DBRS Confirms United Kingdom at AAA with Stable trend

DBRS Ratings Limited (DBRS) has confirmed the long-term foreign and local currency ratings for the United Kingdom of Great Britain and Northern Ireland (the UK) at AAA, and the short-term foreign and local currency ratings at R-1 (high). The trend on all ratings remains Stable.

The ratings are underpinned by the country’s large and advanced economy, its institutional strength, and a very favourable maturity structure in public debt, which mitigates the risks arising from its high public debt ratio. The UK’s deep domestic capital market and the Sterling’s status as reserve currency provide the sovereign with substantial funding flexibility.

The Stable trend reflects DBRS’s assessment that the challenges the UK faces are manageable given its strong policy framework and solid economic performance. The ratings could be subject to downward pressure if economic and financial dislocations were to impair the UK’s economic prospects or result in a severe deterioration in the banking sector or the fiscal position. Such dislocation could emerge from the uncertainty surrounding the UK’s referendum on European Union (EU) membership, or the outcome of the referendum. While a vote in favour of leaving the EU would not necessarily lead to downward pressures on the rating, there is a potential for a negative impact on the UK’s investment, trade and political environment.

The ratings for the UK are primarily supported by its advanced economy, which is among the largest and most diversified in the world. The UK exhibits important advantages over some of the large Eurozone countries in terms of labour market flexibility, exchange rate flexibility, and the effectiveness of monetary policy. These factors have contributed to stronger output growth, which has outpaced most of the Group of Seven (G7) economies since 2013. Real GDP growth is estimated to have moderated in 2015 but to a still-healthy 2.5%, after 2.9% in 2014, while the unemployment rate has declined 5.2% in September 2015, from 8.5% in October 2011.

The high quality and stability of UK institutions is another major credit strength. The country ranks highly in the World Bank governance indicators and is 6th in the world in the 2016 World Bank’s Ease of Doing Business Index. This institutional strength supports its attractive investment environment and reflects a high level of transparency, strong regulatory environment, and a solid legal framework. The UK has a credible central bank that has acted timely according to its mandate, a sound fiscal framework, and an enhanced financial supervision structure.

The ratings are further supported by the very favourable maturity structure of public debt. The average maturity of the public debt stock, at over 16 years, is the longest among advanced economies. This debt maturity profile significantly eases short-term refinancing requirements.

Sterling’s status as a secondary reserve currency and a large domestic debt market adds to the UK’s funding flexibility. Combined with ongoing fiscal consolidation and a favourable growth outlook, this reduces the risks stemming from a high public debt. The general government deficit (Maastricht basis) has more than halved since 2009-2010 to 5.1% of GDP in fiscal year 2014-2015, and is projected to shift to a small surplus of 0.3% by 2019-2020.

Notwithstanding strong economic performance and progress in fiscal consolidation, the UK faces some credit challenges. Firstly, general government gross debt remains high. The Office for Budget Responsibility estimates that government debt peaked at 87.5% of GDP in 2014-2015 and will gradually decline to 79.2% by 2019-2020. A high government debt ratio limits the government’s fiscal flexibility to respond to economic downturns, while the need for continued fiscal consolidation acts as a drag on growth.

The referendum on whether the UK should remain in the EU, expected to be held before the end of 2017 but which could be brought forward to 2016, has also added an element of uncertainty to macroeconomic and financial stability. Moreover, in the event of a UK withdrawal from the EU, the consequences could be significant. Nevertheless, given the strong trade links between the UK and the EU, and the UK’s important role in the EU in terms of the size of its economy (14% of EU GDP), DBRS expects the UK and the EU to agree on some key policy areas ahead of the referendum. DBRS also believes that there are incentives on both parties to avoid economic and financial dislocations. However, uncertainty associated with the referendum, or an unfavourable new arrangement for the UK after the referendum could adversely affect business investment, trade and the political environment, with potential negative implications for DBRS’s sovereign ratings on the UK.

Finally, another credit challenge is a relatively weak external position. The current account deficit widened to 5.1% of GDP in 2014 and is estimated to have remained above 4% in 2015. While the large goods trade deficit continues to account for most of the external imbalance, the recent deterioration in the current account deficit reflects the decline in income from overseas investment. At the same time, the UK’s net external liability position has deteriorated, reaching 24% of GDP in 2014, up from an average of just over 11% in 2004-2013. The resulting exposure to external financing is, nevertheless, mitigated by steady long-term capital inflows.

Notes:
All figures are in pounds sterling (GBP) unless otherwise noted.

The principal applicable methodology is Rating Sovereign Governments, which can be found on the DBRS website under Methodologies. The principal applicable rating policies are Commercial Paper and Short-Term Debt, and Short-Term and Long-Term Rating Relationships, which can be found on our website under Rating Scales.

These can be found on www.dbrs.com at: http://www.dbrs.com/about/methodologies

The sources of information used for this rating include HM or Her Majesty’s Treasury, Bank of England, Debt Management Office, Office for National Statistics, Office for Budget Responsibility, European Commission, Eurostat, European Central Bank, IMF, OECD, BIS, Bloomberg, and Haver Analytics. DBRS considers the information available to it for the purposes of providing this rating was of satisfactory quality.

DBRS does not audit the information it receives in connection with the rating process, and it does not and cannot independently verify that information in every instance.

Information regarding DBRS ratings, including definitions, policies and methodologies are available on www.dbrs.com.

This is an unsolicited credit rating. This credit rating was not initiated at the request of the issuer.

Generally, the conditions that lead to the assignment of a Negative or Positive Trend are resolved within a twelve month period, while reviews are generally resolved within 90 days. DBRS’s outlooks and ratings are under regular surveillance.

For additional information on this rating, please refer to the linking document under Related Research.

For further information on DBRS historic default rates published by the European Securities and Markets Administration (“ESMA”) in a central repository, see:
http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml.

Ratings assigned by DBRS Ratings Limited are subject to EU regulations only.

DBRS does not typically accept editorial changes other than to correct for factual, accuracy and/or to remove confidential, material non-public, or sensitive information that might otherwise be inadvertently disclosed.

Lead Analyst: Adriana Alvarado, Assistant Vice President
Rating Committee Chair: Roger Lister, Managing Director, Chief Credit Officer
Initial Rating Date: 19 July 2010
Most Recent Rating Update: 10 July 2015

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