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United Kingdom 'AAA/A-1+' Ratings Affirmed; Outlook Remains Stable

Publication date: 27-Jul-2012 22:31:21 BST

  • We project that, despite recent weakness, the U.K. economy should begin to recover in the second half of 2012 and steadily strengthen, and we expect economic policy to continue focusing on closing the fiscal gap.
  • In our view, monetary flexibility remains a key credit strength owing to the British pound sterling's role as a global reserve currency.
  • We are affirming our 'AAA/A-1+' long- and short-term unsolicited sovereign credit ratings on the U.K.
  • The stable outlook reflects our expectation that the U.K. government will implement the bulk of its fiscal consolidation program and that the economy should recover in the remainder of 2012 and strengthen thereafter.
LONDON (Standard & Poor's) July 27, 2012--Standard & Poor's Ratings Services 
today said it affirmed its 'AAA' long-term and 'A-1+' short-term unsolicited 
sovereign credit ratings on the United Kingdom. The outlook remains stable. 
The transfer and convertibility (T&C) assessment on the U.K. remains at 'AAA'. 

Our view of the U.K.'s wealthy and diverse economy, fiscal and monetary policy 
flexibility, and adaptable product and labor markets support our unsolicited 
ratings on the sovereign. In our opinion, the U.K. government remains 
committed to implementing its fiscal program, and we believe it can respond 
rapidly to economic challenges. We also view the U.K. as having deep capital 
markets with strong demand for long-dated government bonds (gilts) by both 
domestic and nonresident institutional investors. The market-value weighted 
average maturity of U.K. government debt is more than 14 years, which helps 
contain the government's annual public gross borrowing needs compared with 
those of peers.

We also expect that the Bank of England (BoE)'s monetary policy, which we view 
as highly accommodative, will help keep the government's borrowing costs in 
check. The BoE's monetary policy includes its Asset Purchases Facility, under 
which a total of £375 billion in gilts will have been purchased between March 
2009 and November 2012. 

In early 2012, the U.K. economy fell back into recession--the economy 
contracted in three consecutive quarters starting in fourth-quarter 
2011--following tepid growth in the preceding two years. As a result, output 
in real terms remains roughly 4.5% below its pre-crisis peak. 

We currently expect real GDP growth to begin to recover in the second half of 
2012 and to strengthen steadily thereafter. We base our projections on the 
government's current fiscal consolidation plans, an assessment of recently 
introduced measures designed to support and shield the economy, and the 
assumption that the eurozone will stabilize. We acknowledge the downside risks 
associated with these projections. For example, the fiscal framework allows 
automatic stabilizers to operate, which means that a reversal in the recent 
decline in unemployment would likely slow the pace of fiscal consolidation. 
Similarly, sluggish nominal wage growth and a high--albeit 
falling--private-sector debt burden will restrain household spending, which 
contributes about two-thirds to GDP. Finally, because private domestic demand 
is subdued, corporate investment is unlikely to recover strongly until the 
external environment stabilizes--the euro area accounts for nearly half of the 
U.K.'s overall trade.

Nevertheless, we believe that the U.K. economy's capacity to absorb shocks has 
improved. Household savings have increased and large corporations have 
accumulated substantial cash holdings. In addition, the authorities have 
introduced a series of measures to support the economy, including the Funding 
for Lending Scheme, further quantitative easing, and the Extended Collateral 
Term Repo (ECTR) facility. In our opinion, these should help to keep 
private-sector borrowing costs low, ensure a steady supply of credit in the 
event of further stress in the international capital markets, and maintain a 
competitive exchange rate. The latter would help to increase the share of 
exports in GDP, a shift that the global slowdown has recently interrupted.

The government's fiscal aim is to balance the cyclically adjusted current 
budget (which excludes the cyclical deficit and investment spending) by the 
end of a rolling five years--currently fiscal 2016/2017. A supplementary 
target is to have public-sector net debt falling as a percentage of GDP in 
fiscal year 2015/2016. By 2011/2012, the government has achieved almost 40% of 
the annual fiscal consolidation laid out in the Spending Review 2010 (mainly 
on the revenue side), and it is going to continue its focus on expenditure 
measures for the remainder of the fiscal cycle. We currently expect that the 
coalition government's consensus on fiscal policy will hold and that the 
government will implement the measures specified in its fiscal consolidation 
program to achieve the targeted savings. 

We forecast a general government deficit of nearly 4.0% of GDP in 
calendar-year 2015, down from an estimated 6.8% in 2012, using the 
accruals-based European (ESA 95) accounting standard, compared with the 
government's 2.9% projection for fiscal 2015/2016. Our higher estimates 
largely reflect our view that economic growth will likely be lower than what 
the Office for Budgetary Responsibility (OBR) has forecasted. We expect the 
general government net debt burden to remain at nearly 92% of GDP in 2014 and 
2015, owing to our assumption of slightly slower fiscal consolidation, before 
gradually declining. 

Notwithstanding domestic banks' declining net interest margins and potential 
prolonged litigation and customer redress risk, we have not changed our 
assessment of the British banking system, which we rank in BICRA group '3' 
(see "Banking Industry Country Risk Assessment: U.K.," published Jan. 27, 
2012). U.K. banks continue to be focused on building capital buffers, 
generally by shedding risk-weighted assets and muted new lending, rather than 
by raising capital. This deleveraging will continue to create headwinds for 
the economy, although the Funding for Lending Scheme could counter these 
issues. We note that banks have improved their funding and liquidity profiles, 
as demonstrated by higher levels of customer deposits, flat-to-declining loan 
books, reduced absolute levels of wholesale funding with a longer maturity 
profile, and higher coverage of short-term wholesale funding by primary liquid 
assets. Nevertheless, the sheer size of the domestic financial system and its 
external exposure weigh on our appraisal of the U.K.'s fiscal debt position.

The stable outlook reflects our expectation that the government will continue 
to consolidate public finances, enabling net general government debt as a 
percentage of GDP to stabilize by 2014 (and remain at a similar level in 2015 
before declining), and that an economic recovery will begin to gain traction. 
It also reflects our view that governance issues with specific institutions, 
changes in EU-wide bank or tax policy, or greater financial stress in the 
eurozone will not affect London's position as a preeminent financial center.

We could lower the ratings in particular if the pace and extent of fiscal 
consolidation slows beyond what we currently expect. This could stem from a 
reappraisal of our view of the government's ability to implement its fiscal 
strategy or from significantly weaker economic growth than we currently 

This unsolicited rating(s) was initiated by Standard & Poor's. It may be based 
solely on publicly available information and may or may not involve the 
participation of the issuer. Standard & Poor's has used information from 
sources believed to be reliable based on standards established in our Credit 
Ratings Information and Data Policy but does not guarantee the accuracy, 
adequacy, or completeness of any information used.
Complete ratings information is available to subscribers of RatingsDirect on 
the Global Credit Portal at All ratings affected 
by this rating action can be found on Standard & Poor's public Web site at Use the Ratings search box located in the left 
column.  Alternatively, call one of the following Standard & Poor's 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.
Primary Credit Analyst:Leila N Butt, London (44) 20-7176-2138;
Secondary Contact:Frank Gill, London (44) 20-7176-7129;
Additional Contact:Sovereign Ratings;

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