.2 |
5.1 |
2.0 |
4.6 |
3.6 |
3.5 |
| Unemployment rate |
7.9 |
8.1 |
8.0 |
7.6 |
6.2 |
5.4 |
5.1 |
5.7 |
6.4 |
6.4 |
| EXTERNAL INDICATORS (%) |
| Current account balance/GDP |
(2.8) |
(1.7) |
(3.3) |
(4.5) |
(5.1) |
(5.2) |
(4.7) |
(3.4) |
(3.0) |
(2.7) |
| Current account balance/CARs |
(6.8) |
(3.8) |
(7.9) |
(11.3) |
(13.7) |
(14.5) |
(12.4) |
(8.8) |
(7.8) |
(6.9) |
| Trade balance/GDP |
(6.3) |
(5.8) |
(6.4) |
(6.6) |
(6.8) |
(6.7) |
(7.0) |
(6.4) |
(6.1) |
(5.0) |
| Net FDI/GDP |
0.4 |
(2.1) |
1.3 |
2.4 |
4.5 |
3.5 |
4.0 |
1.5 |
1.5 |
1.5 |
| Net portfolio equity inflow/GDP |
(2.3) |
0.6 |
(3.4) |
3.1 |
2.9 |
4.8 |
1.0 |
1.0 |
1.0 |
1.0 |
| Gross external financing needs/CARs plus usable reserves |
909.8 |
841.2 |
922.8 |
898.0 |
835.5 |
894.2 |
805.7 |
787.8 |
783.3 |
788.2 |
| Narrow net external debt/CARs |
457.7 |
419.2 |
451.4 |
483.5 |
486.6 |
449.9 |
469.7 |
496.4 |
424.5 |
394.5 |
| Net external liabilities/CARs |
20.1 |
16.4 |
50.1 |
37.1 |
60.5 |
9.5 |
(2.4) |
46.1 |
69.2 |
92.8 |
| Short-term external debt by remaining maturity/CARs |
864.6 |
797.8 |
895.1 |
874.0 |
800.2 |
874.6 |
803.7 |
787.2 |
765.1 |
760.7 |
| Reserves/CAPs (months) |
0.8 |
0.8 |
1.0 |
1.0 |
1.0 |
1.1 |
1.5 |
1.5 |
1.3 |
1.1 |
| FISCAL INDICATORS (%, General government) |
| Balance/GDP |
(9.6) |
(7.7) |
(8.3) |
(5.6) |
(5.6) |
(4.4) |
(3.3) |
(3.0) |
(2.7) |
(2.5) |
| Change in debt/GDP |
13.8 |
8.2 |
5.8 |
4.3 |
5.8 |
3.3 |
3.0 |
2.8 |
2.5 |
2.3 |
| Primary balance/GDP |
(6.8) |
(4.6) |
(5.4) |
(2.8) |
(2.9) |
(2.1) |
(0.7) |
(0.4) |
0.0 |
0.3 |
| Revenue/GDP |
39.1 |
39.3 |
38.5 |
39.3 |
38.3 |
38.8 |
38.6 |
38.7 |
38.7 |
38.7 |
| Expenditures/GDP |
48.8 |
46.9 |
46.8 |
45.0 |
43.9 |
43.2 |
41.9 |
41.7 |
41.4 |
41.3 |
| Interest /revenues |
7.2 |
7.9 |
7.3 |
7.1 |
7.0 |
6.0 |
6.8 |
6.8 |
7.1 |
7.3 |
| Debt/GDP |
76.6 |
81.8 |
85.3 |
86.2 |
88.2 |
89.2 |
90.2 |
90.7 |
90.8 |
90.5 |
| Debt/Revenue |
195.6 |
208.3 |
221.6 |
219.2 |
230.3 |
229.7 |
233.6 |
234.3 |
234.6 |
233.6 |
| Net debt/GDP |
71.0 |
74.9 |
78.7 |
79.5 |
81.7 |
83.5 |
84.4 |
84.9 |
85.0 |
84.7 |
| Liquid assets/GDP |
5.6 |
6.8 |
6.6 |
6.7 |
6.5 |
5.7 |
5.7 |
5.8 |
5.8 |
5.8 |
| MONETARY INDICATORS (%) |
| CPI growth |
3.2 |
4.5 |
2.9 |
2.5 |
1.5 |
0.0 |
0.9 |
2.2 |
1.7 |
1.9 |
| GDP deflator growth |
3.1 |
2.1 |
1.6 |
2.0 |
1.8 |
0.3 |
0.9 |
1.6 |
1.7 |
1.9 |
| Exchange rate, year-end (LC/$) |
0.6 |
0.6 |
0.6 |
0.6 |
0.6 |
0.7 |
0.8 |
0.8 |
0.7 |
0.7 |
| Banks' claims on resident non-gov't sector growth |
(0.4) |
(4.7) |
(2.7) |
(3.3) |
(5.2) |
(0.6) |
2.0 |
3.0 |
3.0 |
3.0 |
| Banks' claims on resident non-gov't sector/GDP |
191.6 |
175.4 |
165.9 |
154.0 |
139.3 |
134.9 |
134.4 |
135.0 |
135.4 |
135.6 |
| Foreign currency share of claims by banks on residents |
27.4 |
27.0 |
26.1 |
25.9 |
24.6 |
23.8 |
25.0 |
25.0 |
25.0 |
25.0 |
| Foreign currency share of residents' bank deposits |
55.6 |
57.2 |
54.5 |
51.8 |
54.0 |
52.6 |
54.0 |
54.0 |
54.0 |
54.0 |
| Real effective exchange rate growth |
7.1 |
0.7 |
4.0 |
(3.4) |
5.6 |
7.0 |
N/A |
N/A |
N/A |
N/A |
RATINGS SCORE SNAPSHOT
| United Kingdom Ratings Score Snapshot |
| Key rating factors | |
| Institutional assessment |
Neutral |
| Economic assessment |
Strong |
| External assessment |
Neutral |
| Fiscal assessment: flexibility and performance |
Neutral |
| Fiscal assessment: debt burden |
Weakness |
| Monetary assessment |
Strong |
RELATED CRITERIA AND RESEARCH
Related Criteria
- Criteria - Governments - Sovereigns: Sovereign Rating Methodology -
December 23, 2014
- General Criteria: Methodology: Timeliness Of Payments: Grace Periods,
Guarantees, And Use Of 'D' And 'SD' Ratings - October 24, 2013
- General Criteria: Methodology For Linking Short-Term And Long-Term Ratings
For Corporate, Insurance, And Sovereign Issuers - May 07, 2013
- Criteria - Governments - Sovereigns: Methodology: Rating Partially
Guaranteed Sovereign Debt - May 06, 2013
- General Criteria: Use Of CreditWatch And Outlooks - September 14, 2009
- General Criteria: Methodology: Criteria For Determining Transfer And
Convertibility Assessments - May 18, 2009
- General Criteria: Rating Sovereign-Guaranteed Debt - April 06, 2009
Related Research
In accordance with our relevant policies and procedures, the Rating Committee
was composed of analysts that are qualified to vote in the committee, with
sufficient experience to convey the appropriate level of knowledge and
understanding of the methodology applicable (see 'Related Criteria And
Research'). At the onset of the committee, the chair confirmed that the
information provided to the Rating Committee by the primary analyst had been
distributed in a timely manner and was sufficient for Committee members to
make an informed decision.
After the primary analyst gave opening remarks and explained the
recommendation, the Committee discussed key rating factors and critical issues
in accordance with the relevant criteria. Qualitative and quantitative risk
factors were considered and discussed, looking at track-record and forecasts.
The committee decided that the institutional and external assessments had
weakened, and that all other key rating factors were unchanged.
The chair ensured every voting member was given the opportunity to articulate
his/her opinion. The chair or designee reviewed the draft report to ensure
consistency with the Committee decision. The views and the decision of the
rating committee are summarized in the above rationale and outlook. The
weighting of all rating factors is described in the methodology used in this
rating action (see 'Related Criteria and Research').
RATINGS LIST
Rating
To From
United Kingdom
Sovereign Credit Rating
Foreign and Local Currency |U~ AA/Negative/A-1+ AAA/Negative/A-1+
Transfer & Convertibility
Assessment |U~ AAA AAA
Senior Secured
Local Currency [#1] AA AAA
Local Currency [#2] AA AAA
Senior Unsecured
Foreign and Local Currency [#3] AA AAA
Foreign and Local Currency [#4] AA AAA
Local Currency [#5] AA AAA
Bank of England
Sovereign Credit Rating
Foreign and Local Currency AA/Negative/A-1+ AAA/Negative/A-1+
Senior Unsecured
Foreign and Local Currency AA AAA
Short-Term Debt
Foreign and Local Currency A-1+ A-1+
CTRL Section 1 Finance PLC
Senior Secured
Local Currency[1] AA AAA
LCR Finance PLC
Senior Unsecured
Local Currency[1] AA AAA
Network Rail Infrastructure Finance PLC
Senior Secured
Foreign and Local Currency[1] AA AAA
Commercial Paper
Local Currency[1] A-1+ A-1+
|U~ Unsolicited ratings with no issuer participation and/or no access to
internal documents.
[1] Dependent Participant(s): United Kingdom
[#1] Issuer: Affordable Housing Finance PLC, OBLIGOR: United Kingdom
[#2] Issuer: Affordable Housing Finance PLC, BANKACCT: Barclays Bank PLC,
Guarantor: United Kingdom
[#3] Issuer: Barclays Bank PLC, Issuer: Barclays PLC, Guarantor: United
Kingdom
[#4] Issuer: Lloyds Bank PLC, Guarantor: United Kingdom
[#5] Issuer: Barclays Bank PLC, Guarantor: United Kingdom
Samuel Tilleray and Ekta Bhayani contributed research assistance to this
report.
This unsolicited rating(s) was initiated by a party other than the Issuer (as
defined in S&P Global Ratings' policies). It may be based solely on publicly
available information and may or may not involve the participation of the
Issuer and/or access to the Issuer's internal documents. S&P Global Ratings
has used information from sources believed to be reliable based on standards
established in our policies and procedures, but does not guarantee the
accuracy, adequacy, or completeness of any information used.
Certain terms used in this report, particularly certain adjectives used to
express our view on rating relevant factors, have specific meanings ascribed
to them in our criteria, and should therefore be read in conjunction with such
criteria. Please see Ratings Criteria at www.standardandpoors.com for further
information. Complete ratings information is available to subscribers of
RatingsDirect at www.globalcreditportal.com and at spcapitaliq.com. All
ratings affected by this rating action can be found on S&P Global Ratings'
public Web site at www.standardandpoors.com. Use the Ratings search box
located in the left column. Alternatively, call one of the following S&P
Global Ratings numbers: Client Support Europe (44) 20-7176-7176; London Press
Office (44) 20-7176-3605; Paris (33) 1-4420-6708; Frankfurt (49)
69-33-999-225; Stockholm (46) 8-440-5914; or Moscow 7 (495) 783-4009.
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